A strong equity market, a slight increase in interest rates and increased company contributions boosted the solvency of Canadian defined benefit pension plans during the first quarter of 2013.
According to Aon Hewitt, the global human resource solutions business of Aon plc, the median pension solvency funded ratio—or the ratio of the market value of plan assets to liabilities—was about 5 percentage points higher at the end of March than at the start of the year.
All the major factors influencing pension plan solvency position were favorable this quarter. Interest rates, while remaining close to record low levels, reversed their seemingly constant decline from the last few years. This pushed down the value of liabilities of pension plans, improving funding. The discount rate used to calculate the liabilities to be settled by annuity purchases in case of a plan termination went up from 2.96 percent at the beginning of the year to 3.04 percent close to the end of the quarter.
Equities performed well, with US Equities leading the pack at 12.86 percent for the quarter, followed by International Equities (7.27 percent), Canadian Equities (3.34 percent) and Emerging Market Equities (0.38 percent). Pension plans invested in alternative asset classes such as Global Real Estate and Infrastructure were rewarded with returns of 8.42 percent and 9.27 percent respectively. Finally, most plan sponsors had to contribute toward their deficits due to minimum solvency funding requirements.
The combination of all these factors led to a rise in Aon Hewitt’s median solvency funded ratio of a large sample of pension plans from 69 percent at the end of 2012 to 74 percent at March 31, 2013. About 97 percent of pension plans in that sample had a solvency deficiency as of March 31, 2013. The solvency funded ratio measures the financial health of a defined benefit pension plan by comparing the amount of assets to total pension liabilities in the event of a plan termination.
“There are three main ways that plan sponsors will see themselves out of this solvency conundrum,” said Ian Struthers, partner, Investment Consulting Practice, Aon Hewitt Canada. “Through an increase in interest rates, favorable equity and alternative markets returns, and/or through higher employer contributions. We saw all three last quarter.”