US - US pension funds' assets have underperformed their liabilities by as much as 6.3% so far this year, with a cumulative underperformance of nearly 50% since 2000, according to asset liability modelling performed by Ryan ALM, a US consultancy firm.
In calculating the asset/liability spread, Ryan ALM used the market rate of Treasury STRIPS with a proposed return of 9.29%, the Pension Bill corporate bond rate with an assumed return of 10.32%, and an assumed rate of return of 8% as the liability, and compared that to a theoretical portfolio composed of cash, the Lehman Aggregate, theS&P 500 and the MSCI EAFE International.
Under the asset allocation model, the return was 3.59% to October, meaning that ifa pension scheme used the Treasury STRIP measure, they were underperforming by5.7%, under the Pension Bill standard, they were short 6.73% and under the assumed rate of return of 8%, they were short 3.08%.
“The year 2004 is another tough year for pensions, no matter what pricing methodologyis used for liabilities,” the firm noted in a commentary accompanying its report.
The error that pension funds make is in selecting estimates that do not match marketrates that can be purchased. Currently, treasury bills yield rates from 2% for short maturities and 5% for long maturities, which fall far short of assumed rates.
“If the discount rate is not purchasable, it is not real and leads to growth rate and present value distortions,” the firm said. “It is obvious that pensions are using too high a discount rate making the assets think they do.”
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