Survey: Pensions Shun Domestic Equities for Liability-Matching Investments

(May 10, 2011) — US corporate pensions are increasingly adopting liability-matching investments to lower volatility, according to a new survey by consultancy Aon Hewitt.

“Once just a strategic idea without much traction, liability-matching investments continue to grow as a proportion of plan assets,” Ari Jacobs, retirement strategy leader at Aon Hewitt, notes in a statement. “Regardless of the future direction of equity and bond markets, this shift should bring less volatility and greater predictability to pension plan costs.”

The firm reveals that after years of market turbulence, pension plan sponsors are shifting their asset allocation away from domestic equities in favor of liability-matching investments. Aon’s findings show that just 4% expect to increase domestic equity exposure. Plan sponsors are primarily shifting assets to liability-matching investments with long-duration corporate bonds as the most popular asset choice. Nearly 32% of plan sponsors expect to increase allocation to long-duration bonds and 24% expect to increase allocation to other corporate bonds, while just 13% expect to do so for government bonds.

Furthermore, glidepaths — the manager’s strategy for shifting a fund’s allocation over time from mostly stocks to less risky assets — have become an increasingly attractive strategy to reduce long-term plan costs and risk as pension plans’ funded status improves, taking the emotion out of de-risking decisions, the study says.

“Most sponsors believe that their plans should take on less risk as they reach full-funded status,” Jacobs states. “These sponsors find glidepaths compelling because they translate this view into investment policy. Additionally, we believe that this strategy is a smart way to harness market volatility for the benefit of the plan and the sponsor, because glidepaths can potentially reduce cost even as they reduce risk.”

Aon Hewitt surveyed defined benefit plan executives of 227 large US companies with $389 billion in total combined assets in late 2010 and early this year.

Funds around the world have taken recent action in support of Aon Hewitt’s findings. In March, for example, in an effort to gain exposure to long-term, liability matching assets, the UK-based $13.6 billion Aviva Staff Pension Scheme noted that was seeking to boost its allocation to real estate-related assets, reflecting the growth of the sector since the real estate market collapsed during the crisis.

David Emerson at consultancy LCG Associates questioned the decision to rely on real estate to hedge against liabilities. “In general we wouldn’t use real estate as a hedge against liabilities, we would use fixed income,” he told aiCIO, noting that while real estate could provide a steady source of income, it doesn’t quite fit the bill for liability-matching that pension funds are looking to achieve.