CANADA - The CAD$84bn Ontario Teachers' Pension Plan has turned to inflation-sensitive assets in a bid to counter its growing pension promises for future retirees.
The fund saw is funding status drop from 94% in 2004 to 84% in 2005 on the back of declining interest rates – leaving a deficit of CAD$19.4bn, up from CAD$6.2bn last year.
The results of the latest actuarial valuation, carried out by Mercer HR Consulting, came as a rude awakening for OTPP, which has had fully funded benefits in every other year since 1990, and even realised an CAD$18bn surplus during the period.
In an attempt to hedge against increases in the cost of future benefits, OTPP has changed the fund’s policy asset mix, lowering its target weighting of public and private equity to 45% of assets from 50%, while increasing its target weighting in fixed income to 23% from 20% and inflation-sensitive investments to 32% from 30%.
“It’s more predicated on the fact that we don’t expect equities to have high returns in the foreseeable future,” said Claude Lamoureux, CEO and president of OTPP. “Here we have liabilities that are indexed to inflation and we need to pay those.”
The OTPP must file another actuarial valuation at the end of the year and any remaining shortfall will likely require an increase in contributions by teachers. The last contribution increase for the plan was in 1990 when the contribution rate increased by 1% to 7.3% on the first CAD$41,000 (CPP maximum salary) and 8.9% above that amount.
“As we go more to inflation-sensitive assets I would think we tend to decrease the risk,” Lamoureux said. “What we’re watching also is how high can the contribution be – you try to optimise your return but at the same time be conscious of the contribution level.
“We’ve talked to the [Ontario] government and the Ontario Teachers’ Federation, they are the ones that determine the level of contribution and the benefit, so they know the problem and they also know that by the end of the year we have to file a valuation with the government and based on that valuation, there will have to be increased contribution, decrease in benefit, or a combination of both.”
At the end of 2004, CAD$27.9bn was held in inflation-sensitive investments, compared to CAD$20.8bn in 2003. The investments include real estate, real return bonds, commodities, infrastructure and timber.
The fund’s asset allocation stands at 32% inflation-sensitive investments, 45% public and private equities and 23% fixed income and absolute return strategies.
Lamoureux remains confident the fund will recover its funding deficit over time.
“If real [interest] rates went up by 1% that would cover all of this,” he said. “Let’s assume they go up by half a percent - that would cover CAD$10bn and that’s significant.”
“A corporation can go bankrupt but.. I can make a bold prediction that we’ll have an educational system run by the government in 50 years from now so the chances of this system going bankrupt are nil.”
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