$20 billion club strategy series – Investment policy

Executive summary:

• Investment policy is one of three major levers that plan sponsors can pull to impact the trajectory of their DB plans. It is used to instruct how plan sponsors want their plan assets allocated, and specifies what objectives and constraints guide this decision.
• Since we began tracking this data in 2011, there's been a notable de-risking trend among large pension plan sponsors. In 2023, the average asset allocation among club members consisted of roughly 45% return-seeking assets and 55% fixed income assets—a near reversal from a decade earlier. 
• In 2023, the average expected long-term return on assets (ELTRA) for the $20 billion club rose for the first time since we began monitoring the group, with 63% of members increasing their ELTRA assumptions.

The $20 billion club is a group of pension plans near $20 billion and more in global pension liability. We have been reporting on this group since 2011, pointing out how and why the funded status has changed as well as how these sponsors’ strategies for managing risk have evolved over time.

When it comes to defined benefit (DB) plans, there are several major levers available to the plan sponsor to help successfully manage the costs, benefits, and risk of their plans. At the broadest level, we split these into three polices: investment, benefits, and funding policies. These levers are often closely intertwined and pulling one lever can lead to adjusting another. What each of these policies aims to achieve is:

1. Investment policy - This lays out how the assets and contributions go to work for the sponsor

2. Benefits policy - This directly impacts plan participants’ benefit accruals

3. Funding policy - This determines the contributions made by the sponsor to pay for those benefits

The intertwined nature of pension management can lead to wide ranges in how each of these policies is set and adapted.

In this article, we’ll delve into the first of these three levers—the plan investment policy within the $20 billion club and what has transpired in recent history. We’ll follow up with subsequent articles on benefits policy and funding policy.

How has investment policy evolved over time among $20 billion club members?

The investment policy is used to instruct how the plan sponsor wants its plan assets allocated and specifies what objectives and constraints guide this decision. Since we began tracking this data in 2011, there has been an overall shift in asset allocation in the pension industry.

Plan sponsors used to largely invest with a traditional asset-only focus, which has slowly evolved into an asset-liability focus. There are several important advantages for plan sponsors to invest the pension assets in this liability-centric way, not the least of which is a decreased volatility in the plan surplus (the difference between assets and liabilities). In the past we have discussed how this trend has worked its way through the $20 billion club, and this year we have crossed an interesting milestone. In illustration of the evolution from asset-only to asset-liability investing, the mix of return-seeking versus fixed income assets has flipped from roughly 60/40 (return-seeking/fixed income) to now be 40/60. Exhibit 1 illustrates how the average asset allocation of the club for the period from 2011 to 2023 has evolved during this timeframe.

Exhibit 1: Average actual asset allocation 2011-2023


Source: 10-k filings. Annual averages are based on the $20 billion club membership in the given year. 

Over the past decade, the average amount of fixed income assets has slowly been on the rise and equities have been on the decline. For many plans, this type of asset allocation move is the result of an increase in funded status and is pre-planned through a glidepath. Due to how DB plan liabilities are measured, they behave in a very similar manner to fixed income assets. By increasing the amount of fixed income held by the plan, the assets will begin to behave more like liabilities. The more the assets behave like the liabilities, the less the surplus will fluctuate. Since 2011, the average amount of fixed income assets has increased by 17%. Moving from an asset allocation of 60/40 to 45/55 is not an insignificant move and illustrates a deliberate move toward assets that behave more like the liabilities.

In 2023, the de-risking trend continued, with target asset allocations decreasing equity allocations by about 2% on average, fixed income increasing by about 1%, and other assets by about 1%. It is important to distinguish the difference in these targets from the actual allocations shown in Exhibit 1. Actual allocations are subject to market movement and these jumbo plans can fall victim to their size in how quickly actual allocations move toward targets, especially with private asset illiquidity. The target allocations give a good idea of the intended strategic asset allocation and tend to be stickier than actual allocations. A few notable moves in 2023 can be seen in Exhibit 2:

Exhibit 2: Notable target asset allocation activity in 2023

From Exhibit 2, one sponsor that appears to buck the trend of the rest of the $20 billion club members is General Motors and its reduction in its fixed income target allocation. However, this seems to be in an effort to increase the “other assets” category, which does align with the general trend we are seeing. This also does still keep General Motors’ fixed income target allocation above the actual average allocation of the group. Importantly, this will be something to keep an eye on as we continue to track these sponsors.

An interesting outcome over the past decade is the use of “other assets” in the asset allocation. These assets are often viewed as diversifiers and range from real estate and real assets to hedge funds and private markets. Since we have been gathering information on these plans, the amount that is allocated to these assets has stayed relatively consistent, hovering just under 20% of total plan assets. However, when considered within the greater context of the move from equity to fixed income, a greater percentage of the return-seeking assets are coming from these “other” investments, now making up over half of return-seeking assets. Time will tell if this is a persistent effect, or the result of illiquidity issues introduced in the 2022 downturn.

A key metric that is tied to the asset allocation and the investment policy is the expected long-term return on assets (ELTRA). In broad terms, the ELTRA assumption is useful only in the calculation of pension expense, which may be more or less important for a given company. Over the past decade, every member of the $20 billion club has reduced its ELTRA and very few have increased it year-to-year during that period. However, that changed dramatically in 2023, with 63% of members increasing their ELTRA and only three decreasing (all of which had increases in their fixed income target allocations of at least 4%). This is the first time the average ELTRA for the $20 billion club has increased since we began monitoring this group. However, in the context of the large rise in fixed income yields in 2022, this is not completely unexpected. Exhibit 3 illustrates this downward trend on the assumption over time.

In 2023, 12 companies increased their ELTRA assumptions. Interestingly, the plan sponsors that increased their ELTRA assumptions didn’t do so on the margins, but averaged a nearly 95-basis-point (bps) increase to their assumption. The top end of the increases came from Caterpillar at 180 bps, followed by 3M at 150 bps.

Exhibit 3: ELTRA assumptions since 2011


Source: 10-k filings. Based on the $20 billion club membership in the given year.

What does this all mean for your DB plan?

As mentioned, the different levers available to plan sponsors are often interconnected, but for the investment policy, the trend continues to be one toward de-risking plan assets. This is in the face of funding regulations like the American Rescue Plan Act and the Infrastructure Investment and Jobs Act, which have provided plan sponsors the ability to take contribution holidays and potentially incentivize increasing risky assets in the plan.

Outside of exceptional client circumstances and goals, at Russell Investments, we have a strong belief in a similar approach that the members of the $20 billion club have taken for closed and frozen plans. This is one of the reasons we advocate for implementing a glidepath in the investment policy statement. As a plan approaches full funding, we view it as a good idea to lock in your wins by moving from growth-oriented to liability-hedging assets, which will ultimately reduce the plan’s surplus volatility. When starting this transition, it can be even more impactful to use longer duration fixed income assets like treasury STRIPs, or even synthetic rate exposure through Treasury futures. Perhaps there’s been no greater time to de-risk pension plan assets than now given the level of interest rates and the boost in ELTRA assumptions.

A note on $20 billion club membership

Over the past several years, inclusion in this group of mega-plans could have increased a few times due to falling interest rates, which caused liabilities to soar. However, we have kept this group stable in the past to maintain a certain level of consistency. While the last couple of years have been exceptional in many ways, the impacts have arguably been reflected more keenly in the DB plan space than in many other areas due to the dramatic decline in liabilities. We have used this as an opportunity to refresh the membership of our $20 billion club. The most recent list of 21 companies—many of which have long been members of the club—can be found in our 2024 update. We expect this list to continue to evolve over time.