December 31, 2015
Ryan Labs Asset-Liability Watch, key figures.
The last two quarters of 2015 were filled with events that pushed the markets in all different directions. On December 16th, the Fed raised rates for the first time since June of 2006. The price of oil declined to $37.04 per barrel. China devalued the yuan, while the dollar strengthened. After a year of sideways trading with excessive volatility, and with the third quarter of 2015 representing the worst performing quarter in the past four years, the S&P 500 rallied in the 4th quarter, with a return of +6.45%. Even with such a strong quarter, the stock index finished the year down –.073%. Simultaneously, RL PPA liabilities fell –2.69% for the year, resulting in a rally of 2% for the RL model asset allocation.
For the year ending 2015, the RL funding ratio finished at 83%, up from 81% at the end of 2014. However, through January 15, 2016, the S&P is down –7.93% and RL PPA pension liabilities are up +1.64%, a return difference of RL PPA Liabilities outperforming the S&P 500 by +9.57% to start the year With an upcoming presidential election, oil prices plummeting, Fed monetary policy tightening, equities on the verge of correction territory, and behavioral dynamics in the marketplace weighing stronger than fundamentals (the S&P 500 PE ratio was 19.81), pension investors are left with a sense of déjà vu amidst market uncertainty.
As we start 2016 amidst volatility reminiscent of earlier in the decade, and while pension plans have shown an increase in funding to finish 2015, the proverbial “state of the union” of pension plan investors is that of concern. For public pension plans, GASB 67/68 have pushed pension liabilities onto the balance sheet, bringing liability management to the forefront of public pension fund conversations. Over the last weeks of 2015 and the first weeks of 2016, corporate pension plans that have not implemented derisking strategies are now faced with seeing the impact of left tail risk on unhedged liabilities. Plans focused on achieving their ROA at the expense of reducing tail risk have seen asset returns in correction territory while liabilities have rallied.
For plans that have implemented LDI strategies with market based long duration benchmarks, the credit duration mismatch to their liabilities might be causing unexpected tracking error and surplus volatility relative to what was expected. Plans that have tactically underweighted ﬁ xed income or kept duration shorter than their liabilities have seen risk assets drive funding ratios lower.
Regardless of asset allocations, agenda items over upcoming quarterly meetings will certainly include discussions on the impact that 2015 year-end and first quarter of 2016 asset and liability returns have had on pension funding. As seen multiple times since the beginning of 2000, volatility can move swiftly and pension ratios can quickly feel the effect. While concern permeates the landscape of pension plans, steps can be taken to further reduce surplus volatility, tracking error, and overall pension plan risk as we move forward this year.
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