|Despite a Roller Coaster Year of Market Volatility, 2010 Ends on a Positive Note for Pension Plan Sponsors
LINCOLNSHIRE, Ill., Jan. 14, 2011 -- According to a new analysis from Aon Hewitt, the global human resource consulting and outsourcing business of Aon Corporation (NYSE: AON), global pension funding levels ended the year slightly up, despite a roller coaster year.
Aon Hewitt monitors and analyzes daily pension funding levels of U.S., U.K., Continental European and Canadian companies in the S&P 500, FTSE 350, DJ Euro Stoxx 50 and TSX, through its Pension Risk Tracker tool. The analysis found that the funded status of global pension plans were 87 percent at the end of 2010, up slightly from 86 percent at the beginning of the year. According to Aon Hewitt's estimate, global pension assets increased by 8 percent during the year, while pension liabilities increased by 7 percent over the same period.
"While the net result of the past year was a modest improvement in funded position of pensions globally, the interim volatility continues to attract the attention and concern of CFOs," said Cecil Hemingway, global retirement practice leader at Aon Hewitt.
"As we look to 2011 and beyond, organizations will increasingly strive for balance between funding and investment strategies in dealing with pension deficits," explained Ari Jacobs, Aon Hewitt's Retirement Solutions leader. "Many employers will consider risk management programs that combine de-risking plan investments with strategic funding."
According to Aon Hewitt's analysis, global pension assets gained in 2010, fueled by a strong performance in equity markets and bond price appreciations due to falling interest rates.
Pension funded status in the U.S. closed 2010 at 88 percent, with no change from the start of the year. Albeit, the year was marked by three quarters of positive asset returns, which offset the negative returns of the second quarter and also negated the drop in interest rates.
The fourth quarter of 2010 saw an increase in U.S. pension funded status from 82 percent to 88 percent, driven by strong equity returns ranging from 5 percent to 15 percent, and a 30–50 basis point recovery in corporate bond rates in time to boost the end-of-year pension funded status reporting.
"Despite troughs in funded status not seen since the heart of the financial crisis and sub-five percent discount rates, 2010 will be looked back upon as a year for plan sponsors to adjust their strategies and gear up for action in 2011 and beyond," noted Joe McDonald, Aon Hewitt's Global Risk Services leader in the U.S. "That action will take the form of dynamic de-risking, in most cases, where pension plans de-risk their investments as funded status improves. Plan sponsors will also shift their focus to the payment of lump sums starting in 2012, when the changes in terms brought on by the Pension Protection Act are fully implemented."
Accounting deficits eased significantly for U.K. companies in the FTSE 350 index during the fourth quarter of 2010, with assets increasing by just over 2 percent and liabilities reduced by 4 percent. The drop in liability values was largely due to an increase in corporate bond yields of 40 basis points, although this was partially offset by an increase in market implied inflation. The average funded ratio increased from 85 percent at the start of the quarter to around 91 percent, despite a significant drop on the last trading day of the year, as bond prices increased and equities fell.
The year as a whole was favorable with double-digit growth in asset values outstripping the increase in liabilities. The aggregate deficit of FTSE 350 companies reduced from pounds Sterling 60bn at the start of the year to under pounds 50bn—an improvement but still representing a significant deterioration compared to 2008 and 2009. Volatility of funding ratios continues to be a theme with many daily changes in excess of 1 percentage point, which is well below the extremes evidenced during the height of the credit crunch, but enough to cause significant distress to finance directors seeking to control emerging quarterly results.
Kevin Wesbroom, Aon Hewitt's Global Risk Services leader in the U.K., said, "Many finance directors will breathe a small sigh of relief that their accounting pension deficits have started to improve, although they may continue to be disappointed that daily fluctuations continue to be significant. We expect to see an increased emphasis on investment strategies that control exposure to asset market fluctuations. With deficits having stabilized, this may be the right time for companies to review their risk/reward balance and to consider if, how and when they want to take risk off the table—or whether they are happy continuing to play volatile markets in order to gain that elusive additional return that will reduce their cash commitments."
In Continental Europe, asset values remained relatively flat, outstripped to an extent by faster liability growth. Average funded ratios fell from 75 percent to 71 percent over the year. However, significant volatility in asset markets and bond markets (driving liability values) saw funding levels fall as low as 64 percent in August, before reaching a peak of 73 percent just before the December holiday season. Europe saw a marked increase in fourth quarter funding levels as a result of rising bond yields. This volatility was demonstrated in the full percentage point fall in funding level seen on the last trading day of the year.
Matt Wilmington, Aon Hewitt's Global Risk Services lead in Europe, said, "Finance teams around Europe will have mixed feelings about the year. Given where they started, there will be an element of disappointment that funding levels did not improve. However, coming off a more dismal position at the mid-year point, there will be some relief that the final levels were not as low as was feared. Governments have increasingly recognized the problems this volatility is causing, with legislative proposals ranging from changing benefit design and retirement ages, through the relaxation of funding requirements and state sponsored annuity provision. We expect plan sponsors over the next year to be pay particular attention to both discharging liability wherever possible and/or closely matching asset and liability strategies."
In Canada, a positive fourth quarter helped reverse some of the losses pension plans experienced through the first three quarters of 2010. In the fourth quarter, assets increased by 4 percent, while liabilities decreased by 2 percent. The average funded ratio among companies in the S&P/TSX index increased from 88 percent at the start of the quarter to 94 percent on December 31. However, the positive results were not enough to reverse loses experienced during the first three quarters. Volatility continued to be a major concern throughout the quarter, with daily changes in funded ratios of 2.0 percent.
Andre Choquet, with the Financial Risk Consulting team in Canada, said, "As Canada moves to the International Financial Reporting Standards in 2011, the funded ratio volatility will appear directly on company balance sheets. Companies need to determine what level of volatility is acceptable to them, and adjust their investment strategy to one that matches that volatility."
About Aon Hewitt
Aon Hewitt is the global leader in human resource consulting and outsourcing solutions. The company partners with organizations to solve their most complex benefits, talent and related financial challenges, and improve business performance. Aon Hewitt designs, implements, communicates and administers a wide range of human capital, retirement, investment management, health care, compensation and talent management strategies. With more than 29,000 professionals in 90 countries, Aon Hewitt makes the world a better place to work for clients and their employees. For more information on Aon Hewitt, please visit www.aonhewitt.com.
Aon Corporation (NYSE:AON) is the leading global provider of risk management services, insurance and reinsurance brokerage, and human resource consulting and outsourcing. Through its more than 59,000 colleagues worldwide, Aon unites to deliver distinctive client value via innovative and effective risk management and workforce productivity solutions. Aon's industry-leading global resources and technical expertise are delivered locally in over 120 countries. Named the world's best broker by Euromoney magazine's 2008, 2009 and 2010 Insurance Survey, Aon also ranked highest on Business Insurance's listing of the world's insurance brokers based on commercial retail, wholesale, reinsurance and personal lines brokerage revenues in 2008 and 2009. A.M. Best deemed Aon the number one insurance broker based on revenues in 2007, 2008 and 2009, and Aon was voted best insurance intermediary 2007-2010, best reinsurance intermediary 2006-2010, best captives manager 2009-2010, and best employee benefits consulting firm 2007-2009 by the readers of Business Insurance. Visit http://www.aon.com for more information on Aon and http://www.aon.com/unitedin2010 to learn about Aon's global partnership and shirt sponsorship with Manchester United.