Businesses in recent years have invested a greater proportion of their plans in fixed-income securities, which are considered safer bets than assets such as equities, commodities, private equity and real estate. S&P 1500 companies invested 51% of their plan funds in fixed income in 2021, up from 50% a year earlier and 42% a decade earlier, according to consulting firm Mercer LLC.
That, coupled with volatile equity markets, has resulted in lower investment returns. The 100 largest U.S. pension plans generated average returns of 8.3% in 2021, down from 14.6% in 2020 and 19.5% in 2019, advisory firm Willis Towers Watson PLC said. Fixed-income securities such as U.S. Treasury securities and investment-grade corporate bonds generally offer little yield.
Now, a small but growing number of companies are considering adding investment-grade private debt to their fixed-income portfolios, which offer something of a middle ground, pension advisers said. Others, however, are sticking to traditional fixed-income investments.
“As companies look to continue to earn the returns for their programs, they are looking to pull all levers they can," said John Delaney, senior director and portfolio manager at Willis Towers Watson.
Investment-grade private credit instruments are bonds that companies and other entities issue to investors outside the public markets. They provide a higher yield than some other fixed-income securities but are generally less volatile than equities, Mr. Delaney said.
Motorola Solutions Inc. is one of the companies exploring this avenue. The Chicago-based communications-equipment provider plans to invest about $100 million in investment-grade private credit over the next two to three years, on top of the $50 million it has deployed since 2019, Chief Financial Officer Jason Winkler said. The company plans to include the private credit to help boost its returns and diversify its portfolio, Mr. Winkler said.
“We’ll continue to look at opportunities there, but our path to $150 million is the current allocation that we are comfortable with," Mr. Winkler said. Motorola said its U.S. pension plan was 81% funded at the end of 2021, up from 78% a year earlier.
Motorola’s U.S. pension assets totaled $4.08 billion in 2021, up 13.4% from the previous year, according to a regulatory filing.
The company said it had allocated 58% of its plan investments to fixed income—mostly corporate bonds—at the end of 2021, the same as the previous year. Motorola’s returns on private credit last year exceeded those of its public fixed-income assets, Mr. Winkler said.
Sponsors of defined-benefit pension plans, which promise fixed payouts to retirees, increased investments in private placements by 25% in 2021 compared with the previous year, according to client data by Voya Financial Inc.’s investment arm, which manages $268 billion in assets. The company declined to provide the dollar value of these investments.
“Private placement checks all the boxes in terms of getting you that yield," said Oleg Gershkovich, a pension-liability strategist at Voya. The public investment-grade bond market issued around $1.7 trillion last year, whereas the private-placement market issues roughly $100 billion a year, a Voya analysis found.
The expected return on investment-grade private credit is roughly 0.50 to 1 percent higher than that of public credit instruments, said Matt McDaniel, a partner at Mercer.
But the market is less liquid than its public credit counterpart, meaning it can be more expensive to invest, Mr. McDaniel said. That is because investors in private credit need to do more due diligence and negotiate deal-specific credit protections.
“The two main benefits are a slightly higher yield and added diversity to the portfolio," said Russ Ivinjack, chief investment officer at professional-services firm Aon PLC, referring to private credit.
Funding levels of corporate pension plans have soared since the early days of the coronavirus pandemic in 2020, when they fell compared with the prior-year period. Defined-benefit plans had an aggregated funding status of 100% at the end of March, up 5 percentage points from a year earlier, Mercer’s review of S&P 1500 companies showed. That is the highest since May 2008.
Long-term corporate bond yields, also known as discount rates in the pension world, are expected to climb this year, as the Federal Reserve continues to raise interest rates. This would push up funding levels even more. Higher interest rates mean companies need to set aside less capital to fully fund their obligations because the present value of future pension payments shrinks. Better funding will likely lead companies to make more fixed-income investments, advisers said.
Duke Energy Corp. will consider shifting more assets into its fixed-income portfolio as its plan’s funding level grows, a spokeswoman said. The Charlotte, N.C.-based utility said its pension plan had a 60% allocation in fixed-income assets at the end of 2021, up from 55% a year earlier. The utility doesn’t use investment-grade private credit, the spokeswoman said.
Duke, whose plan was 112% funded at the end of last year, invests in investment-grade corporate and Treasury bonds to offset fluctuations in the size of its liabilities, the spokeswoman said.
Aluminum producer Alcoa Corp. would invest in more fixed-income assets if its U.S. plan’s funding status, which is already in excess of 100%, were to grow further, CFO William Oplinger said. The Pittsburgh–based company said it last year allocated 58.7% of its investments to fixed income, up from 43.7% a year earlier.
“We invest in a wide variety of intermediate and long-term U.S. government and investment-grade corporate credit instruments in our liability hedging portfolio," Mr. Oplinger said, adding that the company doesn’t put money in investment-grade private credit instruments.
This story has been published from a wire agency feed without modifications to the text
