MolsonCoors and Nortel say LDI is on tap in both their Canadian and U.S. defined benefit plans, but their cross-border implementations reveal markedly different investment brews.

Development of liability-driven investment strategies in the two countries has been influenced by individual plan designs, availability of product and regulatory requirements.

Here's a look at how the strategies are unfolding.

MolsonCoors
In Canada, MolsonCoors has a fairly mature salaried plan that was closed to new workers in the 90s and an ongoing, collectively bargained plan for hourly workers. The company also has a single defined benefit plan for U.S. employees, with different formulas for salaried and non-union hourly workers. The U.S. plan was closed to new entrants at the start of this year, but existing members are still accruing benefits.

Director of Global Pensions and Risk Management Mike Rumley says that in the early part of the decade, with an asset allocation of 70% equities/30% bonds, the funded status in the Canadian plans deteriorated.

"Like many plans in Canada, we have to fund under various provincial rules to a solvency basis. We realized that as plan sponsors, we don't want to have to re-fund' if there is a further deterioration in the equity markets or if the interest rates fall further. At the same time, our beneficiaries are interested in having the benefit promises locked down."

As a result, the Canadian salaried plan has been almost completely invested in bonds that - to the extent possible - mirror liabilities. "Where bonds are not available, we will definitely do a futures overlay or swap strategy to close the gap, but we are not really interested in an overlay strategy or portable alpha," he explains.

Because the funded status of the active hourly plan is not yet as good as in the salaried plan, Rumley says the 70/30 mix was retained. But the company took the 30% in normal bonds and extended the duration to also make them look more like the liabilities.

The equity allocation in the U.S. plan has been reduced in the last few months as well, so the asset mix is now 45% equities, 10% core real estate and 45% long-duration bonds. However, with a greater universe of bonds and other credit products available south of the border, the company wants to retain the ability to generate alpha by looking at relative returns among a fairly broad asset class.

 "The decision was made not to extend duration so far out in the cash market that it will eliminate these opportunities or significantly lower them," he says. "In the U.S. space, there is much more opportunity for managers to demonstrate alpha while still doing a pretty good job managing liabilities."

Nortel
John Poos, director of global pensions at Nortel, says the company moved approximately $3.5 billion in defined benefit assets in Canada and about $1 billion in the U.S. into a long-duration portfolio three years ago. Both plans had "hard" closes effective Jan. 1, 2008, and no further service is accruing. The asset mix in both countries has been shifted from 60% equities/40% bonds to a 50/50 split.

"What we're doing now, in terms of our specific LDI position, is just enhancing it further in terms of some leverage in order to even further match our liabilities."

However, he acknowledges there are more challenges in completing the Canadian implementation because of both the size of the plan and the fact that liabilities are indexed to inflation. "The answer is real-return bonds, but 30% of a $3.5 billion plan would monopolize the market, so we need to look at other options."

Not only are there a larger number of bond issues in the U.S., says Poos, "but even if you do find the bonds you need in Canada, there are not as many counterparties that will take the swap' risk."

Investing Nortel's Canadian pension funds in the U.S. market and hedging the risks is certainly something to consider but, he says, "All our liabilities are measured against the Canadian long index, and if we move to something else, there is going to be some mismatch. The question is whether, in today's world, we are prepared to accept that, as opposed to no match."

A total mindshift
Both Rumley and Poors agree that, at the onset, one of the biggest challenges in both countries was getting stakeholders to think about pensions differently.

"A total mindshift was required from how well our assets are doing vs. the external world to how well our assets are doing vs. our liabilities. Once people got their head around that, the process of getting from where we were to where we are today got much easier," says Rumley.

"One of the things that will happen when you embark on any kind of LDI strategy is the volatility of assets will increase materially because interest rate volatility also affects liabilities," comments Poos. "If your committee continues to be programmed to measure performance as against peer groups, at the first divergence from the peer group they could have a knee-jerk reaction, and you could be out of a job!"

Poos also does not believe that low interest rates necessarily make it a bad time to embark on LDI.

"The question really is, are you concerned today for the liabilities in your plan if interest rates drop another 25 or 50 basis points? You won't get the upside of the market with LDI, but you will be protected from the downside," he says.