Streamlining the Pension Risk Management Journey: A Strategic Review

Francois HélouBMO Global Asset

Management

Diane Liu BMO Insurance

Nicola ThorpeBMO Global Asset

Management

SPEAKERS:

Francois Hélou, CFA, Director, Head of Balance Sheet Solutions Sales,BMO Asset ManagementNicola Thorpe, Director, Investment Solutions North America,BMO Asset ManagementDiane Liu, Head of Client Relations & Operations, GRS, BMO Insurance

Streamlining the Pension Risk Management Journey

A Strategic Review

For institutional investor use only

BMO Global Asset ManagementBalance Sheet Solutions

Portfolio Management Global LeadershipQuantitative Analysis

London TorontoMiami Chicago

45Investment professionals

directly involved in balance sheet solutions

$68bnAssets under Management

536+Client mandates

130Insurance Pension

RiskTransfers

$186bnLiabilities under

Management

BMO Insurance

Insurance Solutions

Source: BMO Global Asset Management as at 12.31.2018.

Pension Risk Management JourneyA Strategic Review

The strategic importance of pension de-risking

Risk management through the funding journey

Transitioning to an insurer and mitigating risks

2012

20142015

20142016

20172018

2018*

2017*

2017: Bill C-27

Quebec, Ontario, B.C.

* Consultation

Canadian Pension Reforms

Traditional Glide-Path No Longer AppropriateGoing-Concern Valuations: The Balancing Act

Lower Allocation to Risk Assets

Decreases Liability Discount Factor

Fund

ing

Rat

io

Liab

ility

Va

lue

For illustrative purposes only.

Strategic Reasons for Pension De-RiskingDB plan’s financial risks are all skewed against its sponsor

Funding requirements usually increase during market downturns

Draws sponsor’s resources away from core business(es)

Limited financial upside to sponsor but significant downside

Underfunded status could impact core business(es) Disruptive Truncated

Complex Compounding

Balance Sheet SolutionsRisk management aligned to the plan’s exposure profile

Asymmetric risk profile makes a high risk asset allocation economicallysub-optimal

“Lock-in” positive funded position with an increasing allocation to hedging assets

Hedging assets reduce funding volatility and narrow the risk of unexpected negative outcomes

A focus on risk addresses the trade-off between the plan’s going-concern funding requirements and its discount factor

Pension De-Risking Journey

Traditional Balanced Portfolio

Reduce Liability

Risk

Balance Sheet

AllocationProgressive De-Risking

Pension Risk

Transfer

Unrewarded Risk

Hedging

Rewarded Risk

Budgeting

Ongoing Risk Management

FullRisk

Elimination

Unrewarded & Rewarded

Risks

Portfolio Transition

The Drivers of Funding VolatilityFor most plans, interest rates are the main volatility driver

Asset allocation example Market changes on funding

Deterministic scenarios based on 1-yr worst-case asset class returns since 2006. For illustrative purposes only.

Canada Bond Universe

40%

Global Equity20%

Canadian Equity25%

Property10%

Cash5%

-12.8%

-1.0%

-9.3%

-4.1%

-14%

-12%

-10%

-8%

-6%

-4%

-2%

0%

Interest ratesfall 1.2%

Creditspreadsincrease

1.5%

Equity falls20%

Property falls40%

Cha

nge

in fu

ndin

g le

vel

Scenario

Focus on Long-Term Objectives

• For illustrative purposes only.

Longevity

For illustrative purposes only.

90%

85%

75%

80%

Fund

ing

leve

l

Clarity of asset return targetRemove unrewarded risk

100%

Time

IndexingInterestRates

Reduce Liability RiskUnrewarded risk hedging

• For illustrative purposes only.For illustrative purposes only.

Higher return Steady growth Full de-risking

Funding level

Pension Risk Transfer or Hibernation

End of recovery plan

Time

Managing unrewarded risks throughout the funding journey

Reduce Liability RiskUnrewarded risk hedging

• For illustrative purposes only.

For illustrative purposes only.

Fund

ing

leve

l

Time

Optimize growth asset strategy

How do we fund liability hedging?

Capital efficient strategies for progressive de-risking

Can we capture strategic opportunities?

De-risk growth assets;Pension Risk Transfer?

How do we achieve the above, cost effectively?

Full de-riskingHigher return Steady growth

Cash100%

LDI Assets75%

Cash25%

Full equity exposure + liability hedging

Asset Allocation For a Balance Sheet StrategyOptimize growth asset strategy

Canada Bond

Universe40%

Global Equity20%

Canadian Equity25%Property

10%

Cash5%

For illustrative purposes only

Replicate passive equity with cash + equity futures

Cash reinvested into a portfolio of liability

hedging assets

12

Currency Hedging?

Asset Allocation For a Balance Sheet StrategyUse opportunities to de-risk

• 10-year Government of Canada yield

10-year Government of Canada yield

Source: BMO Global Asset Management. Bloomberg. For illustrative purposes only.

Set a strategic target, monitor daily, and implement through a formalized framework

• Funding level• Market level

These strategies capitalize on market opportunities

2.44%

2.48%

2.52%

2.56%

2.60%

2.64%

0 400 800 1,200 1,600 2,000

Progressive De-Risking Toward End-GameOngoing Risk Management

70%

75%

80%

85%

90%

95%

100%

Fund

ing

Leve

l

TimeSource: BMO Global Asset Management, Bloomberg as at 31.08.2018. For illustrative purposes only

Pension Risk Transfer?

Hibernation?

Higher Return Assets10%

End-Game Portfolio

90%

Higher Return Assets50%

End-Game Portfolio

50%

Allocation to the end game portfolio increases

Insurance De-risking

• “On” or “off” balance sheet?

Annuity Buy-Out

Full Pension Risk Transfer

Annuity Buy-In

Sponsor Purchases Longevity &

Investment Hedge

Longevity Insurance

Longevity Risk Protection For a

Locked-in Premium

Portfolio Transition Risks

Poor communication and data leading to worse annuity pricing

Differences between portfolio’s securities & the securities that hedge the annuities

Limited supply of the securities that hedgethe annuities

Market timing between the portfolio sale and the annuity purchases

Timing Basis

TransparencyLiquidity

Managing Portfolio Transition Risks

Address transition risks throughout the portfolio transfer

Portfolio De-Risking

Gradual Securities Positioning

Transfers In-Kind

Annuity Purchases

Transitioning to an insurance providerTransition management

• For illustrative purposes only

• Dealing costs minimized

• Out-of-market exposure limited or eliminated

• Facilitate direct and tailored transfer to insurer

For illustrative purposes only

Move to transition account

Reorganized assets

1 2

Wish-list passed to insurer

3

Thank you

Disclosure/DisclaimerTM/® Trade-marks/registered trade-marks of Bank of Montreal, used under licence.

®"BMO (M-bar roundel symbol)" is a registered trade-mark of Bank of Montreal, used under licence.

The information provided herein does not constitute a solicitation of an offer to buy, or an offer to sell securities nor should the information be relied upon as investment advice. Past performance is no guarantee of future results.

Certain statements included in this material constitute forward-looking statements, including, but not limited to, those identified by the expressions "expect", "intend", "will" and similar expressions. The forward-looking statements are not historical facts but reflect BMO AM’s current expectations regarding future results or events. These forward-looking statements are subject to a number of risks and uncertainties that could cause actual results or events to differ materially from current expectations. Although BMO AM believes that the assumptions inherent in the forward-looking statements are reasonable, forward-looking statements are not guarantees of future performance and, accordingly, readers are cautioned not to place undue reliance on such statements due to the inherent uncertainty therein. BMO AM undertakes no obligation to update publicly or otherwise revise any forward-looking statement or information whether as a result of new information, future events or other such factors which affect this information, except as required by law.

BMO Global Asset Management is the brand name for various affiliated entities of BMO Financial Group that provide investment management, retirement, and trust and custody services. BMO Global Asset Management comprises BMO Asset Management Inc., BMO Investments Inc., BMO Asset Management Corp., BMO Asset Management Limited and BMO’s specialized investment management firms. Certain of the products and services offered under the brand name, BMO Global Asset Management are designed specifically for various categories of investors in a number of different countries and regions and may not be available to all investors. Products and services are only offered to such investors in those countries and regions in accordance with applicable laws and regulations.

All Rights Reserved. The information contained herein: (1) is confidential and proprietary to BMO Asset Management Inc. (“BMO AM”); (2) may not be reproduced or distributed without the prior written consent of BMO AM; and (3) has been obtained from third party sources believed to be reliable but which have not been independently verified. BMO AM and its affiliates do not accept any responsibility for any loss or damage that results from the use of this information.

This communication is intended for informational purposes only and is not, and should not be construed as, investment, legal or tax advice to any individual. Particular investments and/or trading strategies should be evaluated relative to each individual’s circumstances. Individuals should seek the advice of professionals, as appropriate, regarding any particular investment.