Pension funds are suffering from low interest rates as reported in the media.

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landlord

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Pension funds are suffering from low interest rates as reported in the media.

Why is this ? I am trying to understand this.

Pension funds I believe are made up of cash, bonds and equities (anything else?)

I understand cash held on deposit is yielding almost nothing. (A negative for the funds).

However with the central banks purchasing bonds their values are increasing. (Positive for the funds).
Although their yields are declining and are even negative in some cases). (Negative for the funds).

General world equities recently have been performing quite well. (A positive for funds).

What am I missing?
Thanks.
 
Lower LT interest rates means lower discount rates, meaning that future liabilities have higher present values.
 
landlord said:
However with the central banks purchasing bonds their values are increasing. (Positive for the funds).
Although their yields are declining and are even negative in some cases). (Negative for the funds).
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The prices of existing bonds is rising, yes, as CB buy them. So positive returns, yes.

But over time, existing bond assets mature, and the pension fund buys new bonds, with much lower coupons/yields.
 
Protocol said:
The prices of existing bonds is rising, yes, as CB buy them. So positive returns, yes.

But over time, existing bond assets mature, and the pension fund buys new bonds, with much lower coupons/yields.
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Aghh thanks....this makes sense!!!

Protocol said:
Lower LT interest rates means lower discount rates, meaning that future liabilities have higher present values.
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I don't understand this?
 
Protocol said:
Lower LT interest rates means lower discount rates, meaning that future liabilities have higher present values.
Click to expand...

landlord said:
I don't understand this?
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Say the pension fund has a liability to pay me €30,000 a year for the next 30 years.

It needs to have a certain amount in the fund to be able to pay that.

If it expects to get a return on its investments of 20% a year, it would need, say, €150,000.

If it expects to get a return of zero on its investments, it would need €900,000.

So the lower the expected the return, the higher the present value of its future liabilities.
 
Jim2007 said:
Are most Irish pension funds Defined Benefits then???? Otherwise no such liability exists.
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No liability exists for a scheme without defined benefits but low interest rates are still a big problem. People will struggle to make enough contributions to provide an adequate retirement income (which I think has been the focus of the press commentary this week).

At 0% return, €6,000 a year will accumulate to €240,000 after 40 years.
At 5% annual growth, €6,000 will grow to €760,000 after 40 years.
At 20% annual growth, €6,000 a year will grow to €53M (gotta love compound interest...).

And then the double-whammy of the problem occurs - making the money last in retirement (which is similar to Brendan's example above but reversed - funding an annual income from a pot of money so that it lasts until death).

In the 0% growth world, the €240,000 would give €8K annually for 30 years.
In the 5% growth world, the €760,000 would give about €50K annually for 30 years
In the 20% growth world, the €53M would give about €10.6M (!) annually for 30 years

The 20% annual growth example is obviously a bit wacky. But the difference between the 5% growth and the 0% is not a million miles from the problems facing employers and employees in providing retirement income. The difference in this example is €50K dropping to €8K - i.e. it's over 6 times more expensive to provide the pension in a 0% world than in a 5% world. (And the example above doesn't allow for mortality improvements - in the old higher growth world, the pensioner would not have lived as long making the pension even cheaper to provide).

It's no wonder defined benefit schemes are closing down - they are just way way too expensive.
 
A real return, after all investment costs, of 0% over the coming decade would actually not be a terrible outcome for a pension fund/ARF when you consider that $8.73 trillion of developed market government debt now carries a negative yield and global equities look fully valued by most measures.
 
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Orka , Questions for you please.

Retiring today , want fund to last 20 years ie 240 months.

How much monthly would I get , on each 100,000 in pension pot, ..No indexing and no dependant.
1. At 2% = 506 per month.
2. At 3% = 555 per month.
3. At 4% = 606 per month.

Are my assumptions on payout reasonably ok?
Are annuity rates about 3.5% at present ?
 
orka said:
People will struggle to make enough contributions to provide an adequate retirement income (which I think has been the focus of the press commentary this week).
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Failing to make sufficient contributions and using unrealistic rates of return is why Irish pension funds are whacky!

In nearly 30 years here (Switzerland) I've never seen any professionals run pension simulations with any rate above say 2.5% and that assumes contributions running from about 14%pa at 25 years old up to 36%pa at 45+
 
Gerry Canning said:
So would my 2 % to 3% be close to realism !
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No. For the reasons given here.

Sarenco said:
A real return, after all investment costs, of 0% over the coming decade would actually not be a terrible outcome for a pension fund/ARF when you consider that $8.73 trillion of developed market government debt now carries a negative yield and global equities look fully valued by most measures.
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The high court gave the matter detailed consideration nearly 2 years ago and came up with a rate of 1%.

Link here http://www.irishtimes.com/news/irel...t-may-add-100m-to-state-claims-bill-1.2043263

While no one can foretell the future, any assumption above 0% has no defensible basis.
 
Gerry Canning said:
Orka , Questions for you please.

Retiring today , want fund to last 20 years ie 240 months.

How much monthly would I get , on each 100,000 in pension pot, ..No indexing and no dependant.
1. At 2% = 506 per month.
2. At 3% = 555 per month.
3. At 4% = 606 per month.

Are my assumptions on payout reasonably ok?
Are annuity rates about 3.5% at present ?
Click to expand...
Those numbers are correct for paying those monthly amounts for 20 years from a 100K pot and with a net return of those interest rates.

I'm not sure what annuity rates are at the moment but 3.5% doesn't look crazy. The Irish Life website showing how much you need to save for retirement seems to use an annuity rate of 3.5%-4%.

One other factor at the 'growing the fund' stage is expenses. Again on the Irish Life website, you can pick your growth rate assumption - it defaulted to 1.5% when I opened the page - but there is a little note at the bottom saying that 1% will be taken as management expenses. So for a gross 1.5% growth rate, your fund will only grow at 0.5%...
 
Jim2007 said:
Are most Irish pension funds Defined Benefits then???? Otherwise no such liability exists.
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Many people use their pension to fund annuities, effectively turning them into defined benefit schemes. The prevailing interest rate at the time of purchase has got a massive bearing on the annual yield, as Gerry's maths illustrates.
 
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