DB pension schemes adapting to change as paths for global retirement diverge, BlackRock study finds

Common challenges, diverging paths, a study based on a survey of 300 senior executives at corporate and non-corporate pension plans as well as interviews with prominent CIOs, finds a common emphasis on evolving governance and investment policies in response to the economic, financial and demographic challenges both groups face. At the same time, the research highlights contrasting areas of focus. On the corporate side, de-risking, possible endgames, and cross-border coordination at multinationals top the agenda. On the non-corporate side, enhancing the ability to invest in private assets is a major focus.

Edwin Conway, Global Head of BlackRock’s Institutional Client Business, commented: “Pension leaders today are on the front lines of a historic and urgent transition in how societies provide for retirement. Managing this changing environment, seeking efficient and higher-yielding investment styles and tackling challenges stemming from new regulatory and governance regimes will be key for both corporate and public pension schemes. While in many areas their paths are diverging, they both play a crucial role in reshaping global retirement.”

Common challenges for governance and risk

Over the last three years there has been a heightened emphasis on governance and investment policy among both corporate and non-corporate pension plans, with concerns about managing risk and being appropriately rewarded for it top of mind for many. Nearly three quarters (74%) say they created or revised a risk appetite statement in the period, and 72% say they created or revised an investment belief statement. Around 70% enhanced risk analytics, while 69% sharpened scrutiny of investment fees.

By far the biggest barrier to changing governance and investment policy, for both corporate and non-corporate plans, is a lack of financial resources, cited by 65% of participants.

Derisking, coordination and the endgame for corporates

The survey revealed that nearly three out of four (73%) corporate DB plans have a de-risking strategy in place, with the proportion rising to four out of five in the U.S. and nine out of ten in the UK. However, the largest plans ($25 billion-plus in AUM) are more than twice as likely to have a de-risking plan as the smallest ones (less than $10 billion in AUM).

More than half of the corporate plans that are de-risking, expect their endgame will entail immunization—that is, getting the plan to the point where it is self-sustaining—and runoff on the balance sheet.

Risk transfer deals are seen as a partial solution. Many CIOs point out that the potential appetite for risk transfer deals far exceeds the current capacity of insurers to take them on, and that demand for hedging instruments themselves may well outstrip supply as more funds move into runoff mode.

The survey also found that 78% of corporate plans globally have already taken steps towards cross border coordination of DB plans. Of those, two in five (39%) have employed common investment strategies or managers, while an additional 26% have adopted common strategic asset allocation for some or all plans. Only about a tenth (11%) of the participants say they have actually consolidated assets and one fifth (22%) of corporate plans do not expect to see any cross border coordination.

Consolidation pressures on smaller non-corporate plans is likely to increase. Only a small number of the noncorporate plans have completed a consolidation, and fewer than a fifth are currently consolidating or have plans to do so. At the same time, large funds are doing more than small ones to strengthen their organisations and add the resources needed in a more challenging climate. Larger schemes (those with $25 billion-plus in AUM) are more likely to have strengthened governance by revising the respective roles of board and staff. Particularly striking is the difference in staffing trends, with nearly three quarters of the large schemes saying they added staff but fewer than half of the smallest ones (those with AUM between $1 billion and $10 billion) having done so.

So while high-profile consolidations such as those in the UK may currently be more the exception than the rule, they might bode further activity.

A path to investment efficiency and increased private markets exposure

Pension plans are big users of index-based strategies. The majority of those surveyed say that 40% or more of their equities are managed through index funds. At the same time, more than a quarter manage 40% or more of their fixed income in index mandates and nearly three fifths of participants expect to increase in index-based equity or fixed income.

Almost three quarters (74%) of those surveyed use factor-based investment strategies. higher than the 61% who say they use factors to help understand portfolio risk and return, which was the biggest use of factors cited in a 2016 BlackRock-EIU survey on the topic. Majorities of both corporate and non-corporate participants expect to increase investments in factor-based strategies, with the non-corporates expressing the strongest interest. Among both corporate and non-corporate plans, factor use is heavier among the largest plans and mid-size plans are likeliest to increase allocations.

Edwin Conway continued, “Both types of pension schemes continue to seek alpha, but with more selectivity and attention to where such strategies are best rewarded. It is not surprising to see the number of pension plans investing in factor-based strategies, given the variety available, but we expect to see further growth in the number of plans that are using factors to inform their asset allocation decisions. Factors can be an important tool for pension plans in understanding their risk and return. The insight can be invaluable in determining which strategies are efficiently targeting plan goals, and which could be replaced by lower-cost, better-diversifying strategies.”

Finally, the BlackRock survey highlights the growing role that private assets are playing in the portfolios of public and other non-corporate plans as they take advantage of their long investment horizons.

The trend of rising allocations to private equity and credit, real estate and infrastructure seen over the past five years is continuing, as these funds seek diversification and potential premiums for bearing illiquidity and complexity risks. The survey shows that many of the non-corporate plans have taken steps to facilitate these investments, with 70% adjusting guidelines to permit a new private asset class and 65% adding investment professionals to focus on private assets.