Goldman Sachs Estimates Public Pensions Now Less than 60% Funded on Average

Average funding ratios for public pension funds have declined to 60% and below, down from 74% before the crisis, according to Goldman Sachs Senior Pension Strategist Michael Moran.

In an interview with Yahoo Finance, Moran discussed the most prominent issue pension funds will face: hitting their return targets. Usually set at about 7%, today’s extremely low interest rates will make that all the more difficult to attain in the future.

“What potentially changes [with public pension funds] is how they think about asset allocation and liquidity going forward,” Moran said. “Many of these plans have a 6.5% to 7% nominal return target, and I think many of them are questioning, ‘How do I hit that target in an environment where 30-year Treasury bond yields are below 1.5%.’”

“It just becomes more challenging and I think they’ll have to become more nimble, more tactical, certainly many of them have moved to alternatives over the past number of years, and I think that just accelerates going forward,” he said.

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Hitting their return targets becomes even more difficult to achieve as local governments restrict their spending as a result of constrained budgets, which mean less money being funneled into the pension plans they’re associated with.

“A big issue for the public sector is not just what’s going on with their asset portfolios … [but also] what’s going on with state and local finances,” Moran said. “Because, as we have a recession, as state revenues decline, their ability to fund their pensions becomes a lot more challenged.”

The fiscal distress facing these local governments will make it more difficult for pensions to stay solvent, as it had in the past, Moran explained.

“Our work would indicate that coming into the year, public pensions were in aggregate funded about 72-73%, that has now dropped to below 60%,” he said.

“When we look at previous recessions—the period after September 11, or the period after the global financial crisis, for several years, many state and local governments under-contributed to their plans because they had budgetary stress and I think that’s going to be a key concern going forward,” he explained. “Their ability to make contributions, not just in 2020, but really over the next couple of years.”

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Tags: Asset Management, Funding, Goldman Sachs, Insolvency, public pension funds, solvency

Despite a strong monthly investment gain of 3.93%, the 100 largest US corporate defined benefit (DB) pension plans saw their funding ratios decline in April to 84% from 86.3% thanks to falling discount rates, according to actuarial and consulting firm Milliman.

The funded status of the plans as measured by the Milliman 100 Pension Funding Index (PFI) worsened by $58 billion and the deficit grew to $299 billion from $241 billion at the end of March, due to the benchmark corporate bond interest rates used to value pension liabilities tumbling 47 basis points (bps) to 2.92% from 3.39% during the month.

“That familiar antagonist—low discount rates—has struck corporate pensions again in April, eroding any market rebound pensions might have experienced,” Zorast Wadia, author of the Milliman 100 PFI, said in a release.

The robust monthly investment gain increased the aggregate asset value of the plans by $55 billion to $1.571 trillion at the end of April. The rate of return easily outpaced the monthly median expected investment return during 2019 of 0.53%. Meanwhile, the projected benefit obligation increased by $113 billion during April to $1.870 trillion as a result of the falling monthly discount rate.

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Over the 12 months from May 2019 to the end of April 2020, the cumulative asset gain for the plans was 5.49%, while the Milliman 100 PFI funded status deficit grew by $159 billion. The worsening of the funded status deficit over that time is also attributed to the decline in discount rates over the past 12 months. During that period, discount rates decreased to 2.92% as of the end of April from 3.85% at the same time last year. During that time, the funded ratio of the plans decreased sharply to 84.0% from 91.7%.

Milliman said that if the 100 companies in its index were to achieve the expected 6.5% median asset return per the 2020 Pension Funding Study, and if the current discount rate of 2.92% was maintained through 2021, the funded ratio of the plans would increase to 86% by the end of 2020 and 89.6% by the end of 2021. For purposes of the forecast, Milliman assumed 2020 and 2021 aggregate annual contributions of $40 billion and $50 billion, respectively.

Under an optimistic forecast that has the discount rate rebounding to 3.32% by the end of 2020 and 3.92% by the end of 2021, with strong annual asset returns of 10.5%, the funded ratio would surge to 93% by the end of 2020 and 109% by the end of 2021. However, under a pessimistic forecast that has rates falling further to 2.52% at the end of 2020 and 1.92% by the end of 2021, with tepid 2.5% annual returns, the funded ratio would drop to 79% by the end of 2020 and 73% by the end of 2021.

Milliman also reported that the estimated cost to transfer retiree pension risk to an insurer decreased slightly to 105.5% of a plan’s total liabilities from 105.7% of those liabilities during April. This means the estimated retiree pension risk transfer (PRT) cost for the month was 5.5% more than those plans’ retiree accumulated benefit obligation. The decrease was attributed to discount rates dropping faster than annuity purchase rates, which led to the relative cost of annuities declining slightly.

“Annuity purchase rates steadily decreased in January and February, increased 71 basis points during March and then dropped again by 51 basis points in April,” said Mary Leong, a consulting actuary with Milliman. “Overall, the recent swing in rates has shown the volatility in interest rates as we continue to track annuity retiree buyout costs each month.”