Defined benefit (DB) pension plans’ solvency in Canada improved slightly in 2012 thanks to company contributions and a strong equity market, according to Aon Hewitt. The median pension solvency funded ratio is approximately one per cent higher this year than at the start of 2012.
According to Aon Hewitt, opposing factors had an overall positive impact on the financial status of defined benefit pension plans this year. On the one hand, interest rates continued their decline pushing up the value of liabilities of pension plans. The discount rate used to calculate the liabilities to be settled by annuity purchases in case of a plan termination went down from 3.31 per cent at the beginning of the year to 2.96 per cent at the end of 2012.
On the other hand, equities performed well, with emerging markets leading the pack at 16 per cent, followed by international equities (15.3 per cent), United States equities (13.4 per cent) and Canadian Equities (7.2 per cent).
Pension plans invested in alternative asset classes such as global real estate and infrastructure were rewarded with returns of 25.8 per cent and 11.7 per cent, respectively. Finally, most plan sponsors had to contribute towards their deficits due to minimum solvency funding requirements.
The combination of all these factors led to a slight rise in Aon Hewitt's median solvency funded ratio of a large sample of pension plans from 68 per cent at the end of 2011 to 69 per cent at the end of 2012. About 97 per cent of pension plans in that sample had a solvency deficiency as of Dec. 31, 2012.
“There are mainly three ways that plan sponsors will see themselves out of this solvency conundrum,” said Thomas Ault, an associate partner in Aon Hewitt’s retirement consulting practice. "Through an increase in interest rates, favorable equity and alternative markets returns, or through higher employer contributions. We had two out of three this year.”
Plans that had employed de-risking strategies since Jan. 1, 2011, such as increased investment in bonds from 40 per cent to 60 per cent of the portfolio and investment in long bonds instead of universe bonds to better match liabilities, experienced a 79 per cent solvency ratio as of Dec. 31, 2012 as opposed to 69 per cent for the median plan.
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