As we progress into 2025 towards an important shift in the geopolitical and economic environment, Canadian defined benefit pension plans are facing a unique set of challenges and opportunities. 

New economic headwinds and new risks are already expanding pension plan administrators’ fiduciary responsibilities, and the pension plans that can manage and mitigate these risks will be in a better position to deliver on the pension promise to their members. Key considerations for pension plan administrators include new guidelines for managing material risks, addressing longevity risk, identifying opportunities to effectively utilize surplus funds, and, of course, determining the best approaches to navigate modern markets.

New Guidelines, New Responsibilities

In 2024, the Canadian Association of Pension Supervisory Authorities (CAPSA) issued a new set of guidelines, outlining regulators’ expectations for plan administrators. One of the guidelines issued — CAPSA Guideline No. 10 — sets out principles for managing material pension plan risks. 

It specifically highlights the following risks:

• Investment risk: Investing has always carried risk. Plan administrators should approach this risk in a systematic and transparent manner, identifying the categories and level of risk they are willing to accept to deliver on their pension obligations to plan members.
• ESG risk: Environmental, social and governance (ESG) factors are increasingly considered in investment decisions. But as legislated standards change, and as society’s expectations from companies evolve, ESG factors can also be a form of investment risk. Plans should determine whether ESG information is relevant to their risk-return profiles and act accordingly.
• Cybersecurity risk: The economy is now online, and every organization must have a plan to deal with cybersecurity threats. Organizations that do not appropriately safeguard their IT systems and data face risk of financial loss, operational disruption and reputational damage. Plan administrators should be aware of this risk and have a strategy to mitigate it.
• Leverage risk: Some plans use leverage within their investment strategies. Although certain types of leverage can help manage asset-liability-mismatch risk, leverage also comes with its own potential challenges, such as liquidity risk and counterparty risk. Plans that wish to use leverage must also have a strategy to mitigate the risks posed to plan members and the pension promise
• Third-party risk: Plan administrators are fiduciaries — they are ultimately responsible for plan oversight and management. This remains true even where tasks are delegated to third-party vendors.

To align with CAPSA Guideline No. 10, plan administrators should develop a risk management framework that identifies and evaluates material risks that may adversely impact a pension plan’s ability to operate as intended and deliver benefits to plan beneficiaries. 

Material risks are to be managed and monitored through the implementation of controls. The outcome of this analysis will be an overall risk appetite, risk tolerance and risk limits for the plan administrator that will be documented in a written statement. A pension plan’s risk management framework should be reviewed regularly to ensure it remains appropriate and effective for managing the risks faced by the plan and its members.

Longer Lives, Larger Payouts

Pension plans don’t just face economic risks; they also face risks from the changing lifestyles and lifespans of plan members.

According to new mortality-improvement research released by the Canadian Institute of Actuaries (CIA) in 2024, the lifespan of Canadians is projected to continue to increase. The CIA will also be releasing a new set of base mortality tables in 2025 that will replace the current CPM tables that were released in 2014. This has implications for pension plans, which now face paying out pensions for longer than currently anticipated and recognizing higher liabilities as a result. 

In 2025, consider implementing a plan to address longevity risk by taking the following actions: 

• Conduct mortality studies to ensure appropriate liability measurement and calibration. 
• Consider annuity purchases to transfer risk. 
• Offer lump sums to deferred vested members.

Spend Surplus Wisely 

According to the latest edition of the Mercer Pension Health Pulse¹, the median funded position of the pension plans in our database was 122% as of March 31, 2024. This means that despite economic headwinds, many plans are in the enviable position of having a surplus — likely driven by strong equity markets, receding inflation and higher expected fixed income returns in the last year. 

Plans with surplus may consider opportunities to use it productively: 

• Contribution holidays: A contribution holiday can provide cash-flow relief for cost-burdened employers or more deployment options for employers generally. 
• Early valuations: With potential economic storms on the horizon, now may be the time to perform an early valuation. By doing so, plans can lock in the high-funded positions that they have reported throughout 2024, providing more contribution certainty for the next three years. 
• Benefit enhancements: Some plan sponsors may choose to provide discretionary inflation increases for pensioners. This could put money in pensioners’ pockets in an environment where affordability is challenging. 

Plans may also consider preserving the surplus as a buffer against future headwinds. There are real economic risks facing the Canadian economy, and a surplus could help preserve a strong funded position should equity markets take a beating or should liabilities increase.

Modify the Approach for Modern Markets

With economic turbulence on the horizon, it’s time to review the plan’s assets and make sure they’re ready for the changes to come. Consider taking the following actions:

• Ensure that the investment strategy is well aligned with plan objectives and time horizons. It may be timely to review the asset mix by conducting an asset-liability modeling (ALM) review and by stress testing the plan’s portfolios against unfavourable scenarios,
• Re-think the liability-hedging and return seeking roles of fixed income in portfolios for a  potentially changing interest rate environment,
• Carefully monitor potential risk concentration in the public markets,
• Consider private markets as a means of accessing opportunities not readily available in public markets, keeping liquidity needs in mind. 

A thorough review of the plan’s assets is essential to ensure preparedness and resilience in the face of change.

New Challenges, New Opportunities

New economic headwinds and new risks are expanding pension plan administrators’ fiduciary responsibilities, but this also brings new opportunities. The importance of effective risk management during these times cannot be overstated. By embracing new guidelines, addressing longevity risks, wisely utilizing surplus funds, and adapting investment strategies to modern market conditions, administrators can enhance their plans' resilience and ensure they meet their obligations to members.

Footnote

1 Mercer Pension Health Pulse https://www.mercer.com/en-ca/insights/retirement/mercer-pension-health-pulse/mercer-pension-health-pulse-q1-2025/

Bill Watson, Partner, Defined Benefit Practice Leader, Mercer

Based in Mercer’s Toronto office, Bill is a Partner in Mercer’s Wealth business. In addition to being a member of the Canadian Wealth Leadership Team, Bill is a relationship manager and retirement consultant for several provincially and federally regulated clients. As Leader of the DB Retirement Services, Bill is responsible for the development and support of all client advisory services and products relating to Defined Benefit plans. Bill promotes innovation and the development of strategic solutions that will help clients manage their defined benefit pension plans consistent with their objectives.  As a relationship manager for his own clients, Bill manages the partnership between his client and Mercer and assists his clients in understanding and solving the various issues that apply to their employee retirement and savings programs. Bill holds a Bachelor of Mathematics degree from the University of Waterloo and is a Fellow of the Society of Actuaries and of the Canadian Institute of Actuaries.