Open, closed. Small, large. Public sector, private sector. Multi-employer, single employer.

No two pension funds are the same, and a liability-driven investment strategy is not the solution for every plan. Yet an increasing number of sponsors of all types of pension plans are striving to better match their assets and liabilities.

 Speaking at a recent CPBI investment seminar, University of Toronto Asset Management's Director of Investment Strategy John Lyon, and Peter Jarvis, CIO at BIMCOR, explained why their pension plans have decided against LDI.

Lyon said a study was recently conducted by the university, and UTAM ultimately ruled out LDI. "This was no surprise because it was considered too costly, with low returns on fixed income," he said.

"It's a very poor use of company capital, because you are basically locking in at those lower rates," says Jarvis. "The question really becomes, how do we get more LDI-like in our asset structure? That's what I believe is driving the movement to a much more diversified portfolio structure by funds across the board."

 In contrast, the Colleges of Applied Arts and Technology Pension Plan, Manulife and Operating Engineers Local 955 are three of many very different pension plans that have concluded a customized LDI strategy is the best way to manage funding volatility and risk.

 CAAT CIO Julie Cays says she brought LDI alive to certain trustees by showing them, "If we have a certain asset mix, or take a certain amount of risk, this is the probability that you will reach a certain funding level and have this amount of surplus or deficit."

 "Be clear on your commitments, how you price them and what kind of risk you are ready to take to meet these commitments," says Manulife's VP Global Pensions and Benefits Sylvie Charest. "Once you have some clarity on these three things, and you are also clear on what rewards you as a risk-taker get for taking these risks,

 I think the fog will start to lift on the LDI strategy you are about to embark on."

 And plans of all sizes can successfully implement LDI, says Tony Williams, the Operating Engineers Local 955 plan actuary and president of PBI Actuarial Ltd.

 "Even at a half-billion dollars, it was relatively easy to execute LDI for the Engineers' plan. I'm working with an $80 million plan, and I'm also not having any difficulty," he says. "It just gets more complex if you try for derivatives, swaps, overlays and those more esoteric things. If you keep it simple you can have LDI down to a relatively small plan."

 MolsonCoors Director of Global Pensions and Risk Management Mike Rumley agrees. "Any smaller pension plan is going to pay higher fees, but we do not see that as an impediment to implementing LDI."

 It all comes down to writing the cheque, says Nortel's Director of Global Pensions John Poos.

 "Once you understand the volatility of your plan vs. your liabilities, then you realize the impact that can have on contributions," he says. "Could you write that cheque? If the answer is that it would be dreadful, then you are a prime candidate for LDI. If you are not concerned about the size of that cheque, then LDI is not for you."

A trio of case studies illustrates that when it comes to LDI, "one size does not fit all."

Manulife

Manulife's VP Global Pensions & Benefits Sylvie Charest is applying LDI principles to the management of two small company plans.

In one case there was a partial wind-up involving 150 employees and $16 million in assets, which were carved out into a separate fund for the benefit of these members only. It is expected that the wind-up will be completed within two years and all funds will be transferred out.

As a result, the portfolio was fully immunized through the purchase of provincial and corporate bonds that, as much as possible, match the liability flow.

The second plan is a legacy plan that is closed to new members, with no further accrual of defined benefits. Of the $50 million in assets, a large portion is surplus.

"We have approved going to an LDI strategy for this plan when the time is opportune," says Charest. "In order to fully match the liabilities, we'll get more heavily into bonds when market conditions are more favourable."

For the surplus, a multiasset target-return strategy is planned, comprised of fixed income (45%); Canadian equities (23%); alternatives such as commodities, natural resources, real estate invesment trusts (15%); foreign equities (11%); and cash (6%).

One reason Charest says they are able to go to a somewhat more exotic approach with the surplus is because the assets are managed internally by MFC Global. "This is our business at Manulife. Senior management understands the issues, so it was not a long, drawn-out discussion."

Operating engineers local 955

The Operating Engineers Local 955 pension plan's administrator Rainer Semler is an LDI veteran.

This collectively bargained, Alberta-registered, specified multiemployer plan has been managing assets ($500 million at the end of 2007) against liabilities for over 10 years. It is fully funded on both a solvency and going-concern basis. "I don't think it has ever fallen into deficit while the LDI strategy has been in use," says plan actuary Tony Williams, president of PBI Actuarial Consultants Ltd.

Semler believes that, "Probably the most important thing for any pension plan is to maintain the pension promise for beneficiaries (4,800 active; 1,600 retired). LDI allows us to manage risk into the future, so we know we have a series of pension cash flows each and every month."

Another advantage of LDI, says Semler, is that it allows the plan to consider the amount of risk they are going to assume, so they can both invest in bonds or fixed-income products to match cash flows and make other investments that will result in asset growth.

Nevertheless, the portfolio is primarily domestic Canadian bonds. "If our investment manager used a strategy like derivatives it would be OK with us, providing it is within the risk parameters," says Semler. "But I don't want you to think derivatives are a big part of this. The investments are primarily international bonds, maple bonds and some mortgages - all relatively high quality fixed income investments."

The benchmark is constructed based on a projection of cash flow that is shared with the money managers, who develop a benchmark for that year and then build a portfolio that matches the cash flow.

"Without letting the cat out of the bag, we are certainly looking for more alpha. We've got risk under control and the benchmark returns, but we haven't got a lot of added value," says Williams. "So I'd say we are actually approaching phase 2 of this LDI approach."

CAAT Pension Plan

The Colleges of Applied Arts and Technology Pension Plan has assets of $5.4 billion and, at the beginning of 2008, shifted their asset mix from 60% equities/40% bonds (including 5% in infrastructure) to a 57% return-enhancing/43% liability-hedging portfolio (including 10% infrastructure and 5% real estate).

As of 1/1/07, the plan was 98.8% funded on a solvency basis, and the going-concern funding ratio was 91.3%.

"I'm not using LDI a lot as a phrase with my trustees because it seems to mean so many different things to different people," says CAAT CIO Julie Cays. "I've also hammered home the message that you can't really match liabilities or perfectly hedge against liabilities."

Cays says her goal is to control surplus at risk and variability of contributions - which, by 2010, are already slated to increase to 12.1% for both employers and employees.

Nominal bonds are benchmarked against the long-bond index, and one of the CAAT bond managers is buying strip bonds outside the long-bond mandate to extend them even further.

"Also, we have been building an inflation-linked component by opportunistically buying real-return bonds every now and then. In addition, we are getting into swaps, other derivatives and overlays, but not necessarily from an LDI perspective," she says.

Other inflation-linked investments are infrastructure funds and the brand new allocation to real estate. "We are still researching how to implement the real estate mandate. Ultimately there may be some direct investment, but that would not be managed in-house." Direct investment in real estate and infrastructure assets by large Canadian pension funds, like the CPPIB and Ontario Teachers is very much the exception rather than the rule, both domestically and on a global basis, Cays points out.

Assets are managed against a market benchmark that simulates the liabilities. "Our liabilities pretty well look like a 13-year duration mix of 70% real-return bonds and 30% nominal bonds. We use a mix of bond indices and hypothetical bonds to get us to this mix, and we've asked one of our managers to price it each quarter."

Cays says implementing the strategy is a multi-year process and acknowledges that finding product at an affordable price can be a challenge. "But we have the framework laid out. We're measuring our opportunities relative to what they do for us and our surplus at risk framework," she says.