I know I am about to ask a dumb question, but I really do need help with this
1st scenario:
Let’s assume that we have pension benefits and the discount rate is 3.5%
We have pension assets that we will use to pay these benefits and to immunize, I am assuming we want the assets to grow at 3.5%.
My question is - why do we want our assets to grow by at least 3.5%
are we assuming that both assets and liabilities are growing at a rate of 3.5%, so this way they are immunized?
Scenario 2
If for the same pension liabilities, the discount rate goes to 3%, it means our liabilities go up, but what about our assets? is that changing anything? Can we still keep the expected return of the assets to be 3.5% since 3.5% is greater than 3% or does the expected return on these assets need to change?
For scenario 1, yes you want the plan assets to grow by at the least the discount rate, if it is underfunded then you want it a bit higher, if it’s overfunded then the least would be the discount rate. As you say, if assets grow by at least the discount rate then liabilities and assets should both grow at the same rate and hopefully if assets grow slightly greater than the discount they immunise the liabilities.
For scenario 2, it depends on the case facts, if the plan was underfunded than having greater liabilities due to the lower discount rate, you could keep the 3.5% but having a greater return objective, it could mean that if the markets are seriously bad due to greater risk you fall into greater underfunding, which is not an ideal situation. Case facts really dictate it because you could argue either way.