U.S. public pension plans averaged a negative return of -6.14 percent last year, falling far below the +6.9 percent average assumed annual rate of return for the sector, according to analysis by the nonpartisan Equable Institute.
Steep declines in investment markets and rising inflation hit returns across the sector, which was only just recovering from the impact of the Covid-19 pandemic. Pension plans face increasing pressure, as cost-of-living adjustments increase the potential risk to the retirement plans of millions of Americans.
Recommended For You
The average funded ratio for U.S. public pension plans was 77.89 percent in 2022. Collectively, they had total accrued liabilities of $6.369 trillion and total unfunded liabilities of $1.445 trillion. Around one in seven U.S. public pension plans had funded ratios of 60 percent or less, and just one in eight had funded ratios of 100 percent or more. These ratios are an important measure of funds' current financial position, and they ultimately show whether the funds hold enough reserves to pay out pension benefits to current and future members.
This year, investment market volatility continues, with U.S. investors concerned about the possibility of a banking crisis following the collapse of Silicon Valley Bank, Credit Suisse, and regional banks First Republic Bank and Signature Bank. There is concern about the stability of other regional banks as the crisis persists.
All this has put pressure on U.S. pension funds, with many experiencing losses on their bond and equity allocations due to rising interest rates and choppy markets, respectively. If rates increase further and stock markets decline, funds could be in for a difficult period. But there may be some potential upside, as corporate plans may profit from higher spreads on the liability side due to higher discount rates.
Against this backdrop, Ortec Finance set out to take the temperature of the public pension sector through research conducted in April 2023. We interviewed a sample of 50 U.S. public sector pension fund managers responsible for a collective $1.315 trillion in assets under management (AUM). The study examined how pension plan managers have changed their investment strategies in the past year and what adjustments they expect to make in the coming 12 months, while also assessing their views on current economic pressures as well as how they are preparing for future economic shocks.
This research shows that public pension fund managers generally have confidence in the future, but it also highlights how allocation strategies are adapting to the ever-growing number of asset classes and the unique risks associated with them.
Threats to Plan Funding
Almost all (94%) survey respondents said that the risks to their plan increased last year as they sought to mitigate the impact of market turbulence. One in six (16%) said they saw a significant increase in their plan's risk profile. And that trend is not a blip—more than four out of five (81%) pension funds expect the increase in risk to continue through the next 12 months, with nearly one in three (32%) expecting a dramatic increase.
When asked about the biggest sources of pension fund risk, respondents said increasing interest rates present the greatest concern. Cash flow requirements and liquidity, volatility of investment markets, inflation, and cybersecurity were mentioned as well.
The relatively low ranking of inflation as a risk factor may be partially due to pension plan managers' views on the future path of U.S. inflation. Although that correlation wasn't specified within the scope of the research, the clear message from the study is that plan managers are convinced the U.S. economy is on the path to inflation moderation. Around 90 percent said they are confident that inflation is on the decline. Around half (52%) believe inflation could be 3.3 percent or lower within a year. And just 10 percent of public sector pension plan professionals believe the rate will be over 6 percent a year from now.
This relative lack of concern about inflation may also reflect that, in general, U.S. public sector pension plan managers are confident that their plans are better hedged against inflation than against other risks, such as rising interest rates. Around 86 percent of our respondents said their plan is well-hedged against inflation, with more than a quarter (26%) saying their plan is very well hedged. Just 12 percent believe their plan's hedging is average. Some 70 percent of respondents said their plan has increased its allocation to commodities to help with hedging, compared with the 52 percent that have increased allocations to infrastructure and the 40 percent that put more into gold. Just 42 percent said they have increased allocations to inflation-linked bonds.
Plan managers are still actively changing asset allocations to hedge against inflation. Around two out of three (66%) expect to increase allocations to commodities to address this, while 50 percent plan to boost their allocation to infrastructure investing. Some 32 percent plan to increase allocations to inflation-linked bonds, and 38 percent plan to increase allocations to gold in order to hedge against inflation.
Pension plan managers are still concerned about the risk of stagflation—the combination of low growth and high inflation—for their investment strategies. Some 48 percent of those we surveyed said they are very concerned about the risk of stagflation, while 50 percent said they are quite concerned. All those surveyed expect to see a change in actuarial assumptions on the expected inflation or discount rate.
How Every Pension Plan Can Prepare for the Future
There is some comfort to be taken from public sector pension plan managers' views on the future—almost every participant in our research (96%) said their long-term objectives are feasible, and the same number believe the risks facing their pension plans are within their agreed risk budget. They are confident that inflation in the U.S. is on its way down and that they have acted and are continuing to act to address inflation risks.
The participants said their teams plan to spend more on scenario modeling and stress testing, given the current uncertain environment. However, it does remain a complex topic, as only around 44 percent of respondents said they are very effective, and 56 percent said they are mostly effective, at asset-liability management. For many plan managers, it makes sense to look for tools that offer realistic and useful insights into changing market conditions. Strategic asset-allocation decisions are becoming increasingly complex as a result of the ever-growing number of asset classes and investment strategies, and the unique risks associated with them. The ideal model for supporting pension plan decision-making is adaptive and able to account for current market conditions while also factoring in uneven distributions of results in real time.
The current market volatility creates both challenges and opportunities for plan sponsors, who need to review and assess their portfolios on a regular basis to make sure those plans remain in line with their long-term goals and that the asset-liability mix stays within the individual plan's risk tolerance.
Marnix Engels is the managing director of pension strategy for Ortec Finance. He is responsible for the team that executes studies annually and advises on investment decisions of hundreds of pension clients globally in the fields of asset liability management, strategic risk monitoring, and strategic asset allocation.
© 2025 ALM Global, LLC, All Rights Reserved. Request academic re-use from www.copyright.com. All other uses, submit a request to [email protected]. For more information visit Asset & Logo Licensing.
