Ford Motor embarked on an ambitious program in 2007 to reduce the risks posed by its defined-benefit pension plan by shifting assets out of stocks and into bonds.
In more than 50 years of operating the plan, Ford had focused on maximizing returns and invested mostly in equities.
"Our history had been to manage the assets almost independently of the liabilities," says Kathleen Gallagher, Ford's director of asset management. "The events of recent years really required us to reconsider. The combination of funding regulations and the challenges facing the company made us much more intolerant of swings in returns and much more sensitive to how the assets were going to behave relative to the liabilities."
The auto company's U.S. pension plan is sizable, with $38 billion in assets and $44 billion in liabilities at year-end 2009.
Gallagher cites the Pension Protection Act of 2006 in U.S. as part of the impetus for the changes Ford initiated. "The spirit of all the regulations has been to take what were historically very long-term investments and really shorten the time horizon so that no individual plan would get into trouble with respect to shortfalls," she says. "The basic idea is you have to contribute to make up any shortfalls in funding on a very accelerated schedule."
Hoping to avoid such shortfalls, Ford made significant changes in how it invests the plan's assets. Over a six-month period in 2007, it sold $8 billion in equities and used that money to buy long-duration bonds, boosting the plan's allocation to fixed income from 27% to 47% and cutting its equity allocation from 72% to 51%.
The timing was right, since equity values plunged the following year. Ford didn't time the move that precisely, but had set a target allocation for year-end 2007 "with leeway around it," Gallagher says. "If the market had had 2008's experience in 2007, we would have adjusted our plan.
"That said, we did have a sense that it was a good time to make a change," she says. "The equities markets obviously had been strong and we were well funded. It was a good time to take risk off the table."
In October 2007, Ford kicked off the second phase of its revamp using interest rate swaps to hedge more of the plan's remaining interest rate risk.
The company continued to make adjustments over the next two years, moving almost $3 billion more into alternative investments and switching some fixed-income investments into corporate bonds in 2009. It has unwound the interest rate swaps, given the very low level of interest rates, Gallagher says, but plans to put those hedges back on in the future. At year-end 2009, the plan had 45% of its assets in fixed income, 47% in equities and 8% in alternative assets. Over time, the plan is to cut equities to 30% and boost alternatives to 25%.
Ford's work has paid off. In 2008, the U.S. plan's assets declined just 10.8%, outperforming the average loss of more than 20% among corporate pension plans. And although the plan's funded status went from 99% at the end of 2006 to 86% at the end of 2009, Gallagher says it would have deteriorated even more if not for the asset reallocation.
"If we had not made the whole series of changes beginning in 2007 through year-end 2009 and continuing, I think [the plan's funded status] would have been 10 to 15 percentage points lower than the 86%" at the end of 2009, she says. Ford estimates that the additional underfunding would have cost it $7 billion.