2024 Pension Derisking: An In-Depth Interview with P&I

Nikki: Hello, I'm Nikki Perello, president and publisher at Pensions and Investments and I'm pleased to welcome Brett Cornwell, client portfolio manager and LDI strategist at Voya, who's joining me to discuss how plan sponsors are utilizing non-traditional fixed income assets in their portfolios. Welcome Brett. It's good to see you. 

Brett: Thank you for having me. I'm very excited about our conversation. 

Nikki: Yeah, thanks so much for joining me today. So Brett, over the past few years, there seems to be more buzz around the desire for plan sponsors to diversify liability hedging portfolios with non-traditional fixed income sectors such as investment grade, private placements.  What's all the buzz about?

Brett: The buzz? I love that word. Look, here's the buzz. The fact of the matter is that most plans have improved their funded positions over the last couple of years and by improvement we're seeing funded levels at levels we haven't seen in, in over a decade. 

And, and what that means is that plan sponsors are more and more focused on liability hedging. And then furthermore what that means is that typically when they're focused on liability hedging plan sponsors are doing things like allocating more to those hedging portfolios, which historically has consisted of things like investment grade, corporate bonds, public fixed income and extending duration or matching duration. In some instances durations have shortened, but maybe that's another topic for another day.   

So, you know, when we think about these ever increasing hedging portfolios and these higher allocations to public fixed income, what it's led to is more concentration within those names within the public fixed income universe, particularly corporate credit that we've seen. And so while they're on one hand, you know, managing the risk at least of the assets versus the liabilities, there's a secondary effect where we've started to see more risks within the portfolio. So for example, concentration risk. And so the buzz if you will, has really focused on are there ways to manage these other risks within the asset portfolio without eroding the efficacy of that hedging portfolio.   

And that is a key point. So you have to find tr these non-traditional sectors that have some benefit such as correlating to the discount rate or providing downside protection or potentially adding yield to the portfolio. And that's where you sort of cue these non-traditional fixed income sectors like investment grade private placements.   

So while they're private placements, for all intents and purposes it's corporate spread product. And so for that um, example, that's really what the buzz is about. You know, these sectors have been used within insurance companies for decades as they have sort of looked to manage the liabilities on their balance sheets. And so when we talk about these sectors, I would say the most common ones that we see today are, as we've mentioned, investment grade private placements, but also commercial mortgage loans, securitized credit.   

Those are the ones where we think plan sponsors can really take a page outta that insurance company's playbook and really focus on how they can maybe take a, a non-traditional approach to managing those liabilities and sort of manage some of those risks within their hedging portfolios today. 

Nikki: Thanks Brett. Yeah, we certainly know that DB plans in general have a much better funded status these days and in many cases it seems that that has led to concentration risks within their portfolios.   

So that's why they're certainly starting to think about managing risks within those portfolios a bit differently. And I think that's certainly highlighted the awareness for them to diversify those fixed income positions in many instances. So Brett, has Voya seen clients allocate to any of those non-traditional sectors that you mentioned? And if so, can you share with us how clients are implementing team? 

Brett: Yes, and this is a really important question and I'm so glad that that, that you brought it up today.   

You know, I'll get to the implementation in just a minute, but I think, you know, early sort of in this process as plan sponsors have been getting more familiar with some of these non-traditional sectors, you know, Voya has been out doing this with plan sponsors for, you know, close to a decade. And I would say over the first five or six years it was really more of an education tour where we would meet with different plan sponsors and talk to them about, you know, what these sectors were, how they behave, what were the benefits, how could they fit into a plan.   

And I would say really that over the last three, maybe four years, we've sort of seen momentum growing, which is leading to that implementation part of your question here. And so the question has always been what's the best way to implement? Now I don't know if we have a monopoly on the word, the best way to implement, but I would say implementation can vary. I would say probably the most obvious one is plan sponsors can have a discreet standalone allocation to any number of sectors and that there's benefits there.   

I would say one of the drawbacks is that if they wanted to change that allocation and go into something else, you know, they're having to make that relative value decision on their own. And oftentimes it requires, you know, some level of approval from a chief investment officer or what have you. So I would say that most recently, and by recently I would really say maybe over the last three or four years where we've seen clients really gravitate towards this multi-sector implementation where, you know, they have blends of those sectors that we're talking about.   

Again, investment grade, private placements, commercial mortgage loans, securitized credit, and oftentimes even blending that with something like public corporate credit. Now the benefit there is that you get the exposures to these diversifying asset classes, but you also get the added benefit of active management where we can source value not only through those allocations and what they can provide a plan, but also generating value through sector rotation, making relative value decisions based on what the market backdrop may provide.   

So there can be a lot to unpack here. So for example, how to benchmark something like what I'm describing. But the punchline here is that we work with clients to implement a variety of different ways, whether it be a standalone discreet allocation or something in a multi-sector framework. What's imperative is that we understand what the ultimate goals and objectives are and how we can construct a portfolio to help meet those goals and objectives and ultimately how it fits within their existing structure. 

Which I think is also a key point. You know, it's not often that we're managing sort of in a vacuum. So it's important to understand all of the different pieces of that hedging portfolio and recommend a way to implement that Makes sense. You know, for the plan sponsor. 

Nikki: Thanks Brett. It certainly makes a lot of sense that you would leverage that insurance DNA when thinking about how to leverage these non-traditional fixed income assets for planned sponsors.  

And I would certainly agree that we're seeing many more planned sponsors move from sort of that education phase in this space into that implementation phase and working closely with each plan sponsor to assess their overall portfolio needs and then helping them understand the best solutions to implement certainly seems like a measured approach. So Brett, we talked about the fact that many plans are better funded, but they're certainly not necessarily all overfunded.  So is this a strategy that underfunded sponsors should also consider? 

Brett: Again, I guess I'm into short answers here, but the short answer is yes, and this is a key point, right? And I'm so glad that we're talking about this because as part of that educational phase, you know, we talk to a variety of different types of plans. We talk to plans that are closed and frozen, we talk to plans that are closed and accruing. We talk to plans even believe it or not, that are still open and accruing or we've talked to plans that have, you know, the more traditional fin edge, al average pay type of structure that they've augmented with a cash balance plan.   

And so they've got multiple types of, I would say schemes within their, their plan. And, and what we've come to realize through a lot of research that myself and my team have done is that there can be improvements made to any of those different types of plan. And so we've done some research where we've actually looked at a variety of different plans and done case studies to really show what the impact can have.   

And so if we sort of circle back to the short answer, it's no, you don't necessarily have to be overfunded or in some cases necessarily even funded. Now what we, what I will suggest is that maybe, uh, the, the variable here is that which of these non-traditional sectors might be included and what makes sense depending on the objective. But I think, you know, one thing for certain that we can say is that the magnitude of the sizing will vary as well as the sectors, but that most plans will see some benefit through these allocations.   

And we've done the research to quantify these impacts that we would be happy to share with those that are interested. 

Nikki: Thanks Brett. I would completely agree that each plan is unique. You have closed plans and the ever elusive open plans that do still exist and as well as participant demographics that can play a large role in how plans are thinking about not only their funded status but those obligations that they have to pay out over time.   

So working with each plan to think about what might work for them in terms of how they might leverage some of these non-traditional fixed income strategies within their portfolio seems like the best approach overall. So thanks again for joining me today to discuss considerations for plan sponsors who are thinking about how to manage risk within their portfolios.   

Brett: Thank you so much for having me. Love talking about this topic and I hope that passion comes through. And for those of you that are attending the conference, we would love to continue this conversation should you have any questions in this area. So thank you again for having me. It's been a real, real pleasure. 

Nikki: You bet. Thanks for sharing your enthusiasm and your expertise with us and I hope to see all of you at the conference.