Defined benefit plan sponsors are looking to go beyond traditional Canadian core fixed income in their “search for yield.”

By Ed McCarthy

Pension plan managers typically maintain a longer-term, strategic outlook to avoid overreacting to economic events and market moves.

In this context, Covid-19 could be viewed as just another unsettling event that the markets will digest. But it’s worth considering how central banks’ moves to significantly lower interest rates, combined with governments’ massive stimulus spending, might impact plans’ portfolios over the short- and intermediate-terms.

From a valuation perspective, pensions’ liabilities increase significantly with lower rates, says Ruo Tan, president of Segal Rogerscasey Canada. Lower rates also influence investment decisions.

“On the investing side, the very low interest rates create a dilemma for the pension plan in how we generate the necessary returns to cover our liabilities,” Tan explained. “You have this sky-high liability, but fixed-term investment returns will be very, very low. As a result, this actually will encourage pension plans to take on more risks,” he added.

Rahul Khasgiwale, senior investment director at Aviva Investors, points out that low interest rates diminish the value of fixed income in a risk-off environment, leading defined benefit (DB) plan sponsors to consider other sources of risk-off protection, which can be expensive. Consequently, many Canadian DB plans are considering  Canadian core plus fixed income, global unconstrained fixed income or high yield instead of traditional Canadian core fixed income, he says, adding that the theme around “search for yield” continues.


Governments’ massive stimulus packages have raised concerns about hyperinflation and how the bond market isn’t pricing in that inflationary risk, according to Kendra Kaake, director of investment strategy at SEI Investments.

Kaake, though, doesn’t share that concern for the immediate future.

“My sense is that the near-term risk is deflation and short of significant changes in the structure of global financial networks, that is, the scale and openness of the global economy, getting wage and price inflation, two important ingredients in tightening, it’s just going to be really difficult to achieve,” she says.

Modest Adjustments

Tan and Kaake don’t see plans making large-scale allocation shifts to alternative investments despite the likelihood of rates remaining lower for longer. A primary reason for the inertia is that pension plan management currently is a lower priority than steering the business operation through the pandemic.

Among DB plans with long-term horizons and an ability to manage liquidity risk, however, Kaake cites an ongoing demand for private debt, distressed debt, infrastructure and private real estate.

With higher levels of equity and bond volatility, Khasgiwale explains, many DB plans are seeking alternative and uncorrelated asset classes such as multistrategy, global macro and specialist credit strategies to diversify their portfolios.

“Within these alternative asset classes, it’s important to build a portfolio with idiosyncratic or opportunistic investment ideas from a return-seeking perspective, as well as risk-reducing ideas to provide downside protection,” he said.

Ed McCarthy is a veteran freelance writer, specializing in finance, business and technology.