Assets under management by Canadian pension funds topped the $1 trillion mark for the first time in 2006 thanks in large part to the recent strong performance of domestic and global equity markets, according to new research from Greenwich Associates.

Greenwich says that strong investment returns have helped Canadian pension plan sponsors maintain funding ratios at a relatively robust 97% for the past two years. “While these results suggest that Canadian pensions are in better financial health than those in other developed countries, it is important to bear in mind that the overall average encompasses pension plans with considerable variation in funding level — including several large public and corporate pension funds that are significantly under-funded,” it notes.

At the same time, it can be argued that Canadian pension funds as a whole are actually in much better shape than average funding levels would suggest, it says. Funding ratios among Canadian corporate pension plans averaged 99% in 2006 and public and provincial plans averaged 100% funded. “It is only among the Canadian subsidiaries of U.S. companies that average funding rates drop to 92%,” said Greenwich Associates’ Toronto-based consultant Lea Hansen

The relatively strong financial condition of Canadian pension plans reflects the commitment of the country’s plan sponsors to their traditional defined benefit (DB) structures, Greenwich explains. While 22% of Canadian DB plans have been closed to new employees, the proportion of Canadian plan sponsors expecting plans to close their plans in the next two to three years declined over the past 12 months, to 2% in 2006 from 3% in 2005. (Similarly, 22% of DB plans in the U.S. have been closed to new employees, in contrast to 60% of DB plans in the UK.)

Canadian funds with assets between $101 million and $500 million have the highest closure rates, with 27% of DB plans of this size closed to new employees. Among Canada’s largest pension funds — those with more than $1 billion in plan assets — 14% have been closed to new employees. There was a notable increase in closures among plans with assets of $500 million to $1 billion. In this group, the proportion of closed funds rose to 24% in 2006 from 13% in 2005.

Greenwich also reported that Canadian plan sponsors expect their investment portfolios to generate an annual weighted average return of 6.6% over the next five years. When asked to report mean five-year rate-of-return expectations for various asset classes, Canadian plan sponsors predict: 10.1% for private equity (down from 11.1%. in 2005); 8.3% for international (EAFE) equities (down from 8.5%); 8.2% for domestic equities (up from 8.1% in 2005); 8.0% for real estate (from 7.8% in 2005); 7.8% for U.S. equities (down from 8% in 2005); 7% for hedge funds (down from 7.4% in 2005), and 4.9% for domestic fixed income (down from 5.2% in 2005).

“It is interesting to note that expected returns on hedge fund investments are equal to those for U.S. equities and lower than all other asset classes except domestic bonds,” says Greenwich Associates consultant Rodger Smith.

Canadian plan sponsors made several significant alterations to their asset allocations in 2006. Total domestic equities fell to 22.5% of total assets in 2006 from 23.9% in 2005 and allocations to domestic bonds dropped to 31.4% from 32.0%. Meanwhile, allocations to foreign stocks and bonds increased to 29.1% of total assets in 2006 from 25.6% in 2005. Indeed, the most notable change to Canadian plan sponsors’ asset allocations in 2006 was this 3.5% increase in allocations to foreign securities, Greenwich noted.

The increased allocation to foreign securities is evidence of the still unfolding effects of the elimination of foreign property limitations. More than a third of Canadian plan sponsors say they plan to increase allocations to foreign investments. Of these, 37% plan to do so within six months, 28% plan to do so within a year and 31% plan to increase foreign exposure within a three-year window.

“Taken together, a significant share of Canadian funds expects to meaningfully increase allocations to foreign securities in the next year,” says Greenwich Associates consultant Lori Crosley. “In all likelihood, that proportion would be much higher were it not for the bull market in Canadian stocks.”