_{^{Q4 2024}}

Pension barometer

Fixed income

Canadian bonds posted mixed results in the final quarter of the year but declined fractionally overall. Bond yields rose despite three more interest-rate cuts by the Bank of Canada (BoC), which brought the total to five in the last seven months. The bank lowered its benchmark interest rate from 5% to 3.00% over that timespan as inflation eased and the Canadian economy struggled to gain traction. However, political upheaval—including the unexpected resignation of Canada’s finance minister—and the threat of U.S. trade tariffs by the new U.S. presidential administration combined to drive bond yields higher across most maturities, leading to lower bond prices.

Intermediate-term bond yields rose the most over the quarter, while yields on short-term securities fell slightly, reflecting the BoC’s rate cuts. On a sector basis, government bonds declined, while investment-grade and high-yield corporate bonds posted modest gains.

Equities

Canadian equities gained ground in the fourth quarter, but all of the positive return occurred in October and November of 2024. During this time, investors were cheered by a heady mix of  aggressive interest-rate cuts by the BoC, continued positive economic growth, and strength in the banking sector. The picture changed in December however, leading to a sharp sell-off that erased a large portion of the earlier gain. The downturn reflected the combination of political turmoil, a report showing growth turned negative in November, and expectations that the United States would adopt a more protectionist trade policy in the wake of its presidential election. Despite its weak showing in December, Canada comfortably outperformed its non-U.S. developed-market peers in both the quarter and the full year.

The global equity markets produced mixed results quartering Q4. While broad-based measures such as the MSCI World Index delivered robust performance, most of the gain was the result of strength in the United States. U.S. stocks strongly outperformed their developed-market peers due to the country’s faster economic growth, an election outcome perceived to be market-friendly, and a continued rally in the country’s mega-cap technology sector. Returns overseas were much more muted, however. Europe and the emerging markets lost ground, reflecting slowing global growth and rising protectionism in the United States, while developed Asia posted only modest gains. Yet despite their uneven performance late in the year, global equities finished 2024 firmly in positive territory.

Canada yield curve (%)

Source: Bank of Canada, Manulife Investment Management, as of December 31, 2024. 

the average funded status for Canadian defined benefit (DB) pension plans increased to 138.1%in Q4, up from 135.0% in the previous quarter. This improvement was primarily due to a larger decrease in liabilities compared with a modest decline in assets. The average funded status was significantly higher than it was in December 2020.

Funded status of the average defined benefit pension plan in Canada

The average asset mix represents a combination of growth, hedging, and diversifying assets – each playing a unique role in the functioning of the pension portfolio. The average asset mix below implies an interest rate hedge ratio of 54.4%, relative to the interest-rate exposure of the average liabilities.¹

Based on Manulife’s Capital Market Assumptions, the average asset mix implies an expected return of 6.19%. Based on Manulife’s modelling and stress testing, there is a 95% probability that losses relative to liabilities will be less than 12.98%. 

Equity risk represents a large component of risk exposure for DB  plans, and a drastic downward move in equity prices has the potential to reduce a significant portion of their surplus. A decrease in interest rates also has the potential to negatively affect the surplus for the average DB plan, as it would lead to an increase in present value of liabilities. 

Risk analysis of the average Canadian DB pension plan

In our model, a fair amount or risk is diversified away, and along with significant equity risk, the average pension plan also has exposure to interest rate risk, credit risk, and property risk.

Solvency funded ratio of the average Canadian DB pension plan across various scenarios (projected, from best case to worst case)

Based on our scenario analysis, the median forecast solvency funded ratio for the average Canadian DB plan in December 2025 is 138.1%, and 145.5% in December 2035.

Source: Manulife Investment Management. As of December 31, 2024.

Canada’s economy displayed  signs of life in the fourth quarter, but this is partly explained by businesses frontloading potential tariffs from the Trump administration in the United States. In 2025, we expect subdued growth. It will take some time before last year’s BoC rate cuts lift household consumption. Meanwhile, the mortgage refinancing schedule will continue, limiting consumption options for many households. Businesses remain pessimistic about the year-ahead outlook. The very elevated odds of U.S. tariffs being imposed early in the year dampen investment intentions and could lead to a recession if applied as advertised.  One silver lining is that core inflation has moderated substantially, especially after discounting shelter costs. This should allow the BoC to continue cutting rates in 2025. Higher inflation expectations and President Trump’s potential policies have lifted the U.S. dollar and depressed the loonie. Canada’s currency will likely stay under pressure until the U.S. Federal Reserve renews its intentions to lower U.S. interest rates at a rapid pace or that tariffs threats are settled. Despite the risks, the Canadian equity market has performed well, especially against other advanced economies (ex-U.S.). However, we’re cautious about the upcoming year across all Canadian equity sectors tied to international trade, includingenergy, materials, and industrials.

Globally, financial conditions are expected to remain balanced, avoiding extremes that could either slow down the economy or reignite inflation.  Key central banks are anticipated to continue easing monetary policy, although the pace and extent will vary by region.

These conditions are likely to be favorable for risk assets such as equities, although investors should prepare for turbulence due to government policy uncertainties. U.S. equities are poised to lead, supported by favorable monetary policy, a robust labor market, and stable inflation within a resilient economic framework. While valuations are elevated, they find support in comparatively strong earnings growth and promising investment prospects.

1 Asset mix assumptions. 2 Liability assumptions.

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