The solvency levels of Canadian defined benefit pension plans are down off the back of roiling equity and bond markets in the wake of the coronavirus outbreak.
Aon’s latest median solvency ratio survey found DB plans were down 6.7 per cent on average, from 102.5 per cent in early January to 95.8 per cent at the end of February, giving up almost all of the gains made by plans in 2019. In the meantime, Mercer’s data showed an even more dramatic drop, from 112 per cent at the end of 2019 to 103 per cent at the end of February.
“This is a wake-up call for pension plan sponsors,” said Erwan Pirou, Canada chief investment officer at Aon, in a press release. “The fear over the coronavirus outbreak and, to a lesser extent, U.S. political uncertainty during primary season has exposed market risks that have been building for some time. How long the ‘flight to safety’ will last is anybody’s guess, but given the recent interest rate cuts from central banks, including the Federal Reserve and the Bank of Canada, we may be entering a new and extended phase of even lower bond yields.”
During the two-month period, the Canadian 10-year benchmark bond yields fell by 50 basis points and Canada long bond yields fell 40. These depressed yields boosted pension liabilities by 6.3 per cent. Average returns for the year at the end of February were negative 0.6 per cent.
“The combination of the correction in equity markets and falling bond yields has resulted in a significant drop in the overall solvency position of DB plans that is reminiscent of the volatility we saw during the financial crisis,” said William da Silva, Canadian practice director for retirement consulting at Aon, in a press release.
“We’ve been saying for some time that pensions’ robust overall financial health — both in investments and in the regulatory landscape — presented an opportunity for pension plan sponsors to be more proactive in setting their de-risking strategies. Now the risks have materialized, so it’s time for sponsors to consider real action to capitalize on their still-strong solvency positions, or at least safeguard from any further deterioration in the financial health of their plans and their cash and balance sheet positions.”
A flight to safety over coronavirus worries sent investors into government bonds, putting pressure on yields, noted Mercer. “The market reaction to the virus is a twofold blow to DB plans as the equity market decline erodes the assets and drops in bond yields directly increase the liabilities,” said Andrew Whale, principal in Mercer Canada’s financial strategy group, in a release.
“Uncertainty around the ultimate extent of the outbreak has widened the range of outcomes for DB plans in 2020 and beyond,” he added. “Funded ratios have fallen rapidly from their peak in 2019 and the time to implement better risk management strategy is now.”