Russell: Pension Liabilities Outpaced Assets in 2011

Liabilities have outpaced the growth in assets for the sixteen publicly listed US corporations with pension liabilities over $20 billion, research by Russell Investments has shown.

(February 29, 2012) — While asset returns were positive in 2011, liabilities still outpaced the growth in assets for the publicly listed corporations in the United States with pension liabilities over $20 billion, according to an analysis by Russell Investments.

According to the firm, the “$20 billion club” — a group that represents nearly 40% of the pension assets and liabilities of all US-listed corporations — now has a combined shortfall of worldwide pension assets below liabilities of $173 billion on their balance sheets, up from $121 billion last year. In other words, the analysis showed that pension liabilities grew faster than assets in 2011, and cash contributions have continued to rise.

“When combined, the $20 billion club represents more than three quarters of a trillion dollars in pension liabilities, so it is a good guide to what is happening in the system as a whole. Even though corporations are taking steps to close their pension deficits, falling interest rates in 2011 meant that just about everyone’s position deteriorated,” said Bob Collie, chief research strategist at Russell Investments, in a statement.

He added: “Pension risk matters a great deal. Both interest rates and asset values can change quickly, so it’s a very fluid situation. But unless market conditions prove exceptionally favorable, we are likely to see sponsoring corporations continuing to make significant contributions for several years to come.”

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The solution to rising shortfalls for pensions worldwide, according to Russell: De-risking, diversifying, and focusing on total portfolio outcomes via multi-asset portfolios.

To help ameliorate the shortfall, the firm foresees rising cash contributions in the years ahead — with the total contributions made by these 16 corporations over the next seven years expected to be close to $250 billion.

Expecting higher contributions by plan sponsors in the years ahead, Collie warned investors earlier this month to beware of ‘crowded trades.’ As a result of institutional investors putting more and more money into the market at the same time, investors should be aware of the danger of such trades distorting the market as investors try to buy and sell simultaneously, Collie told aiCIO. “Overall, the general need for higher contributions among plan sponsors is not surprising as many factors have aligned,” he said, citing falling interest rates, higher liabilities, and the Pension Protection Act’s (PPA) redefinition of shortfall requirements.

“Perhaps the single most important factor is the way that the PPA has redefined how plan sponsors must make up a shortfall. When there’s a shortfall, the PPA now says plan sponsors have seven years to make it up. Previously it was roughly double that. So it means contributions are now much more responsive to changes in the market situation,” Collie said.

Russell’s research follows a report released in December by Mercer that showed the outlook for 2012 pension plan contributions and expense is bleak. “Even though discount rates moved somewhat higher during November, they are likely to be in excess of 40 basis points lower at the end of this year than they were at the end of 2010,” said Kevin Armant, Principal in Mercer’s Financial Strategy Group. “Because equities have also underperformed expectations, corporations who use a December 31 measurement date will likely see larger pension liabilities on their balance sheet, as well as higher 2012 pension expense.”

Institutional investors should look toward the sovereign wealth funds of Norway and New Zealand in their quest for sustainable investing, according to a recent paper.

(February 28, 2012) — Institutional investors should look to the example of sovereign wealth funds, which have among the best practices with socially responsible investing (SRI), according to a newly released paper by a professor at the University of British Columbia.

The paper — titled “Sovereign Wealth Funds and the Quest for Sustainability: Insights from Norway and New Zealand” written by Benjamin J. Richardson — asserts that among sovereign funds, Norway ranks as the leader in SRI initiatives. “If pensions and insurance companies want to look for guidance and take SRI seriously, some of the best examples come from Norway and New Zealand, largely because of their regulatory environment,” Richardson, a professor at the University of British Columbia, tells aiCIO.

He adds: “It’s easier for governments to regulate their own funds because they can correct behavioral changes in a market where you have competitive pressures to act differently.”

According to the Sovereign Wealth Fund Institute, as of May 2011, there were 52 sovereign wealth funds worldwide, with assets of some US$4.3 trillion. A recent survey by the Monitor Group, published in July 2011, put Norway’s SWF as the largest (with US$560 billion in assets), while New Zealand’s was ranked 20th (valued at US$15.8 billion), the paper asserts. Therefore, with sovereign wealth fund assets expected to at least double within the next decade, and growing awareness of their economic, social, and political power, international efforts to urge voluntary behavioral codes for such funds have become more pronounced.

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The paper states: “However, few states so far have obliged SWFs to invest ethically. While regulations to encourage socially responsible investment (“SRI,” as ethical investment is sometimes known) in the private sector are appearing, such as taxation incentives and corporate governance reforms, explicit duties to practice SRI have only been imposed on public financial institutions. The first precedents were adopted in the 1980s by some states and municipalities in the United States, which restricted government pension funds from investing in firms operating in the discriminatory milieu of South Africa or Northern Ireland. Since 2000, the SWFs of Sweden, Norway, New Zealand and France have been subject to legislative direction to invest ethically, with more comprehensive and ambitious obligations than the American precedents.”

According to Richardson, many institutional investors still fear SRI as a barrier to success. “If you have to act ethically, you may compromise financial returns – there is some truth to that because the market doesn’t reflect all social, and environmental costs,” he says.

Another perceived barrier to effective SRI implementation: Disagreement among the beneficiaries of the fund as to what is an ethical action. “When you have millions of beneficiaries, plurality of ethical perspectives can be a problem,” says Richardson. To overcome this, he adds, funds should devote more research into examining SRI’s financial value over the long-term, and having a more democratic and transparent way of making decisions.