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Public Equities Spur Rise in State Pensions’ Funded Status

Funded levels for US public pension funds rose nearly 2 percentage points to 78.2% during the second quarter.

By Michael Katz



U.S. state pension plans’ aggregate funded ratio increased to 78.2% at the end of the second quarter from 76.3% at the end of the first quarter and 73.6% at the end of 2022, according to financial services firm Wilshire. The ratio is also up from 75.4% at the same time last year.

The quarterly change in funding was the result of a 3.4% rise in asset value, which was partially offset by a 0.8% increase in liability value.

“The aggregate funded status increased for a third consecutive quarter, with an asset value increase of over 13% during this period,” said Wilshire’s managing director, Ned McGuire. “The strong performance of the FT Wilshire 5000 contributed significantly to the increase in asset value, marking its strongest performance in the first six months of a calendar year since 2019.”

The firm attributed the funding improvement to the “robust total portfolio return, nearly reaching double digits, primarily driven by the performance of public equities.”

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Global equities led the performance with returns of 6.53% over the 12 months ending June 30, as measured by the MSCI ACWI Index, with U.S. equity returns up 19.03%, as measured by the FT Wilshire 5000 index.

Wilshire’s figures represent an estimate of the combined assets and liabilities of state pension plans included in its 2023 state funding study. The funded ratio is based on liabilities, service cost, benefit payments and contributions, in line with the funding study.

The assumed asset allocation for the study is 31% in U.S. equities, as measured by the FT Wilshire 5000 Index; 23% in core fixed income, measured by the Bloomberg Barclays U.S. Aggregate index; 15% in real assets, measured by the Wilshire U.S. Real Estate Securities Index; 14% in non-U.S. equities, measured by the MSCI AC World ex U.S. index; 13% in private equity, measured by the smoothing average of the trailing three months of the FT Wilshire 5000 Index; and 4% in high-yield bonds, measured by the Bloomberg Barclays U.S. Corporate High Yield Index.

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Home > News > Research > Popular Private Credit Strategy Will Keep Low Default Rate, Study Says
Research

Popular Private Credit Strategy Will Keep Low Default Rate, Study Says

Direct lending is projected to fare better than syndicated loans and junk bonds.

By Larry Light




Private debt issuance is burgeoning, particularly since some banks are pulling back on commercial lending. Assets under management for private loans reached $1.4 trillion in 2022, up from $250 million in 2010, according to Preqin data.

The default rate is anticipated to rise, but not by much and to remain at around historical levels, assuming a bad downturn does not barge onto the scene. And defaults are expected to stay below the rates for competing debt alternatives—syndicated loans and junk bonds—a new study indicated.

Consider direct lending, the largest subset of private debt, with about half of the asset class’ fund-raising, and a proxy for private credit as a whole. Direct lending’s default rate is low and projections are it will stay low, at least through this year, according to a report from KBRA DLD, KBRA’s direct-lending news and data unit.

What’s more, KBRA DLD predicted that default rates for junk bonds and syndicated loans will be higher. The direct loans are expected to be 2.5%, up from the current 1.2%, and only slightly higher than the historical level of around 2% for private credit overall.

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The KBRA DLD study projected that syndicated loans’ default rate should come in at 5.5% and junk bonds at 4% this year. This is in keeping with other forecasts: For instance, Moody’s Investors Service in a report said that high-yield’s default rate will climb to 4.6% by year-end, from 3.4% as of May.

All three types of lending are focused on below investment grade companies. Direct lending is mostly used in private equity buyouts, involving a small number of non-bank providers. Other types of private credit include mezzanine financing and real estate debt. Syndicated loans involved numerous banks and institutional investors. Junk bonds often are issued by Wall Street firms and are the most liquid.

One plus for private debt, which likely helps keep its default rate lower than those of junk and syndicated debt, is that private credit covenants are strict. If there’s a problem, “participants are able to work it out,” says Eric Rosenthal, a KBRA DLD senior director.

To be sure, if a recession arrives, it’s possible that things will get worse than the projections say. Otherwise, the private credit loans look fairly safe.

 

Related Stories:

Promise of Private Debt Burns Bright—With a Big If

San Diego Plan Joins Private Debt Parade

Private Credit: Too Risky? Not for Asset Allocators

 

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