THE HEALTH STATUS OF DEFINED BENEFIT RETIREMENT PLANS IN CANADA - JANUARY 2012

Pension plans' health declined sharply in 2011, studies find


Slump in stocks hit even the defined benefit plans hard



The health of Canadian pension plans deteriorated sharply in 20ll amid tumbling stock prices and low interest rates.


A survey of defined benefit plans by pension consulting finn Towers Watson and a separate study by the Mercer consultancy show devastating losses, especially in the third quarter when global stock values plunged.


Mercer said pension plans were unable to make up ground in the fourth quarter despite a market rebound as a further drop in federal bond yields increased estimated liabilities to retirees.


The Mercer Pension Health Index says typical plans were 60 per cent funded at the end of 2011 unchanged from the third quarter.




Higher pension costs seen for 2012.





But it said they were down 13 per cent on the year.


It also said the plans were 71 per cent funded as of June 30, not including any additional contributions by sponsors or employees.


As a result, Mercer senior partner Paul Forestell said many corporate pensions face severe funding shortfalls that could trigger a doubling of their contributions this year.


The Towers Watson survey showed dwindling investment returns and meagre rates on corporate bonds, lowering the funding level ratio of a hypothetical defined benefit plan in Canada to 72 per cent at the end of 2011


That's a drop from 86 per cent at the start of the year, assuming sronsors did not toVluP payments .


It also assumes companies offering the plans have maintained a traditional 60-40 weighting of investments between equities and bonds and have not tilted portfolios toward alternative vehicles such as real, estate, which Mercer said returned 10 per cent to investors in 2011


With the Toronto Stock Exchange's main index posting an II per cent decline in 2011, Towers Watson said the typical allocation would have generated a return of 0.5 per cent.


At the same time, it said pension plan liabilities would have increased by close to 20 per cent due to the decline in interest rates.


Investment returns boost the amount of assets held in a pension fund, while long-term interest rates on bonds determine the assets needed today to fulfill future benefit promises to retirees.


"For many organizations, these conditions have resulted in larger plan deficits at the end of 2011 and will  leed to higher pension costs in 2012 and beyond" said Ian Markham, Towers Watson's Canadian retirement leader.


He said many sponsors have already taken steps to reduce the size of liabilities within defined plans, which offer pre-set benefits to members regardless of investment performance.

A defined contribution plan does not guarantee a specific payout but commits to invest a certain amount over time.


The Towers Watson survey, based on its pension index tracking model, says the DB plans "continue to weigh on the financial health of the organizations that have made such commitments."


About 4.5 million Canadians have guaranteed benefits through workplace pension plans, most of them in the public sector or at larger private-sector organizations.


Companies have responded to rising costs of guaranteeing pensions by opting for defined contribution plans. Forestell said the decline in defined benefit funding levels could bolster the trend.


He noted that sponsors of defined plans carry their unfunded liabilities with them even if they convelt to DC plans. Defined contribution plans have also suffered from poor investment returns and low bond yields that cut into retiree benefits.


Severe underfunding of defined benefit plans could ultimately jeopardize payouts to retirees if the obligations help drive the company into protection from creditors.

Forestell said a rise in interest rates and stock market stability would go a long way to stabilizing funding.

Toronto Star
MICHAEL LEWIS
BUSINESS REPORTER

01 05 2012