Defined Benefit Plans: Crystal Ball Not Needed to Meet Funding Objectives
New analysis from The Principal outlines an asset allocation strategy for any interest rate environment
December 10, 2013 (Des Moines, Iowa) — A new report identifies a fixed income strategy for defined benefit plan sponsors that may work no matter what interest rates do. Myth Busting: It may be possible to reach DB plan objectives regardless of interest rates, reveals the surprising results of an analysis by the Principal Financial Group®.
Fixed income allocations are closely tied to interest rate levels but no one can accurately predict whether they will rise or fall. The uncertainty can leave plan sponsors open to unnecessary risk and potentially higher cost.
The study put three fixed income strategies to the test in three interest rate scenarios—rising, falling and staying the same—over a 10-year period. The strategies were evaluated on the impact to funded status and total accounting cost.
"Contrary to conventional wisdom, our analysis finds that a middle approach to bond duration will, under a broad range of economic outcomes, lead to the best combination of the lowest consistent cost, the least volatility and the highest return," said Barry Young, consulting actuary of retirement and investor services at The Principal®, the number one provider of defined benefit plans . "Instead of basing fixed income strategy on an estimate of where interest rates will head, plan sponsors could use this bond duration approach to meet objectives in any interest rate environment."
The report finds a combination of core and very long bonds that match a plan's liability duration comes out on top in a significant percentage of interest rate scenarios.
"These findings are a call-to-action for defined benefit plan sponsors and their financial professionals to evaluate and maybe modify their fixed income strategy," said Young. "For those without a crystal ball, choosing middle approach may lead to the best results."
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About the Principal Financial Group
The Principal Financial Group® (The Principal ®) is a global investment management leader offering retirement services, insurance solutions and asset management. The Principal offers businesses, individuals and institutional clients a wide range of financial products and services, including retirement, asset management and insurance through its diverse family of financial services companies. Founded in 1879 and a member of the FORTUNE 500®, the Principal Financial Group has $466.2 billion in assets under management and serves some 19.0 million customers worldwide from offices in Asia, Australia, Europe, Latin America and the United States. Principal Financial Group, Inc. is traded on the New York Stock Exchange under the ticker symbol PFG. For more information, visit www.principal.com.