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In some cases, particularly in certain non-US territories, observed yields on certain high-quality corporate bonds can be negative for certain bond durations. Depending on the magnitude and duration of benefit payments for a particular plan, these negative yields could meaningfully reduce the overall discount rate for a benefit plan or even lead to an overall negative discount rate, particularly for plans with primarily shorter-duration payments. While this is an unusual situation that was not specifically contemplated in the accounting guidance, we believe that the actual observed market rates should be utilized.
The objective when selecting assumed discount rates for purposes of measuring a plan’s benefit obligations is to determine the single amount that, if invested at the measurement date in a portfolio of high-quality corporate debt instruments, would provide the necessary future cash flows to pay the benefits when due. If high-quality corporate bonds available in the marketplace are trading at negative yields (i.e., their present value is greater than their nominal future cash flows), an employer would need to purchase an amount of bonds that exceeds the notional undiscounted future benefit payments to generate a stream of future cash flows to pay the benefits when due. In spite of the counterintuitive outcome, that is the economic reality of a negative interest rate environment. Therefore, we believe employers should use the actual yields, even if negative, on high-quality corporate bonds throughout the yield curve to measure their benefit obligations.
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