By: Russ Kamp, Managing Director, Ryan ALM, Inc.

I don’t think that it is much of a stretch to claim that the last 41 or so years have been an amazing time to be in the capital markets. Personally, I’ve been blessed to be in the investment/pension industry since October 13, 1981 (thanks, Larry and Ted). On the day that I entered the industry, the US 10-year Treasury Note was trading at a yield of 14.9%. During the next 39 years, that yield would plummet to a Covid-19-induced low of 0.52% on August 4, 2020. Today, that 10-year Treasury note yield is 4.25% (2:10 pm).

During this incredible run, the cost of Pension America’s promises soared as the present value of those future value benefit promises outpaced asset growth, despite the incredible wind behind the investment community’s sails. This dramatic present value cost increase in those future benefit promises certainly contributed to the on-going shuttering of defined benefit plans in the private sector. Why? Liabilities are bond-like and highly interest rate sensitive!

Back in 1981, on the day that I entered this industry, it would have taken only $17.81 to fully fund a $1,000 liability 30-years out. Yes, only $17.81 in contributions to meet that future obligation. On the other hand, at the bottom of the rate cycle, when the US 10-year Treasury note had a yield of 0.52%, it would have cost the plan sponsor $860 to fund that $1,000 liability in 30 years. Oh, my! Any question as to the impact of the collapsing rate environment on those future promises?

Fortunately, for those plans still open and accruing benefits, the cost of those future promises is getting more affordable. At today’s 10-year Treasury note yield of 4.25%, it would cost the plan sponsor only $301 to meet that 30-year obligation. Not nearly as great as the $17.81 needed in 1981, but certainly more manageable than the exorbitant costs at the bottom of the rate cycle.

Plan sponsors and their advisors missed opportunities to de-risk Pension America’s DB plans in the early ’80s and again at the end of 1999 when most plans were well-funded. Let’s not let another opportunity pass us by. Corporate America and public pension funds are enjoying improved funding. The higher US rate environment is once again providing us with an opportunity to significantly reduce the cost of those future benefit payments by engaging in a de-risking strategy through Cash Flow Matching (CFM).

Bonds, like liabilities, are highly interest rate sensitive, and the present value of both bonds and liabilities are impacted by interest rate changes. Use the asset cash flows of interest and principal from bonds to cash flow match the plan’s liability cash flows. This action will SECURE the promised benefits chronologically as far into the future as the bond allocation goes. Why continue to live with the uncertainty that investing in our capital markets brings? Create an investment program that captures the benefits of our current higher interest rate environment, while securing the promises that have been given to your participants.