Strong equity returns and rising interest rates in the fourth quarter of 2013 ended the best year of improvement in the funding status of US pension plans, according to Mercer latest monthly health index
The index tracks the funded status of defined benefit pension plans sponsored by Standard and Poor's 1500 companies. Estimates are based on each company's year-end statements and by projections to December 31 2013 in line with financial indices.
December's index, published today, showed a funded status improvement ratio of 95%, its highest year-end level since 2007, and up 21% from 2012. Over 80% of pension underfunding had been eliminated since the beginning of the year and deficits improved by $454bn from the estimated shortfall of $557bn as of December 2012. At the end of 2013, Mercer said the estimated aggregate value of pension plan assets were $1.85 trillion, compared with the estimated aggregate liabilities of $1.96 trillion.
As well as a good end to the year, the equity markets saw the S&P 500 index jump by 30%. Mercer said yields on high-grade corporate bond rates also rose, leading to a reduction in pension liabilities.
The Mercer Yield Curve discount rate for mature pension plans rose almost a full per cent over the year from 3.71% to 4.69%. For a typical pension plan with a duration of 12 years, this means liabilities will be about 12% lower than they otherwise would have been using last year's discount rate, the firm added.
Jonathan Barry, a partner with Mercer's retirement consulting group, said: 'We saw pretty steady improvement month by month... This improvement should provide significant tailwind for 2014 earnings as pension expense is likely to decline significantly from 2013 levels.'
Richard McEvoy, the firm's financial strategy group leader, added: 'Unlike in prior market cycles, we've seen many pension sponsors take steps over the past year or two to prepare for the conditions we're seeing today. They're better prepared than in 2000 or 2008 to protect their gains, and we're now seeing these preparation steps turn in to action.
'Many of our clients have employed glidepath strategies where they systematically derisk their plans as funded status improves; we saw well over 100 funding level triggers hit during 2013 alone.'
Looking ahead, 2014 is looking to be a big year for risk transfer strategies, Mercer said. According to McEvoy, the market could see more annuity buyouts and so-called 'voluntary cashouts' to former employees as improving conditions make these options much more feasible than before.