I am at the Made In America conference in Las Vegas. I enjoy this particular event because the crowds tend to be smaller providing the participants with more of an opportunity to interact. This particular gathering has a really good mix of agenda items and presentations, but I was reminded once again how our industry continues to focus exclusively on the asset side of the pension equation. Hopefully, my session, “Managing Through A Liability Lens”, will wake them up to the fact that pension plan liabilities exist and that assets need to be managed against them.
Day one had us hear once again that there are only two ways to improve funding: 1) contribute more, and 2) earn more on the investments. Yes, those are two ways, but not the only way to see funded status improved. Unfortunately, as I stated above, pension liabilities are like Mr. Cellophane of the pension world, especially when plans elect to use the same discount rate for both assets and liabilities (ROA). In an environment that values liability growth at 7.5% each and every year, it is no wonder that most plan sponsors and consultants forget that liabilities are bond-like in nature and that they don’t grow at the same rate as pension assets.
Because liabilities are bond-like, they move up and down in value with changes in interest rates. Regrettably (for pension systems), we’ve basically been on a slippery slope of declining US rates for much of the last 4 decades. As a result, plan liabilities have dramatically outperformed plan assets during this period and particularly in the last 20 years. I would guess that most sponsors think that 2019 was an incredible year for pension funding as assets enjoyed a magnificent 12-months, but they would be mistaken as the significant decline in US long-term rates boosted liability growth to as much as 25.6% when pricing liabilities using PPA spot rates and 22.2% when using ASC 715 rates (AA Corporate).
Unfortunately, this phenomenon has had the biggest impact on public pension systems that have habitually maintained higher return on assets assumptions which acts to keep contributions lower than they should have been. Pension America’s precarious position would not be so severe if WE, as an industry, had collectively focused more attention on the promises that were made to our employees. I’ll update you tomorrow on whether any rotten fruit was thrown in my direction during my discussion.