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We operate within a risk-conscious culture. As the pension plan has matured and the plan’s risk tolerance has decreased, our approach has become increasingly risk-driven.
The main risk to the Teachers’ plan is funding risk – a shortfall of assets to pay future benefits to retired members. Over the long term, contributions plus investments (plan assets) have to be in balance with the cost of future pension benefits (plan liabilities).
Funding risk can come from either the asset side or liability side of this equation. Investments lose value periodically. But the plan’s liabilities are also very sensitive to real interest rates. For example, a 1% change in real interest rates has an approximate impact of $25 billion on future pension costs. Increased life expectancy also increases pension costs.
The plan would be in balance and have no funding risk if all contributions could be invested in risk-free assets that earn enough to fund future pension benefits. But low-risk assets such as government bonds don’t provide the returns we need to meet the plan's obligations.
Our approach to risk management includes setting an appropriate asset-mix policy, diversification within asset classes, risk budgeting and ongoing monitoring to ensure we remain within our risk parameters.
Each investment department is responsible for managing the investment risks associated with the investments they manage. Each investment department has an investment committee, or an equivalent, which meets regularly to assess the investment risks associated with the portfolios it manages and determines action plans, if required.
The fund’s liquidity position is governed by the plan’s liquidity policy and reported regularly to the board’s Investment Committee. We have enhanced our counterparty risk management, which is monitored across the fund by an investment committee and reported to the Investment Risk Committee, made up of senior investment department representatives, and to board members on a regular basis.
To deal with various challenges, we have developed robust risk management systems that provide a coordinated view of total fund risk and its components. These systems include an asset-liability model that can examine and compare a wide range of long-term economic forecasts, funding scenarios and investment strategies, and a risk system that uses a statistical framework to measure market and credit risk.
In recent years, we have updated our data and processing systems to improve reporting accuracy and develop a more holistic approach to data governance. Integrated systems are being implemented to better manage data, more fully report total-fund risk, strengthen risk modeling and provide investment managers with more useful reports to aid in their decision-making.
More information on how we manage investment risk is found in Note 2 to the financial statements. See our annual report for details.