What is a liability glide path, and how do pension funds use it to de-risk their portfolios as funded status improves?

A liability glide path is a pre-defined framework that systematically shifts a pension fund's asset allocation from return-seeking assets (equities, alternatives) toward liability-hedging assets (long-duration bonds, LDI strategies) as the funded ratio improves. The goal is to lock in funding gains and reduce the risk of falling back into underfunded status.

Why Glide Paths Exist:

A pension fund's primary risk is not portfolio volatility per se, but surplus volatility -- the risk that assets fail to keep pace with liabilities. As the funded ratio rises, the marginal benefit of additional return-seeking assets (which might push funding above 100%) diminishes relative to the risk of a drawdown that could reverse hard-won funding gains.

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Worked Example:

Pinehurst Manufacturing Pension has $1.2 billion in assets and$1.33 billion in liabilities (funded ratio: 90.2%). The board adopts this glide path:

At 90.2%, Pinehurst is in the 90-95% band: 45% equity / 55% LDI.

A strong equity quarter pushes assets to $1.31 billion. Funded ratio:$1.31B / $1.33B = 98.5$393M) / 70% LDI ($917M)\nTrade: Sell$197M equity, buy $197M long-duration bonds.\n\nImplementation Approaches:\n\n1. Rule-based (automatic): Pre-set triggers execute automatically when funded ratio crosses thresholds. Removes behavioral bias but may trade at disadvantageous times.\n\n2. Discretionary with guidelines: Investment committee reviews monthly and decides whether to follow the glide path or deviate based on market conditions.\n\n3. Continuous (smooth glide): Instead of discrete bands, the allocation shifts continuously as a function of funded ratio. Less cliff-effect risk.\n\nKey Design Decisions:\n\n- Speed of de-risking: Aggressive glide paths lock in gains quickly but may reduce return potential prematurely if liabilities grow\n- Ratchet vs. two-way: Some glide paths only move toward bonds (ratchet), never re-risking. Others allow re-risking if the funded ratio deteriorates.\n- LDI implementation: The bond allocation should match the liability's duration, key rate profile, and inflation sensitivity -- not just be generic bonds\n\nStudy LDI and glide path design in our CFA Level III course.