Tag Archives: bonds

09.11.25
by

U.S. Rates Likely to Fall – Here’s the Good and Bad

By: Russ Kamp, CEO, Ryan ALM, Inc.

Unfortunately, there exists weakness in the U.S. labor force, as a notable deterioration in job creation, initial jobless claims, and job openings is taking place at this time. This weakness will likely lead the Federal Reserve to lower U.S. interest rates at the next FOMC, which takes place next week with an announcement on the 18th. The current consensus is for a 0.25% reduction in the Fed Fund’s Rate to 4.0%-4.25%. There is also a rising expectation that the “cut” could be larger. That might be more hope than reality at this time, given the CPI’s 0.4% posting today.

So, if rates were to be lowered, who benefits and who gets hurt? Well, individuals seeking loans – mortgages, cars, student loans – certainly benefit. But individuals hoping to generate some income from savings and retirement assets get hurt, especially since these rates tend to be shorter maturity instruments. Who else is impacted? Fixed income asset managers will benefit if they are holding coupon bonds, as falling rates drive bond prices upward. However, those holding bonds with adjustable yields won’t benefit as much.

How about DB pension funds? Yes, those pension funds invested in U.S. fixed income will likely see asset appreciation. However, both public and multiemployer plans have dramatically reduced their average exposure to this asset class. According to P&I’s annual survey, multiemployer plans have 18.2% in U.S. domestic fixed income, while public plans have roughly 18.7% of plan assets dedicated to U.S. fixed income. As a point of reference, corporate plans have nearly half of the plan’s assets dedicate to fixed income (45.4%). As rates fall, these plans will see some appreciation providing a boost in their quest to achieve the desired ROA. Great!

However, let us not forget that pension liabilities will be negatively impacted by falling rates, as they are bond-like in nature and the present value of those liabilities will grow. This is what crushed DB pensions during the massive decline in interest rates from 1982 until 2021. A move down in rates will directly benefit less than 50% of the assets, if we are talking about a corporate plan, and <20% of the assets for multiemployer and public funds. However, 100% of the liabilities will be impacted! Doesn’t seem like a good trade-off. As a result, funded ratios will decline and funded status shortfalls will grow, leading to greater contributions.

Given the mismatch identified above, I’d recommend that you not celebrate a potential decline in rates if you are a plan sponsor or asset consultant, unless you are personally looking for a loan. I would also recommend that you align your plan’s asset cash flows (principal and income from bonds) with your liability cash flows (benefits and expenses) while rates remain moderately high. As I’ve stated many times in this blog, Pension America had a great opportunity to de-risk DB pensions in 1999 but failed to act. Please don’t let this opportunity slip by without appropriate action.

07.31.25
by

When Should I Use CFM?

By: Russ Kamp, CEO, Ryan ALM, Inc.

Good morning. I’m currently in Chicago in the midst of several meetings. Yesterday’s meetings were outstanding. As you’d expect, the conversations were centered on DB pension plans and the opportunity to de-risk through a Cash Flow Matching strategy (CFM) in today’s economic environment. The line of questioning that I received from each of my meeting hosts was great. However, there does seem to be a misconception on when and how to use CFM as a de-risking tool. Most believe that you engage CFM for only the front-end of the yield curve, while others think that CFM is only useful when a plan is at or near full funding. Yes, both of those implementations are useful, but that represents a small sampling of when and how to implement CFM. For instance:

As a plan sponsor you need to make sure that you have the liquidity necessary to meet you monthly benefits (and expenses). Do you have a liquidity policy established that clearly defines the source(s) of liquidity or are you scurrying around each month sweeping dividends, interest, and if lucky, capital distributions from your alternative portfolio? Unfortunately, most plan sponsors do not have a formal liquidity policy as part of their Investment Policy Statement (IPS). CFM ensures that the necessary liquidity is available every month of the assignment. There is not forced selling!

Do you currently have a core fixed income allocation? According to a P&I asset allocation survey, public pension plans have an average 18.9% in public fixed income. How are you managing that interest rate risk, which remains the greatest risk for an actively managed fixed income portfolio? As an industry, we enjoyed the benefits of a nearly four decades decline in U.S. interest rates beginning in 1982. However, the prior 28-years witnessed rising rates. Who knows if the current rise in rates is a blip or the start of another extended upward trend? CFM defeases future benefit payments which are not interest rate sensitive. A $2,000 payment next month or 10-years from now is $2,000 whether rates rise or fall. As a result, CFM mitigates interest rate risk.

As you have sought potentially greater returns from a move into alternatives and private investments, not only has the available liquidity dried up, but you need a longer time horizon for those investments to mature and produce the expected outcome. Have you created a bridge within your plan’s asset allocation that will mitigate normal market gyrations? A 10-year CFM allocation will not only provide your plan with the necessary monthly liquidity, but it is essentially a bridge over volatile periods as it is the sole source of liquidity allowing the “alpha” assets to just grow and grow. That 10-year program coincides nicely with many of the lock-ins for alternative strategies.

There has been improvement in the funded status of public pension plans. According to Milliman, as of June 30, 2025, the average funded ratio for the constituents in their top 100 public pension index is now 82.9%, which is the highest level since December 2021. That’s terrific to see. Don’t you want to preserve that level of funding and the contribution expenses that coincide with that level? Riding the rollercoaster of performance can’t be comforting. Given what appears to be excessive valuations within equity markets and great uncertainty as it relates to the economic environment, are you willing to let your current exposures just ride? By allocating to a CFM program, you stabilize a portion of your plan’s funded status and the contributions associated with those Retired Lives Liability. Bringing a level of certainty to a very uncertain process should be a desirable goal for all plan sponsors and their advisors.

If I engage a CFM mandate, don’t I negatively impact my plan’s ability to meet the return objective (ROA) that we have established? NO! The Ryan ALM CFM portfolio will be heavily skewed to investment-grade corporate bonds (most portfolios are 100% corporates) that enjoy a significant premium yield relative to Treasuries and agencies. As mentioned previously, public pension plans already have an exposure to fixed income. That exposure is already included in the ROA calculation. By substituting a higher yielding CFM portfolio for a lower yielding core fixed income program benchmarked to the Aggregate index, you are enhancing the plan’s ability to achieve the ROA while also eliminating interest rate risk. A win-win in my book!

So, given these facts, how much should I allocate to a CFM mandate? The answer is predicated on many factors, including the plan’s current funded status, the ability to contribute, whether or not the plan is in a negative cash flow situation, the Board’s risk appetite, the current ROA, and others. Given that all pension systems’ liabilities are unique, there is no one correct answer. At Ryan ALM, we are happy to provide a detailed analysis on what could be done and at what cost to the plan. We do this analysis for free. When can we do yours?

07.18.25
by

AI Needs An Education Regarding ALM/CFM!

By: Russ Kamp, CEO, Ryan ALM, Inc.

I asked an AI tool that I use the following: Asset/Liability Management (ALM) is an effective tool for pensions. What strategies are currently being deployed?

As usual, the response was nearly instantaneous, but was it correct? Here is what I got:

Overview

“Asset/liability management (ALM) remains central to pension fund sustainability, aiming to balance expected pension liabilities with optimal asset growth. In 2025, pension funds deploy a range of strategies to ensure their ability to meet long-term obligations while managing risk efficiently.” No argument there. However, here is a list of the strategies. This is where I have an issue.

Key ALM Strategies Currently in Use

1. Liability-Driven Investing (LDI)

  • Matching Asset Duration to Liabilities: Many corporate pension plans invest in high-quality bonds with durations closely matching those of plan liabilities to mitigate interest rate risk. This ensures that both assets and liabilities react similarly to interest rate changes, stabilizing the funded status from year to year.
  • Glidepath Strategies: Plans gradually shift the asset mix towards more fixed-income securities as funded status improves or as the plan matures, further reducing risk and aligning assets with near-term liabilities.

2. Dynamic Asset Allocation

  • Strategic Shifts in Asset Mix: Pension funds adjust allocations based on changing liabilities, market conditions, and funding status. For instance, U.S. public pension plans have recently shifted asset allocations to maintain return expectations and recover from volatility.
  • Scenario-Based Modeling: Funds use forward-looking models to stress-test outcomes under varying economic scenarios, reviewing assumptions about returns, inflation, and participant demographics.

3. Risk Transfer Solutions

  • Pension Risk Transfer (PRT): Many sponsors employ annuity purchases and lump-sum windows to reduce long-term liability, transferring obligations to insurers. In 2024, settlement payouts (such as annuity buyouts) remained a significant tool for risk management among major pension plans.

4. Liability Modeling Innovations

  • Member-Level Simulation: Advanced models project individual participant cash flows, account for currency exposure, and enable granular liability projections. Such approaches allow more precise matching of assets to future obligations, improving ALM decision-making.
  • Regular Reviews and Assumption Updates: ALM programs, such as those at CalPERS, involve systematic reviews of demographic and financial assumptions (e.g., life expectancy, inflation), with revisions made every four years to incorporate emerging trends.

5. Use of Custom Benchmarks

  • Liability-Mimicking Portfolios: Funds create tailored portfolios (“benchmark” portfolios) that track the liability profile as closely as possible, often blending nominal bonds, inflation-linked bonds, and equities according to the plan’s specifics (such as maturity and inflation sensitivity).

That’s it? Where is Cash Flow Matching (CFM)? In each of these scenarios, liquidity needed to fund benefits and expenses is missing. Duration strategies minimize interest rate risk, but don’t produce timely liquidity to fully fund B+E. Furthermore, duration strategies that use an “average” duration or a few key rates don’t duration match as well as CFM that duration matches EVERY month of the assignment.

In the second set of products – dynamic asset allocation – what is being secured? Forecasts related to future economic scenarios come with a lot of volatility. If anyone had a crystal ball to accomplish this objective with precision, they’d be minting $ billions!

A PRT or risk transfer solution is fine if you don’t want to sustain the plan for future workers, but it can be very expensive to implement depending on the insurance premium, current market conditions (interest rates), and the plan’s funded status

In the liability modeling category, I guess the first example might be a tip of the hat to cash flow matching, but there is no description of how one actually matches assets to those “granular” liability projections. As for part two, updating projections every four years seems like a LONG TIME. In a Ryan ALM CFM portfolio, we use a dynamic process that reconfigures the portfolio every time the actuary updates their liability projections, which are usually annually.

Lastly, the use of Custom benchmarks as described once again uses instruments that have significant volatility associated with them, especially the reference to equities. What is the price of Amazon going to be in 10-years? Given the fact that no one knows, how do you secure cash flow needs? You can’t! Moreover, inflation-linked bonds are not appropriate since the actuary includes an inflation assumption in their projections which is usually different than the CPI.  

Cash Flow Matching is the only ALM strategy that absolutely SECURES the promised benefits and expenses chronologically from the first month as far out as the allocation will go. It accomplishes this objective through maturing principal and interest income. No forced selling to meet those promises. Furthermore, CFM buys time for the residual assets to grow unencumbered. This is particularly important at this time given the plethora of assets that have been migrated to alternative and definitely less liquid instruments.

As mentioned earlier, CFM is a dynamic process that adapts to changes in the pension plan’s funded status. As the Funded ratio improves, allocate more assets from the growth bucket to the CFM portfolio. In the process, the funded status becomes less volatility and contribution expenses are more manageable.

I’m not sure why CFM isn’t the #1 strategy highlighted by this AI tool given its long and successful history in SECURING the benefits and expenses (B&E). Once known as dedication, CFM is the ONLY strategy that truly matches and fully funds asset cash flows (bonds) with liability cash flows (B&E). Again, it is the ONLY strategy that provides the necessary liquidity without having to sell assets to meet ongoing obligations. It doesn’t use instruments that are highly volatile to accomplish the objective. Given that investment-grade defaults are an extremely rare occurrence (2/1,000 bonds), CFM is the closest thing to a sure bet that you can find in our industry with proven performance since the 1970s.

So, if you are using an AI tool to provide you with some perspective on ALM strategies, know that CFM may not be highlighted, but it is by far the most important risk reducing tool in your ALM toolbox.

07.16.25
by

Really Only One Significant Influence

By: Russ Kamp, CEO, Ryan ALM, Inc.

Managing fixed income (bonds) can be challenging as there are a plethora of risks that must be evaluated including, but not limited to, credit, liquidity, maturity/duration, yield, prepayment and reinvestment risk, etc. within the investment-grade universe. But the greatest risk – uncertainty – remains interest rate risk. Who really knows the future direction of rates? As the graph below highlights, U.S. interest rates have moved in long-term secular trends with numerous reversals along the way. Does that mean that we are headed for a protracted period of rising rates similar to what was witnessed from 1953 to 1981 or is this a head fake along the path to historically low rates?

When rates are falling, it is very good for bonds as they not only capture the coupon, but they get some capital appreciation, too. However, when rates rise, it is a very different game. Yes, rising interest rates are very good for pension funds from a liability perspective, as the present value (PV) of those future benefit payments (I.e. liabilities) is reduced, but the asset side may be hurt and not only for bonds but other asset classes as well.

No alternative text description for this image

This is the primary reason why bonds should be used for their cash flows of interest and principal and not as a performance generator. The cash flows should be used to meet monthly benefits and expenses chronologically through a cash flow matching strategy (CFM). Unfortunately, Bonds are frequently used for performance and perhaps diversification benefits while compared to a generic index, such as the BB Aggregate index, which doesn’t reflect the unique characteristics of the pension plan’s liabilities.

U.S. interest rates are presently elevated but aren’t high by historic standards. However, the current level of rates does provide the plan sponsor with a wonderful opportunity to take risk from their traditional asset allocation by defeasing a portion of the plan’s liabilities from next month out as far as the allocation will cover. While the bond portfolio is funding monthly obligations, the remaining assets can just grow unencumbered.

Given the uncertainty regarding the current inflationary environment, betting that U.S. rates will fall making a potential “investment” in bonds more lucrative is nothing short of a crapshoot. Investing in a CFM strategy helps to mitigate interest rate risk as future values are not interest rate sensitive.

06.25.25
by

Problem/Solution: Generic Indexes

By: Ronald J. Ryan, CFA, Chairman, Ryan ALM, Inc.

We challenge you to find Pension Liabilities in any Generic Bond Index. We’re confident that you won’t. As a result, we’ve developed an appropriate solution, which we call the Custom Liability Index (CLI).

Pension liabilities (benefits and expenses (B+E)) are unique to each plan sponsor… different workforces, different longevity characteristics, different salaries, benefits, expenses, contributions, inflation assumptions, plan amendments, etc. To capture and calculate the true liability objective, the Ryan team created the first CLI in 1991 as the proper pension benchmark for asset liability management (ALM). We take the actuarial projections of (B+E) for each client and then subtract forecasted Contributions since contributions are the initial source to fund B+E. This net total becomes the true liability cash flows that assets have to fund. We then calculate the monthly liability cash flows as (B+E) – C. The CLI is a monthly report that includes the calculations of:

  • Net future values broken out by term structure
  • Net present values broken out by term structure
  • Total returns broken out by term structure
  • Summary statistics (yield, duration, etc.)
  • Interest rate sensitivity 

We recommend that the Ryan ALM CLI be installed as the index benchmark for total assets, as well as any bond program dedicated to matching assets and liabilities. This action should be the first step in asset allocation. The CLI can be broken out into any time segment that bond assets are directed to fund (i.e. 1-3 years, 1-10 years, etc.). Moreover, total assets should be compared versus total liabilities to know if the funded ratio and funded status have improved over time. If all asset managers outperform their generic index benchmarks but lose to liability growth rate the pension plan loses and must pay a higher contribution.   

Since the CLI is a monthly report, plan sponsors can compare assets versus liabilities monthly. Furthermore, we suggest that there should never be an investment update of just assets versus assets (generic index benchmarks), which unfortunately is common practice today. It is hard to understand in today’s sophisticated finance world why liabilities are missing as a pension index. It should be clear that no generic bond index could ever properly represent the liability cash flows that assets are required to fund. It is apples versus oranges, at a minimum. 

“Given the wrong index benchmark… you will get the wrong risk/reward”

For more info on the Ryan ALM CLI please contact Russ Kamp, CEO at  rkamp@ryanalm.com

06.19.25
by

Ryan ALM: Problem/Solution

By: Ronald J. Ryan, CFA, Chairman, Ryan ALM, Inc.

Problem:  Pension Liabilities… MIA

Solution:  Cash Flow Matching (CFM)

The true objective of a pension is to secure and fully fund benefits (and expenses) in a cost-efficient manner with prudent risk. Although funding liabilities (benefits and expenses (B+E)) is the pension objective, it is hard to find liabilities in anything that pertains to pension assets. Asset allocation is more focused on achieving a ROA (return on assets target return), and performance measurement compares assets versus assets, as the asset index benchmarks are void of any liability growth calculations. If you outperform your index benchmark does that mean asset growth exceeded liability growth? Perhaps NOT.

Pension liabilities behave like bonds since their discount rate is most similar to a zero-coupon bond yield curve (especially ASC 715 discount rates which are a AA corporate yield curve). Yes, public and multiemployer pension plans use the ROA as the discount rate to price their liabilities but even then it is not shown in any performance measurement reports. In fact, what shows up in the CAFR annual report is the GASB requirement of an interest rate sensitivity test by moving the discount rate up and down 100 basis points to determine the volatility of the present value of liabilities and the funded ratio. But a total return or growth rate comparison of assets versus liabilities seems to be MIA.

Ryan ALM solves this problem through our asset liability management (ALM) suite of synergistic products:

  1. Custom Liability Index (CLI) – The management of assets should actually start with liabilities. In reality, assets need to fund NET liabilities defined as (benefits + expenses) – contributions. Contributions are the first source to fund B+E. Assets must fund the net or residual. This is never calculated so assets start with little or no knowledge of what there job really is. Moreover, B+E are monthly payments, which are also not calculated, as the actuary provides an annual update. The CLI performs all of these calculations including total return and interest rate sensitivity as monthly reports.
  1. ASC 715 Discount Rates – Ryan ALM is one of very few vendors who provide ASC 715 discount rates, and we’ve done so since FAS 158 was enacted (2006). We provide a zero-coupon yield curve of AA corporate bonds as a monthly excel file for our subscribers including a Big Four accounting firm and several actuarial firms.
  1. Liability Beta Portfolio™ (LBP) – The LBP is the proprietary cash flow matching model of Ryan ALM. The LBP is a portfolio of investment grade bonds whose cash flows match and fully fund the monthly liability cash flows of B+E. Our LBP has many benefits including reducing funding costs by about 2% per year (20% for 1-10 year liabilities). The intrinsic value of bonds is the certainty of their cash flows. That is why bonds have always been chosen as the assets for cash flow matching or dedication since the 1970s. We believe that bonds are not performance or growth assets but liquidity assets. By installing a LBP, pensions can remove a cash sweep from the growth assets, which negatively impact their growth rates. We urge pension plan sponsors to use bonds for their cash flow value and transfer the bond allocation from a total return focus to a liquidity allocation. Moreover, the Ryan ALM LBP product is skewed to A/BBB+ corporate bonds which should outyield the traditional bond manager who is usually managing versus an index which is heavily skewed to Treasuries and higher rated securities that are much lower in yield. The LBP should enhance the probability of achieving the ROA by the extra yield advantage (usually 75 to 100 basis points). The LBP should also reduce the volatility of the funded ratio and contributions. In fact, it should help reduce contribution cost by the extra yield enhancement. 

For more info on the Ryan ALM product line, please contact Russ Kamp at  rkamp@ryanalm.com.

06.10.25
by

HF Assets Hit Record – Why?

By: Russ Kamp, CEO, Ryan ALM, Inc.

I touched on the subject of hedge funds a few years ago. Unfortunately, results haven’t gotten any better. Yet, P&I is reporting that Hedge Fund assets have reached an all-time high of $5.7 trillion. My simple question – WHY?

I believe that we have overcomplicated the management of DB pension plans and the use of hedge funds is a clear example. If the primary objective is to fund the promised benefits in a cost-efficient manner with prudent risk, why do we continue to waste so much energy buying complicated, opaque products and strategies that often come with ridiculously high fees and little alpha? Furthermore, the management of a DB pension plan has a relative objective – funding the plan’s liabilities of benefits and expenses. It is not an absolute objective which is what a hedge fund strives to produce. It really doesn’t matter if a hedge fund produces a 5% 10-year return if liability growth far exceeds that performance.

Here’s the skinny, the HFRI Composite index reveals that the 10- and 20-year compounded returns are 5.0% and 5.1%, respectively through March 31, 2025. We know that we didn’t get those “robust” returns at either an efficient cost or with prudent risk. What are these products hedging other than returns? Why do we continue to invest in this collection of overpriced and underperforming products? Are they sexy? Does that make them more appealing? Do we think that we are getting a magic elixir that will solve all of our funding issues?

Sadly, the story is even worse when you take a gander at the returns associated with the HFRI Hedge Fund of Funds Composite Index. I shouldn’t have been surprised by the weaker performance given the extra layer of fees. According to HFRI, 10- and 20-year annualized returns fall to 3.5% and 3.3%, respectively. UGH! For those two time frames, the S&P 500 produced returns of 12.5% and 10.2% respectively, and for a few basis points in fees. Furthermore, as U.S. interest rates have risen, bond returns have become competitive with the returns produced by HFs and HF of Funds. In fact, during the 1-year period both T-bills (4.9%) and the BB Aggregate index (5.2%) have outperformed HFs (4.6%), while matching or exceeding the HF of Funds (4.9%) as of March 31, 2025.

While pension systems struggle under growing contribution expenses and plan participants worry about the viability of the pension promise, the hedge fund gurus get to buy sports franchises because of the outrageous fees that are charged and the incredible sums of assets (again, $5.7 trillion!!!) that have been thrown at them? I suspect that the standard fee is no longer 2% plus 20%, but the fees probably haven’t fallen too far from those levels. As Fred Schwed asked with his famous publication in 1952 titled, “Where are the Customers’ Yachts?”, I haven’t been able to find them. Unfortunately, I think that the picture below is more representative of what plan sponsors and the participants have gotten for their investment.

Participant’s yacht – deflated results

Don’t you think that it is time to get back to pension basics? Let’s focus on funding the promised benefits through an enhanced liquidity strategy (cash flow matching) for a portion of the plan’s assets, while allowing the remainder of the portfolio’s assets to enjoy the benefit of time to grow unencumbered (extended investing horizon). This bifurcated approach is superior to the current strategy of placing all of your eggs (assets) into a ROA bucket and hoping that the combination will create a return commensurate with what is needed to meet those current Retired Lives Benefit promises and all future benefits and expenses.

06.02.25
by

Problem – Solution: Liquidity

By: Russ Kamp, CEO, Ryan ALM, Inc.

Plan Sponsors of defined benefit pension plans don’t have an easy job! The current focus on return/performance and the proliferation of new, and in some cases, complicated and opaque products, make navigating today’s market environment as challenging as it has ever been.

At Ryan ALM, Inc. we want to be our clients’ and prospects’ first call for anything related to de-risking/defeasing pension liabilities. Ryan ALM is a specialty firm focused exclusively on Asset/Liability Management (ALM) and how best to SECURE the pension promise. For those of you who know Ron Ryan and the team, you know that this have been his/our focus for 50+ years. I think that it is safe to say that we’ve learned a thing or two about managing pension liabilities along the way. Have a problem? We may just have the solution. For instance:

Problem – Plan sponsors need liquidity to meet monthly benefits and expense. How is this best achieved since many plan sponsors today cobble together monthly liquidity by taking dividends, interest, and capital distributions from their roster of investment advisors or worse, sell securities to meet the liquidity needs?

Solution – Create an asset allocation framework that has a dedicated liquidity bucket. Instead of having all of the plan’s assets focused on the return on asset (ROA) assumption, bifurcate the assets into two buckets – liquidity and growth. The liquidity bucket will consist of investment grade bonds whose cash flows of interest and principal will be matched against the liability cash flows of benefits and expenses through a sophisticated cost-optimization model. Liquidity will be available from the first month of the assignment as far out as the allocation to this bucket will secure – could be 5-years, 10-years, or longer. In reality, the allocation should be driven by the plan’s funded status. The better the funding, the more one can safely allocate to this strategy. Every plan needs liquidity, so even poorly funded plans should take this approach of having a dedicated liquidity bucket to meet monthly cash flows.

By adopting this framework, a plan sponsor no longer must worry where the liquidity is going to come from, especially for those plans that are in a negative cash flow situation. Also, removing dividend income from your equity managers has a long-term negative effect on the performance of your equity assets. Finally, during periods of market dislocation, a dedicated liquidity bucket will eliminate the need to transact in less than favorable markets further preserving assets.

We’re often asked what percentage of the plan’s assets should be dedicated to the liquidity bucket. As mentioned before, funded status plays an important role, but so does the sponsors ability to contribute, the current asset allocation, and the risk profile of the sponsor. We normally suggest converting the current core fixed income allocation, with all of the interest rate risk, to a cash flow matching (CFM) portfolio that will be used to fund liquidity as needed.

We’ll be producing a Problem – Solution blog on a variety of DB plan topics. Keep an eye out for the next one in the series. Also, if you have a problem, don’t hesitate to reach out to us. We might just have an answer. Don’t delay.

05.13.25
by

Bonds Are NOT Performance Instruments

By: Russ Kamp, CEO, Ryan ALM, Inc.

As we wrote a year ago this past April, it is time to Bag the Agg. For public pension plan sponsors and their advisors who are so focused on achieving the return on asset (ROA) assumption, any exposure to a core fixed income strategy benchmarked to the Aggregate index would have been a major drag on the performance since the decades long decline in rates stopped (2020) and rates began to rise aggressively in early 2022. The table below shows the total return of the Bloomberg Aggregate for several rolling periods with returns well below the ROA target return (roughly 7%).

For core fixed income strategies, the YTW should be the expected return plus or minus the impact from changes in interest rates. Again, for nearly 4 decades beginning in 1981, U.S. interest rates declined providing a significant tailwind for both bonds and risk assets. What most folks might not know, from 1953 to 1981 U.S. interest rates rose. Could we be at the beginning of another secular trend of rising rates (see below)? If so, what does it mean for pension plans?

Rising rates may negatively impact the price of bonds, but importantly they reduce the present value (PV) of future benefit payments. They also provide pension funds and their advisors with the option to de-risk the plan through a cash flow matching (CFM) strategy as the absolute level of rates moves closer to the annual ROA. Active fixed income management is challenging. Who really knows where rates are going? But we know with certainty the cash flows that bonds produce (interest income and principal at maturity). Those bond cash flows can be used to match and fully fund liability cash flows (benefits and expenses). A decline in the value of a bond will be offset by the decline in the PV of the plan’s liabilities. So, a 5-year return of -0.3%, which looks horrible if bonds are viewed as performance instruments may match the growth rate of liabilities it is funding. Using bonds for their cash flows, brings certainty and liquidity to the portion of the plan that has been defeased.

Are you confident that your active fixed income will produce the YTW or better? Are you sure that U.S. interest rates are going to fall from these levels? Why bet on something that you can’t control? Convert your active core bond program into a CFM portfolio that will ensure that your plan’s liabilities and assets move in lockstep no matter which direction rates take. Moreover, CFM will provide all the liquidity needed to fund benefits and expenses thereby eliminating the need to do a cash sweep. Assume risk with your growth assets that will now have a longer investing horizon because you’ve just bought plenty of time for them to grow unencumbered.

05.02.25
by

Opportunity Cost Goes Both Ways

By: Russ Kamp, CEO, Ryan ALM, Inc.

I had an interesting conversation at the IFEBP Investment forum. It wasn’t the first time that this topic has been raised and I am willing to state that it won’t be the last. I was discussing the benefits of cash flow matching (CFM) with a trustee who raised concern about locking in the asset / liability match, suggesting that by defeasing a period longer than 3-5-years may lead to “regret” if there had been an opportunity to generate a greater return from those assets used to defease a portion of the liabilities.

Anytime an asset allocation decision is taken, there is always the possibility that some combination of asset classes and products would have produced a greater return in the short-term. However, opportunity cost can easily be opportunity lost. When one engages in a CFM strategy, one does so because they understand that the primary objective in managing a DB pension is to SECURE the promised benefits at a reasonable cost and with prudent risk. Managing a pension fund is not a return game despite the prevailing orthodoxy in our industry.

Why would one not want to secure a portion of the asset base providing the necessary liquidity to meet benefits and expenses? It is so comforting, or it should be, not to have to worry about raising liquidity in challenging markets. At the same time, the CFM strategy is buying time for the alpha (risk) assets to grow unencumbered. We normally suggest that a 10-year CFM be implemented, but that decision is predicated on a number of factors specific to that plan. We can, and have, engaged in assignments shorter than 10-years, and CFM provides the same benefits, even if the cost savings may be less than that provided by a longer assignment.

Furthermore, there is always the question of maintaining the maturity of the assignment (5-, 7-, 10- or more years) once the program is up and running. Plan sponsors must decide if the assignment should be allowed to run out after the initial allocation, be maintained at the same maturity, or extended given improved funding. If markets don’t behave there is no obligation to extend the program. If markets get crushed and the sponsor feels that liquidating the CFM portfolio assets could be used to buy “low” that is available given the liquidity profile of investment grade bonds. We don’t understand why one would want to do that since the matching of assets and liabilities creates certainty, which is missing in traditional pension management.

DB pension plans are critical to the long-term financial security of the participants. Securing the promised benefits reduces the possibility that adverse outcomes don’t result in the fund having to take dramatic action such as additional tiers or worse, the freezing of the plan. CFM stabilizes both the funded status for that portion of the fund and contributions. I would think that getting as much into CFM and reducing the uncertainty of managing the plan given our volatile markets should be an unquestionable goal.