Report : Asset Management | December 08, 2022

Pension funded status risk: Perception versus reality

Vanguard 2022 pension survey 

Read time: 5 minutes

In early 2022, we conducted our triennial survey of corporate pension plan sponsors. Decision-makers at 117 organizations responded to the survey, and their responses represent plans whose size, design, and status reflect the diversity of corporate pension plans. 

The misalignment of risk and asset allocation

Plan sponsors report that they’ve taken significant steps to manage risk: They’ve adjusted plan designs, lengthened fixed income durations, adopted glide-path strategies to increase fixed income allocations, and transferred liabilities to plan participants and insurance companies.

But our survey and conversations with pension plan sponsors reveal that sponsors have severely underestimated the asset/liability risk—also known as the funded status risk—in their plans. As Jim Gannon, Vanguard senior investment strategist and lead actuary, explains, “Our survey shows that most plans have an asset allocation with a risk of more than 20%, meaning that a fully funded pension plan could fall to 80% funded in one year. But most plan sponsors thought their risk was 10% or less, which means they haven’t budgeted for a 20% drop in assets relative to liabilities because they don’t think it could happen.” 

Reconciling the disparity

Although 91% of survey respondents said that only a 10% downside variation is acceptable, just 16% of plan sponsors have adopted an asset allocation strategy that aligns with that risk level,1 as the chart shows. “The most important consideration in adopting an asset allocation,” says Vanguard Senior Investment Consultant Valerie Dion, “is understanding the range of future outcomes and whether the plan can withstand that range. If the plan can’t withstand that variation, the allocation is probably too aggressive.”
Risk tolerance versus possible variation
Sources: Vanguard, MSCI BarraOne, and FactSet. 

Given the discrepancy between their stated risk tolerance and the possible variation associated with their asset allocation, plan sponsors are faced with a vexing question: Should they adjust their risk tolerance or their asset allocation?

On the one hand, the plan sponsor and investment committee could keep their risk tolerance unchanged and shift their asset allocation from return-seeking assets to liability-hedging fixed income assets. Such a move would lower the plan’s funded status risk.

Or they could keep their portfolios unchanged and adjust their risk tolerance, accepting the additional downside funded status risk in exchange for the potential of higher equity returns. Then they could factor that adjusted risk tolerance into the range of possible outcomes. 

Help from an OCIO

Plan sponsors and their investment committees don’t need to make risk and asset allocation decisions alone, however. Pension investing is complex, and an outsourced chief investment officer (OCIO) can handle the complexities of managing the plan’s investment portfolio.

With more than 25 years of experience, Vanguard’s OCIO for pension services can help plan sponsors determine the best solution to the plan’s risk/allocation question. We believe that the most reliable alternatives depend on an adaptable portfolio, minimal risk, and a high level of fiduciary responsibility.

Vanguard’s OCIO services use a three-step process:

  1. We help plan sponsors understand funded status risk, which refers to how much the plan’s funded status can fall in a year based on its asset allocation and liability structure. 
  2. We explain the components of funded status risk—equity risk, interest rate risk, and credit spread risk—and demonstrate how to measure the plan’s risk. Many plans don’t assess these underlying risks correctly, which may be why they miscalculate their risk tolerance.
  3. We develop asset allocation strategies that can help achieve that level of risk tolerance, then explore whether a given asset allocation might cause other issues. Limiting risk, for example, could also limit potential returns. 

“Vanguard’s OCIO services work to strike a balance by recommending a portfolio with a large enough return to meet promised benefits,” Jim says, “but not with a risk not so large as to leave the asset pool in jeopardy should there be a market downturn.” 

1 20% or less in return-seeking assets and 80% or more in liability-hedging fixed income.


  • All investing is subject to risk, including the possible loss of the money you invest. 
  • Diversification does not ensure a profit or protect against a loss.