The government and financial regulators warned that low returns on defined benefit (DB) retirement pensions are widening the burden on companies and threatening workers' benefit rights. They said employers should raise DB returns with advice from pension providers and adopt strategies that match the duration of retirement benefit liabilities with that of managed assets.
The Financial Supervisory Service (FSS) and the Ministry of Employment and Labor said on the 26th, in a guidance document on DB pension management, that the average annual return on DB plans last year was just 3.5%. That trailed the 8.5% return on defined contribution (DC) plans and the 9.4% on individual retirement pensions (IRP). An FSS official said the gap reflected conservative management practices, with employers heavily concentrated in principal-and-interest-guaranteed products (91.9%) rather than diversified asset allocation.
Under a DB plan, the retirement benefit a worker will receive is set in advance, and the company manages the reserves. Because DB participants receive an amount calculated by multiplying their final monthly salary by their years of service, the returns on DB reserves function much like earning a yield equal to the annual pay increase each year.
Over the past five years, the cumulative return on DB reserves was 15.9%, while cumulative wage growth over the same period was 18.9% — leaving DB returns 3 percentage points below wage growth. From an employer's perspective, if DB reserves do not generate returns matching wage growth, the employer must pay in additional reserves to cover the difference. In other words, employers need to set a target return on DB reserves at or above their workers' rate of wage growth.
The FSS and the labor ministry also urged companies to adopt management strategies that align the investment horizon and structure of their assets with the timing of benefit payouts — matching the duration of retirement benefit liabilities with that of DB managed assets.
Last year, workers' average length of service was 7.1 years. If benefits must be paid after 7.1 years, the duration of the liability is 7.1 years. Since 83% of the principal-and-interest-guaranteed products used in DB plans mature within three years, asset duration can be seen as two to three years. If asset duration is not adjusted closer to 7.1 years, retirement benefit liabilities can grow faster than assets, adding to the burden on companies.
Because DB plans require professional management — including setting target returns and matching the duration of retirement benefit assets and liabilities — it is important for employers to make active use of advice and support from pension providers. In particular, employers with 300 or more regular workers must draw up an Investment Policy Statement (IPS) covering target returns and reserve management methods to run their DB plans.
The labor ministry plans to select and reward model employers and providers for DB reserve management around the end of the year. At the same time, it plans to conduct regular oversight of workplaces with underfunded reserves and to pursue effective sanctions, including fines. The FSS plans to send documents individually to pension providers to encourage them to play an active consulting role in helping employers manage their DB plans.
