The median solvency ratio of Canadian defined benefit pension plans reached 99.3 per cent in the third quarter of 2017, bolstered by two interest rate increases and rising bond yields, according to Aon’s latest quarterly median solvency ratio survey.
This is an increase on the 94.8 per cent median solvency ratio reported by Aon for the second quarter of the year. It’s the highest ratio since the third quarter of 2007, when solvency stood at 99.7 per cent, according to the survey. It also found nearly half (47.7 per cent) of Canadian defined benefit pensions were fully funded at Oct. 2, up from 37 per cent of plans at June 30.
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“Rising interest rates are good news for Canadian pensioners and the plans they will rely on in retirement, and so there was plenty of good news for them in the third quarter, as most Canadian DB pension plans experienced marked improvements in financial health,” said William da Silva, senior partner and retirement practice director at Aon Hewitt.
“Canadian DB plans are now enjoying the best median solvency level in a decade, and that positions them well to prepare for the future. For many plan sponsors, rising rates will trigger changes in their plan glidepaths, so they will need to monitor developments very closely over the next several months. And as asset mix changes, sponsors should be sure to understand how that will impact their funding strategies. This will be a key theme as 2017 winds down and we head into 2018.”
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In terms of asset classes, the survey found emerging markets and Canadian equities led equity-class returns in the quarter, up 3.9 per cent and 3.7 per cent, respectively, while U.S. equity returned 0.6 per cent. However, global real estate and infrastructure returns ended the quarter down, by negative 2.2 per cent and negative 1.1 per cent, respectively, in Canadian dollar terms.
“The good news is that we expect only modest rises in bond yields and this reduces the risk of a reset in asset values,” said Ian Struthers, partner and investment consulting practice director at Aon Hewitt.
“That said, there are very few asset classes where valuations are not at record highs, so smart diversification and a strong understanding of portfolio risk profile are important. As we have seen over the past quarter, volatility can come from lots of places, such as the Canadian dollar. It is always wise to build a roof when the sun is shining. Pension plans are benefiting from a Goldilocks state of a bull market in equities and rising yields. History suggests that won’t last forever.”
Read: Plan sponsors using strong solvency positions to tweak investment, funding strategies