Alert / Retirement
Defined benefit plan investing during a global pandemic
  • Volatile investment markets and historically low interest rates have placed single-employer defined benefit pension plans’ funded status under pressure.
  • Accelerating cash contributions can provide multiple benefits to plans seeking to reduce future cost and risk.
  • Plan sponsors should use the recent events as a trigger to reevaluate their plans’ asset allocation, rebalancing process, and risk mitigation strategies such as low-volatility equities and liability-driven investing.


It will be years before we understand the full extent of the impact the coronavirus pandemic had on U.S. defined benefit (DB) pension plans. Most pension plans have long time horizons, so it is important not to overreact to day-to-day market conditions. Investment policy statements should be in place to ensure processes are followed during volatile times and to help eliminate emotions from impacting the decision-making process.

Current economic conditions have been particularly challenging for companies sponsoring single-employer DB plans. Volatile markets, combined with historically low interest rates, have been driving factors in funded status deterioration over the first part of 2020. According to the Milliman 100 Pension Funding Index, the top 100 largest corporate DB plans have declined in funded status by 5.8% (89.8% to 84.0%) over the first five months of 2020.

The market has experienced a strong “V-shaped” recovery since the low point in late March. This market recovery presents an excellent opportunity to reassess the pension plan’s current risk tolerance and revise the strategy for any future derisking while the impact of a sudden downturn is fresh in our memory.

While there have been signs of an economic recovery and recent stock market gains have wiped out most of the losses in 2020, millions are still unemployed and the spread of the coronavirus is showing no signs of slowing down. The Fed announced it would hold its benchmark interest rates near zero through 2022, which indicates DB pension plans could be facing a low interest rate environment for several more years. Central bankers also projected the economy will shrink 6.5% in 2020, followed by gains of 5% and 3.5% in 2021 and 2022, respectively. The trajectory and magnitude of the economic recovery still have a large amount of uncertainty and are at risk for setbacks.

The global stock market crash in the first quarter of 2020 followed by the recent recovery highlights the challenges a plan sponsor faces when asset allocations fall outside of defined ranges due to significant market volatility. The window of opportunity to rebalance was short. Most plans are likely to be within a reasonable tolerance of their strategic allocation following the market rebound. Plan sponsors should use this experience to reevaluate risk tolerance of the plan and determine how they would like to navigate the next downturn, including:

  • Contribution strategy
  • Asset allocation and glide path decisions
  • Viability of liability-driven investing (LDI)
  • Rebalancing timing

Contribution strategy

Accelerating cash contributions and mitigating interest rate risk through a liability-driven investing (LDI) approach can be effective in a low interest rate environment. Not only would the pension risk be significantly reduced, but this strategy has several additional benefits:

  • Reduces PBGC premiums now and in the future.
  • Increases the company’s tax benefit, assuming the plan sponsor is a taxable entity.
  • Reduces future contributions that will likely be required in the next few years. A new study by the American Benefits Council of 703 mostly large companies shows that funding obligations are scheduled to increase almost 100% next year.
  • Positions the plan for derisking actions, such as annuity buy-outs, and accelerates the timeline to termination.

A company’s cash contribution strategy will have a significant impact on other components of the pension strategy, including the amount of risk required to reach the objectives and the amount of time it will take to achieve the goals.

Asset allocation and glide path decisions

Glide paths help remove emotion from investment decisions and keep the plan allocation moving on a predetermined course. During a market downturn, the funded status is likely to drop below previous trigger points for derisking. It is a good practice to determine in advance whether the plan would rerisk after its funded status declines. Rerisking plans that have dropped significantly in funded status could be an attractive short-term option to take advantage of underpriced equities. One way to manage a portfolio’s equity risk is by selecting strategies that have historically experienced lower volatility than their peers. These lower volatility strategies are typically designed to provide downside protection at the expense of some upside market capture. This dynamic is well suited for a DB plan given that down markets are much more punitive to plan sponsors than up markets are beneficial. For example, an investment strategy with historical up and down market capture ratios of 80% would be expected to return -8% when its benchmark is -10% and +8% when its benchmark is +10%.

Viability of liability-driven investing

Over the years, Lockton has advised clients on LDI strategies to help mitigate DB plan risks. Companies that have adopted these policies felt less of an impact in 2020 and were able to retain or even improve their funded status. Does that mean companies with more traditional asset allocations missed their opportunity to take advantage of LDI strategies? Is it too late to switch to LDI given the low interest rate environment?

Before answering those questions, recall that an LDI strategy shifts asset allocations to fixed-income securities to better align with the duration of the pension obligations, which are sensitive to long-term interest rate changes. Under a full LDI approach, the objective is to have the assets and liabilities move in tandem with interest rate movements, thus protecting the funded status of the plan. This approach sacrifices return seeking assets for higher security and less risk exposure. This is typically best suited for well-funded plans or those making large contributions.

If the plan’s funded status has fallen and infusing cash into the plan is not an option, a full LDI strategy is unlikely to help a company achieve their strategic objectives. Lockton recommends companies in this position reassess their plans’ strategy, weigh the pros and cons of rerisking, and implement (or adjust) a glide path approach. While on a glide path, a plan may choose to utilize assets that can provide exposure to the stock market while also helping to hedge against some of the volatility of the liability. As the plan’s funded status improves and overall volatility normalizes, the company can increase the plan’s fixed income allocation and gradually move toward LDI.

If cash is available (possibly through the Paycheck Protection Program or the federal coronavirus relief package), using that cash to fund the plan and move toward full LDI could be an attractive option. Companies may be waiting for interest rates to increase before allocating more assets to fixed income; however, there is no guarantee rates will rise in the near term, and further declines in interest rates could cause significant decreases in funded status. As referenced earlier, the Federal Reserve announced in early June 2020 that their current Fed Funds rate target of 0.00%-0.25% is expected to remain through 2022.

Due to curve convexity, interest rate movements are more impactful when interest rates are lower. For example, if we discount the cashflows of a $90 million DB plan using the June 30, 2020, FTSE curve, the resulting single equivalent discount rate is 2.64%. A 1% drop in discount rate translated into a $20.1 million increase in obligations, while a 1% increase in discount rate decreased obligations by $15.4 million. 

Compare that to the Jan. 31, 2011, FTSE curve that produces a 5.70% discount rate using the same cashflows. A 1% decrease in discount rate increases obligations by $9.2 million while a 1% increase in discount rate decreases obligations by $7.4 million.

Rebalancing timing

Plan sponsors likely faced the need to buy equities and sell fixed income securities to get back to their strategic allocation at some point during the first half of 2020. The speed of the downturn and swift recovery highlight the benefit of having a rebalancing and/or rerisking strategy in place in advance of the market event. This plan should be strong enough to guide the committee through the intended decision, but flexible enough to respond to the future circumstances. The plan should give some consideration to the timing, liquidity needs and specific market conditions.

It is important to ask the following questions as you rebalance your portfolio:

  • Should it be done all at once or in a series of planned rebalancing actions over weeks or months?
  • How will liquidity and upcoming benefits payments impact the timing and scope of rebalancing?
  • What areas of the portfolio have been overbought or oversold?

Recent equity performance has significantly favored large-cap and growth-oriented strategies with small-to-mid-cap and value-focused strategies lagging. Plan sponsors should be mindful of these details as they reconsider their asset allocation over the near term. 

While interest rates fell during the crisis, credit spreads widened significantly in March, so at the time it might have made sense to reduce the portfolio’s position in government bonds. This approach has more upside but would add risk to the portfolio. This opportunity has passed with credit spreads coming back down to 2019 levels, but plan sponsors should continue to monitor credit spread movements when considering changes to their asset allocations.


Lockton understands plan sponsors are facing unique challenges, and pension strategies are not one-size-fits-all. Whether or not a plan contribution is possible or LDI is a viable strategy, it’s important to review your plan’s strategy to ensure it still aligns with your overall objectives. PBGC premiums and contributions are likely to increase in the coming years, and steps taken today can help limit the potential impact of surprises down the road.


Investment advisory services offered through Lockton Investment Advisors, LLC, a SEC registered investment advisor.

Nothing in this message should be construed as legal advice. Lockton may not be considered your legal counsel and communications with Lockton’s compliance services group are not privileged under the attorney-client privilege.

Circular 230 Disclosure: To comply with regulations issued by the IRS concerning the provision of written advice regarding issues that concern or related to federal tax liability, we are required to provide to you the following disclosure: unless otherwise expressly reflected herein, any advice contained in this document (or any attachment to this document) that concerns federal tax issues is not written, offered or intended to be used, and cannot be used, by anyone for the purpose of avoiding federal tax penalties that may be imposed by the IRS or promoting, marketing or recommending to another party any matters addressed in this document or any attachment.


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