Human Resources

Fed Action May Affect Benefit Costs

Additional defined benefit plan funding may be warranted if corporate bond yields drop.

February 01, 2011
KEYWORDS funding , liabilities
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CUs have funding cushion

Most credit unions have funded their defined benefit plans well beyond 100% of the plan's liabilities. They have a funding cushion that can absorb the increase in liabilities due to discount rate changes and investment fluctuations.

Although not required for well-funded plans, credit unions may consider additional funding in 2011 to offset some of the increased pension expense if interest rates drop.

Falling interest rates could also lead to increased interest in liability-sensitive investment strategies among plan sponsors. Such strategies are designed to immunize a plan’s funded status to some degree from interest rate changes in either direction.

But implementing and executing liability-sensitive strategies can be challenging, especially when interest rates are at extremely low levels and continue to be artificially suppressed by the Fed.

This is the Fed’s second attempt at quantitative easing since the beginning of the financial crisis and subsequent recession.

The first attempt was substantially larger and included purchases of U.S. Treasury securities, direct obligations of government-sponsored enterprises (Fannie Mae, Freddie Mac, and the Federal Home Loan Banks), and mortgage securities backed by the same agencies.

The Fed will reinvest an additional $35 billion of monthly proceeds from maturing mortgage-backed securities into more U.S. Treasury securities during this second round.

According to the Fed’s statement, information received since the Federal Open Market Committee met in September confirmed that the pace of the economic recovery continues to be slow.

Household spending is increasing gradually. But it remains constrained by high unemployment, modest income growth, lower housing wealth, and tight credit.

Kenneth W. Newhouse (ASA, EA, MAAA) and Scott D. Knapp (CFA) are directors of retirement plan services at CUNA Mutual Group.

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