Credit Markets in Transition: Liability-Driven Investing, A Multi-Sector Approach

You're listening to All the Credit, a monthly podcast series brought to you by PGIM Fixed Income, an active global fixed income investment manager. Welcome to the podcast. I'm Brian Barnhurst, global head of credit research. Today's episode is the second in the series that will examine the evolution of credit markets. I'm very fortunate to be joined by multi sector portfolio manager Tom McCardan, who focuses on and is an expert in liability driven strategies. Thanks, Brian. Glad to be here. A lesser discussed byproduct of the regime shift in interest rates from the ultra low rates of the post GFC era to today is considerably improved funded status for divine benefit pension plans. The impacts are twofold, higher discount rates shrinking the liability side and then higher nominal yields bolstering opportunities on the asset side. As recently as three years ago, the 100 largest US defined benefit plans were collectively underfunded. Today, that funding ratio on average stands north of a 100%. The paradigm shift in interest rates create a massive opportunity for sponsors to explore strategies to derisk or even fully immunize their plan cash flows. Tom, help us make sense of the defined benefit landscape as it stands today. I think that's a really good framing, Brian, of the overall backdrop. And maybe I'll just kind of add a little bit more context in terms of where the corporate defined benefit plans are today. Clearly, it's a spectrum of the circumstances that they find themselves in. But just for the simplicity, I think we can try and define three different larger, broader groupings of where the pension plans are at. As you said, their funded status is markedly improved. By and large, they have mostly closed and frozen, and most of these old style final salary pensions are now really not being offered by most corporations. And so as broad groupings, you can really divide it into three. The first set of plan sponsors are really thinking about getting out of the pension game. Their pension's no mass. Let's try and transfer or move the liabilities over to insurers. So they're really trying to exit the pension game and then take the volatility and the risk from their balance sheets and move it over into the insurance world. So they're either doing that piecemeal through sequential set of transactions of parsing out the liability into different tranches and selling those off, or they are doing it in a whole scale termination. But, ultimately, for most of that grouping that's saying pensions no mass, that kind of termination is the end goal for a lot of those. The second broad grouping of plant sponsors is those plant sponsors that also want the derisking benefits on their balance sheets of the pension to take away the volatility on the balance sheets, take away the uncertainty around contributions and impacts on their earnings, etcetera. But they're happy to keep the liability on balance sheets and run it down over …