If you are a DB pension plan sponsor, your plan is likely invested in a traditional balanced fund structure. A mix of 60% public equities and 40% core fixed income has long been the recipe for achieving the required rate of return plan sponsors need to cover their benefit obligations. However, the current low-growth, low-yield environment is making it increasingly difficult to hit the mark, and this type of strategy completely ignores a plan’s unique liability profile.
While more plan sponsors are increasing their awareness of investment strategies beyond the standard balanced fund, far fewer have taken the necessary steps to implement a new strategy. When it comes to de-risking or liability-driven investing strategies, the key culprit causing inaction is low interest rates. Add that to the multitude of investment approaches thrown at plan sponsors, and it’s no wonder the quintessential balanced fund remains at the top of the leaderboard.
Often, remaining with the status quo is a result of a lack of resources or the “We have always done it that way” syndrome. However, there are cost-effective alternatives and ways to better customize your portfolio. Here are three suggestions.
1) Look for diversifiers you may not currently have exposure to—for example, multi-sector fixed income or real estate. These types of non-traditional investments can enhance yield and lower the overall volatility of the plan’s portfolio.
2) Understand your plan’s liability cash flows. Consider adding some long-duration fixed income into the asset mix. Even replacing the existing 40% allocation to long bonds can significantly reduce volatility in funding status and provide a better hedge against interest rate movements while not necessarily giving up return.
3) Talk to your managers and consultants about ways to have more investment flexibility through vehicles such as pooled funds and segregated funds. This can help broaden the opportunity set and make implementing investment changes easier.
As Albert Einstein once said, “The world as we have created it is a process of our thinking. It cannot be changed without changing our thinking.” Plan sponsors need to challenge their own thinking around the standard off-the-shelf balanced fund and embrace more effective alternative solutions.
Read: De-risking your DB plan
Eric Menzer is managing director, portfolio solutions group, with Manulife Asset Management.
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