Market’s Performance Boosts Pension Fund Health

Guild Investment Management  |

Interest rates are rising, and 2013 posted strong performance for equities. These two facts mean that the health I of many large U.S. pension systems has improved dramatically. That has implications for the broader health of companies with big pension obligations.

Since 2008, economic conditions have been very difficult for pen- sion fund managers, and many funds have been in deficit. That means that as companies looked forward, they had to allocate more of their of cash to meet their pension obligations. A company whose pension is fully funded has more free cash to use for other purposes -- such as expanding ca- pacity, pursuing research and development, buying back shares, or paying dividends. The rebound of America’s big-company pension systems bodes well for the year. One analyst has estimated that improved pension health could add almost a percentage point to earnings-per-share growth for S & P 500 companies in 2014.

The chart below tells the story: after the 2008-2009 crisis, companies had to shovel money into their pension plans as interest rates fell and markets underperformed. That trend started to reverse in 2012 (and strengthened its reversion in 2013):


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Better Returns Ahead on Investments

And it’s the improving market -- rising rates, better returns from equity investments -- that’s driving this picture. When pension fund managers plan how much they need to invest, they assume a “discount rate” -- typically the rate of return from a safe corporate bond. And after falling steeply from 2008 to 2012, that rate finally began to rise.

Good News For Pension Providers… and Stock Holders

This trend, we believe, will continue in 2014. Interest rates will rise, and the stock market will continue to perform well -- so the health of pensions will continue to improve.

A further side effect of this process is the weighting of pension funds’ investments. As you would predict, dur- ing the aftermath of the financial crisis, fund managers weighted fixed-income investments more heavily in their portfolios. Now that equity markets are performing better, that weighting is shifting more towards equities:

To us, this means more big institutional money will be flowing into U.S. stocks.

Bullish Data Points

Taken all together, these data points provide an encouraging picture. Healthier pension funds mean more pro- ductive companies with more flexible capital structures; possibly more dividend payments, stock buybacks, and productive use of capital; and heavier pension fund equity weightings helping support demand for stocks.

DISCLOSURE: The views and opinions expressed in this article are those of the authors, and do not necessarily represent the views of Readers should not consider statements made by the author as formal recommendations and should consult their financial advisor before making any investment decisions. To read our full disclosure, please go to:

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