The majority of sponsors we work with establish glide paths to automatically de-risk their asset allocations when they reach certain funded status “triggers.” The target asset allocation at certain funding triggers is approved by the sponsor and codified in the Investment Policy Statement (IPS). When the governance structure delegates the oversight and implementation of asset allocation to State Street, this allows us to quickly lock in the gains once a trigger has been reached, which narrows the range of future outcomes. Throughout the recent bull market, a number of our clients reached de-risking triggers based on market returns, contributions to take advantage of tax code changes, or both.
When markets sold off sharply in 2020, plans with higher portions of return-seeking assets found their asset allocations mismatched to their current funded status. Some found themselves falling back below prior triggers. The sell-off, combined with market dislocations and the opportunities they presented, has led to an increased number of discussions around re-risking.
There is an asymmetric bias for most investors (and pension plans in particular). Adverse and negative outcomes are disproportionately painful compared with the perceived benefits of favorable upside experience. And when re-risking is not codified in an IPS, the adjustment of strategic target allocations requires a difficult, deep discussion on costs and benefits. Specifically, when assessing whether to re-risk a plan, State Street factors the following considerations into its decision-making process.
- How well funded is the plan?
- Plan status: Is the plan open, closed, or frozen?
- Pension obligation in relation to company balance sheet: What is the sponsor’s tolerance?
- What is the plan’s contribution policy?
- What are the sponsor’s return hurdles and time horizon?
- What approvals are needed, and how time-sensitive are they?