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Streamlining the Pension Risk Management Journey: A Strategic Review
Francois HélouBMO Global Asset
Management
Diane Liu BMO Insurance
Nicola ThorpeBMO Global Asset
Management
SPEAKERS:
Francois Hélou, CFA, Director, Head of Balance Sheet Solutions Sales,BMO Asset ManagementNicola Thorpe, Director, Investment Solutions North America,BMO Asset ManagementDiane Liu, Head of Client Relations & Operations, GRS, BMO Insurance
Streamlining the Pension Risk Management Journey
A Strategic Review
For institutional investor use only
BMO Global Asset ManagementBalance Sheet Solutions
Portfolio Management Global LeadershipQuantitative Analysis
London TorontoMiami Chicago
45Investment professionals
directly involved in balance sheet solutions
$68bnAssets under Management
536+Client mandates
130Insurance Pension
RiskTransfers
$186bnLiabilities under
Management
BMO Insurance
Insurance Solutions
Source: BMO Global Asset Management as at 12.31.2018.
Pension Risk Management JourneyA Strategic Review
The strategic importance of pension de-risking
Risk management through the funding journey
Transitioning to an insurer and mitigating risks
2012
20142015
20142016
20172018
2018*
2017*
2017: Bill C-27
Quebec, Ontario, B.C.
* Consultation
Canadian Pension Reforms
Traditional Glide-Path No Longer AppropriateGoing-Concern Valuations: The Balancing Act
Lower Allocation to Risk Assets
Decreases Liability Discount Factor
Fund
ing
Rat
io
Liab
ility
Va
lue
For illustrative purposes only.
Strategic Reasons for Pension De-RiskingDB plan’s financial risks are all skewed against its sponsor
Funding requirements usually increase during market downturns
Draws sponsor’s resources away from core business(es)
Limited financial upside to sponsor but significant downside
Underfunded status could impact core business(es) Disruptive Truncated
Complex Compounding
Balance Sheet SolutionsRisk management aligned to the plan’s exposure profile
Asymmetric risk profile makes a high risk asset allocation economicallysub-optimal
“Lock-in” positive funded position with an increasing allocation to hedging assets
Hedging assets reduce funding volatility and narrow the risk of unexpected negative outcomes
A focus on risk addresses the trade-off between the plan’s going-concern funding requirements and its discount factor
Pension De-Risking Journey
Traditional Balanced Portfolio
Reduce Liability
Risk
Balance Sheet
AllocationProgressive De-Risking
Pension Risk
Transfer
Unrewarded Risk
Hedging
Rewarded Risk
Budgeting
Ongoing Risk Management
FullRisk
Elimination
Unrewarded & Rewarded
Risks
Portfolio Transition
The Drivers of Funding VolatilityFor most plans, interest rates are the main volatility driver
Asset allocation example Market changes on funding
Deterministic scenarios based on 1-yr worst-case asset class returns since 2006. For illustrative purposes only.
Canada Bond Universe
40%
Global Equity20%
Canadian Equity25%
Property10%
Cash5%
-12.8%
-1.0%
-9.3%
-4.1%
-14%
-12%
-10%
-8%
-6%
-4%
-2%
0%
Interest ratesfall 1.2%
Creditspreadsincrease
1.5%
Equity falls20%
Property falls40%
Cha
nge
in fu
ndin
g le
vel
Scenario
Focus on Long-Term Objectives
• For illustrative purposes only.
Longevity
For illustrative purposes only.
90%
85%
75%
80%
Fund
ing
leve
l
Clarity of asset return targetRemove unrewarded risk
100%
Time
IndexingInterestRates
Reduce Liability RiskUnrewarded risk hedging
• For illustrative purposes only.For illustrative purposes only.
Higher return Steady growth Full de-risking
Funding level
Pension Risk Transfer or Hibernation
End of recovery plan
Time
Managing unrewarded risks throughout the funding journey
Reduce Liability RiskUnrewarded risk hedging
• For illustrative purposes only.
For illustrative purposes only.
Fund
ing
leve
l
Time
Optimize growth asset strategy
How do we fund liability hedging?
Capital efficient strategies for progressive de-risking
Can we capture strategic opportunities?
De-risk growth assets;Pension Risk Transfer?
How do we achieve the above, cost effectively?
Full de-riskingHigher return Steady growth
Cash100%
LDI Assets75%
Cash25%
Full equity exposure + liability hedging
Asset Allocation For a Balance Sheet StrategyOptimize growth asset strategy
Canada Bond
Universe40%
Global Equity20%
Canadian Equity25%Property
10%
Cash5%
For illustrative purposes only
Replicate passive equity with cash + equity futures
Cash reinvested into a portfolio of liability
hedging assets
12
Currency Hedging?
Asset Allocation For a Balance Sheet StrategyUse opportunities to de-risk
• 10-year Government of Canada yield
10-year Government of Canada yield
Source: BMO Global Asset Management. Bloomberg. For illustrative purposes only.
Set a strategic target, monitor daily, and implement through a formalized framework
• Funding level• Market level
These strategies capitalize on market opportunities
2.44%
2.48%
2.52%
2.56%
2.60%
2.64%
0 400 800 1,200 1,600 2,000
Progressive De-Risking Toward End-GameOngoing Risk Management
70%
75%
80%
85%
90%
95%
100%
Fund
ing
Leve
l
TimeSource: BMO Global Asset Management, Bloomberg as at 31.08.2018. For illustrative purposes only
Pension Risk Transfer?
Hibernation?
Higher Return Assets10%
End-Game Portfolio
90%
Higher Return Assets50%
End-Game Portfolio
50%
Allocation to the end game portfolio increases
Insurance De-risking
• “On” or “off” balance sheet?
Annuity Buy-Out
Full Pension Risk Transfer
Annuity Buy-In
Sponsor Purchases Longevity &
Investment Hedge
Longevity Insurance
Longevity Risk Protection For a
Locked-in Premium
Portfolio Transition Risks
Poor communication and data leading to worse annuity pricing
Differences between portfolio’s securities & the securities that hedge the annuities
Limited supply of the securities that hedgethe annuities
Market timing between the portfolio sale and the annuity purchases
Timing Basis
TransparencyLiquidity
Managing Portfolio Transition Risks
Address transition risks throughout the portfolio transfer
Portfolio De-Risking
Gradual Securities Positioning
Transfers In-Kind
Annuity Purchases
Transitioning to an insurance providerTransition management
• For illustrative purposes only
• Dealing costs minimized
• Out-of-market exposure limited or eliminated
• Facilitate direct and tailored transfer to insurer
For illustrative purposes only
Move to transition account
Reorganized assets
1 2
Wish-list passed to insurer
3
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The information provided herein does not constitute a solicitation of an offer to buy, or an offer to sell securities nor should the information be relied upon as investment advice. Past performance is no guarantee of future results.
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