(The author is a Reuters Breakingviews columnist. The opinions
expressed are his own.)
By Robert Cole
LONDON, July 4 (Reuters Breakingviews) - Not everyone is
fretting about rising bond yields. While bondholders don’t like
lower capital values and borrowers worry about higher costs,
sponsors of defined-benefit (DB) pension plans are generally
very happy, even if the plans have big bond portfolios. They can
thank the accountants.
Why? Standard practice is to translate the expected sum of
future pension payments into a current value by totting them up
and then applying a discount factor to capture the present value
of future cash. The discount rate applied is usually the
prevailing bond yield.
Higher yields reduce this present value. Over the last year,
the yield on 10-year U.S. Treasuries has risen from 1.5 to 2.4
percent. That reduces the sum needed to fund a $1,000 liability
due in ten years from $862 to $781.
Given that worldwide defined-pension-plan assets are
estimated at $16 trillion, the implication for liabilities is
enormous. Analysts at Goldman Sachs calculate that, if yields
move as they expect, UK pension liabilities could decline from
1.3 trillion pounds to 1 trillion pounds by the end of 2016. For
some pension schemes that were struggling with massive deficits,
it may be the difference between reported disaster and
actuarially endorsed equilibrium.
The choice of bond yield as the discount rate is not
entirely illogical. But the relationship between yields,
inflation and investment returns is complex, especially when
bonds are under the influence of financially repressive monetary
The current government-bond rate may actually be too low.
Some blend of equity and fixed-income returns might better
reflect pension funds' asset-allocation positions. On the other
hand, the sponsors’ current relief cannot change the reality
that defined-benefit pensions are an open-ended commitment of
uncertain size. The accounting adjustment does not justify
complacency about funding or riskier investment strategies.
The future lasts a long time, so assumptions are likely to
be changed many times between now and then. The funding picture
remains uncertain and fraught.
SIGN UP FOR BREAKINGVIEWS EMAIL ALERTS:
- The yield on 10-year U.S. Treasury bonds, which hovered
around 1.5 percent in June and July last year, has recently
risen to 2.5 percent. The yield on 10-year UK government bonds,
which sat at 1.6 percent on May 6, 2013, has climbed to 2.4
- A report published on July 2 by Goldman Sachs, the
investment bank, stated: “Falling bond yields have weighed on
pension fund and insurance company solvency over recent years,
and rising bond yields are therefore a clear positive as their
liabilities are discounted more”.
- The Towers Watson Global Pension Assets Study for 2013
valued the worldwide total invested in retirement schemes at
$29.7 trillion. About 17 trillion is in U.S. schemes, with
another 3.7 trillion in Japan and 2.7 trillion in the UK. The
same study indicated that 55 percent of the worldwide total is
held for defined-benefit schemes and 45 percent for
- Towers Watson study link.reuters.com/zyk49t
- For previous columns by the author, Reuters customers can
click on [COLE/]
(Editing by Edward Hadas and Sarah Bailey)
Keywords: BREAKINGVIEWS YIELDS/
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