The cumulative balance sheet of defined benefit pension schemes at Iseq-listed companies could be a surplus of more than €1 billion as of the end of June compared with just a small surplus at the beginning of the year, according to pensions consultant Mercer.
The group said defined benefit pension schemes at such companies have “fared well” during the first half of 2022 despite significant falls in global equity markets.
A significant increase in bond yields has reduced the value of scheme liabilities, more than offsetting the recent fall in growth assets such as equities, which are down about 20 per cent in the first half of the year.
Defined benefit pension scheme liabilities are measured with respect to bond yields. As a result of the 2 per cent rise in bond yields year to date, defined benefit pension scheme liabilities have decreased by 25-30 per cent.
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While inflation expectations have also increased during 2022, most pension scheme liabilities are typically less sensitive to inflation than they are to changes in bond yields.
Overall, the fall in liabilities has outweighed the negative returns on pension scheme assets, with schemes also benefiting from risk management strategies adopted over previous years, such as implementing structured de-risking of their asset portfolios.
Mercer estimates that the cumulative defined benefit balance sheet position for Iseq-listed companies could be a surplus of more than €1 billion at the end of June, after very significant multibillion euro deficits at times over the past decade, peaking at €4.5 billion in 2016.
Christopher Delaney, corporate pensions accounting leader with Mercer, said if current conditions persist to year-end, the position of defined benefit pension schemes on company balance sheets will have moved into a “meaningful surplus for the first time in many years”.
“The fall in liability values brought about by large increases in bond yields has more than offset the rise in inflation expectations and the significant negative returns from equities and other higher volatility growth assets,” he said.
“For the minority of companies with an open defined benefit scheme, the annual profit and loss cost of providing a defined benefit pension to employees may reduce significantly. However, the cash contributions that companies are required to pay into their schemes will not automatically reflect the improvements in funding levels, as these contribution rates are typically calculated every three years.”
Mr Delaney added that contribution rates agreed during the past 12-18 months are unlikely to take account of the recent improvement in funding levels.
Companies impacted by this, he said, “may wish to engage with the trustees of their pension schemes to explore whether their contribution rates can be revised to take account of recent changes”.
Pension fund trustees should also have seen improvements in their statutory funding levels, but they will be conscious of the potential volatility in funding levels going forward given the uncertain economic outlook.
“Many schemes that have already put robust structures in place to move their investments from equities and other growth assets into government and corporate bonds will have already benefited from a de-risking of their asset portfolio,” Mr Delaney said.
“However, other schemes should review their investment strategy and could look to use the recent improvement in funding positions to remove some risk by implementing a more matched investment strategy or consider settlement options such as bulk annuity contracts with insurers.”
