Pension Finance Update May 2024

Pension finances enjoyed another dose of good news in May, as higher stock markets more than offset the impact of lower interest rates for both model plans we track [1]. Plan A improved more than 1% last month, ending May ahead 8% this year, while Plan B gained a fraction of 1% in May and is now up almost 2% through the first five months of 2024:

[1] Plan A is a traditional plan (duration 12 at 5.5%) with a 60/40 asset allocation, while Plan B is a largely retired plan (duration 9 at 5.5%) with a 20/80 allocation with a greater emphasis on corporate and long-duration bonds. We assume overhead expenses of 1% of plan assets per year, and we assume the plans are 100% funded at the beginning of the year and ignore benefit accruals, contributions, and benefit payments in order to isolate the financial performance of plan assets versus liabilities.

Assets

Stocks were up across the board in May. A diversified stock portfolio gained 5% last month and is now up more than 8% for the year through May:

Interest rates fell 0.15% during May. As a result, bonds gaine 2%-3% during May, ending the month down 2%-6% for the year, with long duration Treasuries performing worst.

Overall, our traditional 60/40 portfolio gained more than 3% last month and is now up 4% for the year, while the conservative 20/80 portfolio added 2% during May, ending the month down less than 1% for the year.

Liabilities

Pension liabilities (for funding, accounting, and de-risking purposes) are driven by market interest rates. The first graph below compares our Aa GAAP spot yield curve at December 31, 2023 and May 31, 2024 (along with the movement in the curve last month). The second graph below shows our estimate of movements in effective GAAP discount rates for pension obligations of various duration during 2024:

Corporate bond yields fell 0.15% in May but remain up 0.5% through the first five months of 2024. As a result, pension liabilities rose 2%-3% last month but remain down 3%-5% for the year through May, with long duration plans seeing the largest drops.

Summary

Higher interest rates and solid stock market returns have combined to produce more good news for pension sponsors this year. The graphs below show the movement of assets and liabilities during the five months of 2024:

Looking Ahead

Higher interest rates since late 2022 have (for now) effectively ended pension funding relief that has been in place since 2012. Underfunded plans are likely to see sharp increases in required contributions in the next year or two.

Discount rates moved modestly lower last month. We expect most pension sponsors will use effective discount rates in the 5.3%-5.6% range to measure pension liabilities right now.

The table below summarizes rates that calendar-year plan sponsors are required to use for IRS funding purposes for 2024, along with estimates for 2025. Pre-relief, both 24-month averages and December ‘spot’ rates, are also included.