How are DB plans navigating the volatile market? MetLife expert shares insights

The volatile market is creating ongoing shifts in the funded status of America’s defined benefit pension plans, so how are plan sponsors navigating the choppy waters?

Strategies are being redrawn to manage the situation following a period of relative stability and InvestmentNews has been finding out more from MetLife Investment Management’s lead LDI strategist, Jeff Passmore, who says there has been a confluence of events that have reinforced plan sponsors plans for derisking pension asset allocations.

“Equities have experienced multi-year above average returns. Four of the last five and seven of the last ten years have had double-digit stock returns. This has improved funded status for pensions and given many the opportunity to derisk that they have been waiting for,” he says. “Rates have reached levels not seen since the financial crisis. Since August of 2023, rates have consistently been above 4%. Most expect that the next significant rate move will be lower. The Fed’s pause has extended the derisking opportunity. Finally, market volatility has made return focused investments look expensive due to increased risk.

Passmore says that how plan sponsors react to these trends varies depending on plan specifics.

“For those with plans at or near full funding, these events represent an opportunity to derisk. In general, this means a larger allocation to bonds and a smaller allocation to stocks,” he explains. “For those who already have a large allocation to fixed income, adding more bonds represents an opportunity to add diversifying segments of the fixed income market and optimize their risk/return. For those who are extremely well funded, some are considering allocating excess assets to a surplus portfolio that is invested in return seeking equities and alternatives. We are also seeing some think more about illiquidity.”

 Balancing equity exposure with long-duration fixed income and private credit is a key part of the decision making process for most plans that are in the typical range of being slightly underfunded up to slightly overfunded, where Passmore says the move is from equities and into fixed income.

“This is a continuation of a multi-year derisking trend,” he says. “It is also opportune given higher rates, as bonds are cheaper and have higher expected future returns. Sponsors are also looking to add private credit to their bond allocations, especially investment grade private credit. Added to pensions in the right proportions, private credit offers a compelling mix of reliable cash flow, capital preservation, low volatility, diversification benefits, and attractive yield premiums.”

With the possibility of interest rate cuts ahead, how should fully or near-fully funded plans prepare for potential shifts in liability valuations?

“Many plans would benefit by adding bonds to their portfolios,” says Passmore. “If rates move lower, the additional duration will be additive to returns. For plans that have interest rate sensitive liabilities, like corporate pension plans, this additional asset duration would hedge the liability impact of lower rates.”

 The strategist says that the interest in plan termination seems steady since 2022 when the Fed raised rates and since then there has been a consistent flow of plans towards termination.

“For most, plan termination was a matter of when not if (e.g., waiting for higher rates to make termination costs more affordable). Plan termination is a 12-18 month process, so it takes a while for plans to move from decision to terminate to the final step in the sequence,” he explains. “For most this is an annuity purchase. Some are re-thinking their previous intent to terminate. With several years of effective pension volatility management using liability driven investing, some are more comfortable managing the plan on an ongoing, derisked basis.”

 MetLife Investment Management is suggesting a thoughtful approach, starting with a projection of where funded status is likely to go in the future.

“It can be surprising how quickly a small surplus can grow into a large surplus, especially for a closed and frozen plan. It’s also important to consider the liquidity needs of the plan. How will benefit payments grow in proportion to plan assets? Will the plan need liquid assets to complete a pension risk transfer? Knowing how the plan is likely to evolve over the next five-to-ten years can inform investment decisions for surplus,” Passmore says. “One approach that seems to make sense is to use some amount of plan assets to hedge the liability, this amount is often less than 100% of the liability. Then use the remainder to grow the surplus. This growth strategy can open exciting opportunities for effectively using surplus and can give new life to the pension.”

 Looking ahead to the second half of 2025, what are the top priorities or concerns for DB plan sponsors that Passmore and the team are keeping an eye on?

“It will be interesting to see how the second half plays out. We hope for a benign and supportive economic and investment environment but also want to be prepared for potential downside risk that may evolve,” he says. “Especially for those clients who have had a plan to derisk, we want to help them optimize and execute on those plans while the markets are supportive.”