By Tatyana Shumsky
U.S. corporate pensions are at their highest funded level since
the financial crisis, which could lead more companies to turn over
to insurers the responsibility for paying retirees, pension
consultants say.
Higher funding levels mean corporate sponsors get a better deal
when transferring retiree obligations to insurers, so many firms
are finding this to be the perfect time to transfer the risks
associated with carrying pension plans.
Defined-benefit pension plans of S&P 500 companies were in
aggregate 91% funded at the end of September, according to research
released Monday by Goldman Sachs Asset Management. That's the
highest level since the end of 2007, when these plans were 108%
funded, according to the report. Nearly one-quarter of the plans
are now either fully funded or overfunded, the report said.
Having a highly funded pension plan "makes transferring the risk
more affordable," said Peggy McDonald, senior vice president and
actuary at Prudential Retirement, which takes over portions of
corporate pensions. "A plan sponsor that's only 80% funded is going
to have to put in more money than one that's better funded." She
explained that a company must fully fund the parts of the plan it
wishes to transfer and then pay a fee to the insurer.
A run-up in interest rates is one of two drivers bolstering
pension plans' financial standing. The yield on the 10-year U.S.
Treasury note -- a key credit market benchmark -- surpassed
seven-year highs recently and was at 3.140% on Friday. The yield is
up 0.73 percentage point this year.
Higher rates translate into lower pension-plan liabilities. Plan
managers use today's interest rates to calculate how much money
they need to put into their pension plans every year so that they
can afford to pay out promised benefits in the future. Higher rates
mean the plans can expect to earn more on their investments and
therefore require smaller annual contributions from the corporate
sponsor.
Corporate pension plans are also on firmer footing as a result
of increased contributions from corporate sponsors sparked by the
new U.S. tax law. Many companies scrambled to top up their pensions
ahead of a mid-September deadline that allowed them to claim a
higher tax deduction by counting the contributions toward the prior
calendar year, and therefore the old tax regime.
"This is really a unique situation of the stars aligning for
funded levels to rise," said Mike Moran, chief pension strategist
at Goldman Sachs Asset Management.
And as funding levels rise, plan managers typically look for
avenues to reduce the risk associated with carrying that plan, Mr.
Moran said. While some companies might look to shift their
investment mix toward bonds and away from stocks, others are likely
to seek out opportunities to shift that risk entirely by
transferring the pension to another party.
The risk can be sizable. Companies record their pension
obligation as a liability on the balance sheet, but the amount
changes each year to reflect shifts in interest rates and the value
of the plan's investments, among other factors. This can expose the
company to swings in the stock and credit markets.
"The volatility in funded status has impacts on earnings and
cash flow -- it's like a volatile debt that you have on your
balance sheet," said Prudential's Ms. McDonald.
This volatility and the fading role of pension plans in
corporate retirement programs are enticing more finance chiefs to
consider transfers. Roughly two-thirds of U.S. corporate
defined-benefit pension plans are either frozen or closed to new
entrants, she said.
Higher mandatory pension insurance costs are another incentive
for CFOs to consider transferring pension obligations. Companies
are required to pay insurance premiums to the Pension Benefit
Guaranty Corp., a federal agency that acts as a backstop to
insolvent plans.
"Keeping participants in the plan is very expensive from a PBGC
coverage perspective," said Matt McDaniel, a partner at consulting
firm Mercer, a unit of Marsh & McLennan Co. "This makes
transferring participants to an insurer relatively more
attractive."
U.S. companies transferred $23.3 billion in pension obligations
to insurers in 2017. That figure is forecast to reach between $25
billion and $30 billion in 2018, according to data from Mercer.
International Paper Co. is among the companies to recently take
the plunge. The Memphis, Tenn., paper and packaging maker earlier
this month struck its second pension transfer deal in as many years
with a unit of Prudential Financial Inc. The insurer will take over
pensions for 23,000 of International Paper's retirees, taking on
responsibility for about $1.6 billion in pension payments. The deal
will reduce the company's pension plan liabilities by 13%.
Last year, International Paper turned over responsibility for
$1.3 billion of its pension liabilities covering 45,000
retirees.
A spokesman from International paper didn't immediately respond
to a request for comment.
Meanwhile, FedEx Corp. in May transferred about $6 billion in
pension liabilities covering about 41,000 retirees to MetLife Inc.
in the second-biggest transfer deal for U.S. life insurers.
Representatives from FedEx didn't immediately respond to a
request for comment.
As funding levels improve, the focus for finance chiefs shifts
from cost alone to assessing the risks and benefits of continuing
to manage those plans.
"Part of it is a fundamental decision about whether you want to
be in the pension business or not," said Matt Herrmann, head of the
retirement risk-management group at Willis Towers Watson. "As
employers have shifted away from delivering retirement benefits
through pension plans, the desire for plan sponsors to manage these
obligations for the long term has also lessened."
"We're still in the early stages of the evolution of the
market," Mr. Herrmann said, adding that the U.S. corporate
defined-benefit pension-plan market is between $2.5 trillion and $3
trillion.
Write to Tatyana Shumsky at tatyana.shumsky@wsj.com
(END) Dow Jones Newswires
October 15, 2018 05:44 ET (09:44 GMT)
Copyright (c) 2018 Dow Jones & Company, Inc.
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