(By Mani) Midway through the year pension looks worse than company guidance as asset returns trail assumed rates of return, although somewhat surprisingly discount rates look relatively unchanged despite lower treasury yields.
Pension still looks lower in 2013 than 2012, as of now the tailwind appears less than what the companies have already guided to and what's incorporated in consensus expectations.
The aerospace and defense industry is highly levered to changes in pension expenses. Though funding employee pension plans would come from a company's cash balance, higher pension expenses would impact earnings. Pension funds vary widely in their asset allocation and an UBS data shows companies, on average, allocate 38 percent in fixed income, 23 percent in U.S. equities and 16 percent in international equities.
"Assuming current asset returns at 2 percent for full year along with flat discount rates, our sensitivity analysis indicates 4-5% EPS hit for most with Huntington Ingalls Industries, Inc. (NYSE:HII) seeing the biggest impact," UBS analyst David Strauss wrote in a note to clients.
The analyst estimate, actual plan, asset returns up only 2 percent year-to-date on average as compared to assumed rates at 8-9 percent.
Given weak returns and the potential for an extended period of low interest rates, it is possible that companies could again lower their assumed rates of return in 2013. On average, companies currently have almost 40 percent of their pension assets in fixed income, and with low rates, it will be increasingly difficult to hit their assumed rates of return.