In May, pension plan sponsors experienced rising liability discount rates, as interest rates moved close to year-to-date highs. However, losses from global public equities put downward pressure on the funded status for many corporate pension plans. Plans likely experienced gains in funded ratios due to lower liabilities from increasing liability discount rates. The Treasury yield curve experienced increases across all tenors for the month with the largest increases occurring at shorter maturities. Total-return-focused plans likely experienced gains in funded status due to lower liabilities which were partially offset by asset losses fueled by declines in equity markets. NEPC’s hypothetical total-return pension plan experienced a funded status increase of 3.4% compared to an improvement of 0.7% for our LDI-focused plan.
Rate Movement Commentary
The Treasury yield curve increased by approximately 20 basis points in May, and remained inverted from the one- to 10-year tenors. The 10-year yield increased 20 basis points to 3.64%, while the 30-year yield was up 18 basis points to 3.85%. Rates for tenors up to 15 years have now increased year-to-date. Long and intermediate credit spreads rose in May.
The movement in Treasury rates and credit spreads resulted in an increase in the pension discount rates used to discount pension liabilities. The discount rates for NEPC’s hypothetical pension plans were up approximately 26 basis points for the open total-return plan rate at 5.24%, while the discount rate for the frozen LDI-focused plan was 5.15%.
Plan Sponsor Considerations
Equity markets were generally lower in May while fixed-income markets also experienced losses due to higher Treasury rates. Treasury yield volatility picked up last month with the yield curve shifting higher and remaining inverted between the one- and 10-year tenors. Modest increases in credit spreads resulted in slightly higher discount rates used for valuing pension liabilities. At NEPC, we anticipate continued market volatility and the potential for market disruption. Plan sponsors should remain diligent about monitoring sources of change in funded status versus expectations as equities and interest rates are likely to remain volatile. This includes closely monitoring hedge ratio ranges to avoid becoming overhedged to interest rates with a flatter yield curve.
Market Environment and Yield Curve Movement
In May, U.S. equities gained 0.4%, according to the S&P 500 Index. During the same period, non-U.S. stocks underperformed U.S. equities with international developed markets losing 4.2%, according to the MSCI EAFE Index. Emerging market equities were down 1.7% last month, according to the MSCI EM Index. Broadly, global equities lost 1.1% during the same period, according to the MSCI ACWI Index.
The Treasury curve increased by approximately 20 basis points from April to May at all tenors and remained inverted from the one- to 10-year tenors. This resulted in losses for fixed-income markets, with long-credit fixed income experiencing modest losses due to wider credit spreads. In May, the Bloomberg Long Treasury Index was down 2.8% and the Bloomberg Long Credit Index declined 2.7%.
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