Staff Retirement Plan Annual Report 2013

Transcription

1 Staff Retirement Plan Annual Report 2013 Financial Management of the Plan

2 Actual Asset Allocation as of December 31, % 23% 12% 53% Equity strategies Absolute return strategies Real assets strategies Fixed income strategies SRP Annualized Returns as of December 31, 2013 (net of inflation and fees) Plan Highlights at a Glance Calendar Year Plan participants (as at period-end) Current beneficiaries (retired participants) 9,058 8,793 8,515 8,221 7,937 Deferred beneficiaries (active participants) 15,637 14,978 14,360 14,157 13,806 - Gross Plan 1,688 1,880 2,102 2,343 2,604 - Net Plan 13,949 13,098 12,258 11,814 11,202 Assets and cash flows (US$ million) Beginning fair market value of Plan assets 15,997 14,605 14,316 13,003 11,567 - Staff and Bank contributions Benefit payments Investment returns (net of all fees and expenses) 1,511 1, ,571 1,735 Ending fair market value of Plan assets 17,249 15,997 14,605 14,316 13,003 Annual performance (%) Gross nominal return Net nominal return Net real return Funded ratio measures (PBO-based) discounted using High-quality real corporate rates* Risk-free real rates percent real interest rate Percent (%) US$ years 5 years 10 years 15 years 20 years Since 1990 Actual return Benchmark return Long-Term Real Return Objective Cumulative Dollar Value Growth ( ) Gross nominal return Traditional portfolio return (60/40 stocks/bonds) *The PBO-based measure, discounted using high-quality real corporate rates, is required by International Financial Reporting Standards and Generally Accepted Accounting Principles in the United States for plan sponsors and is the most commonly used and reported measure within the pension industry and hereinafter referred to as the funded ratio. Net nominal return Long-term return objective (nominal)

3 Acronyms ALM asset liability management ABO accumulated benefit obligation ASC Accounting Standards Codification ASU Accounting Standards Updates bps basis points BofA ML Bank of America Merrill Lynch BNY Mellon Bank of New York Mellon CY calendar year CPI consumer price index EM emerging markets EURIBOR Euro Interbank Offered Rate FoF fund of funds FASB Financial Accounting Standards Board FY fiscal year G7 Group of 7 industrialized countries HAGS highest three years average pensionable gross salary HANS highest three years average net salary HFRI Hedge Fund Research Performance Index HR human resources IASB International Accounting Standards Board IBRD International Bank for Reconstruction and Development IFC International Finance Corporation IFRS International Financial Reporting Standards IRS Internal Revenue Service ISDA International Swaps and Derivatives Association LEG Legal Vice Presidency LIBOR London Interbank Offered Rate L-T long-term LTRRO Long-Term Real Return Objective M&A mergers and acquisitions MIGA Multilateral Investment Guarantee Agency ML Merrill Lynch MRA mandatory retirement age MSCI Morgan Stanley Capital International NAV net asset value NCREIF National Council of Real Estate Investment Fiduciaries NRA net retirement age PBAC Pension Benefits Administration Committee PBO projected benefit obligation PEBP Post-Employment Benefits Plan PEN Pension and Endowments Department PENAD Pension Administration Division PFC Pension Finance Committee PV present value PVAB present value of accumulated plan benefits REITs Real Estate Investment Trusts SAA strategic asset allocation SRP Staff Retirement Plan and Trust SSRP Supplemental Staff Retirement Plan S&P Standard and Poor s TBA to be announced TIPS Treasury Inflation Protected Securities TRO Treasury Operations Department TSA Tax Supplement Account TUCS Trust Universe Comparison Service U.S. GAAP United States Generally Accepted Accounting Principles UST United States Treasury VaR value at risk VSC voluntary savings component WBG The World Bank Group

4 Table of Contents Letter from the Pension Finance Administrator Executive Summary I. Overview of the Plan II. Financial Health of the Plan III. Financial Management of the Plan IV. Plan Performance Appendix I: Committee Membership 42 Appendix II: A Primer on Valuing Pension Plan Liabilities 43 Appendix III: Characteristics of Different Asset Classes 47 Appendix IV: Historical Performance of Cash Balance and Voluntary Savings Component Investment Options as of December 31, Appendix V: Glossary of Terms 50 Appendix VI: Actuarial Valuation Results Letter 53 Appendix VII: Independent Auditors Report 63 Appendix VIII: Financial Statements 65 List of Boxes, Figures and Tables BOXES Box 1.1: Who is Responsible for Benefit Payments? 14 Box 1.2: Facts about Plan Participants 16 Box 3.1: A Snapshot of Plan Governance and Funding 23 Box 3.2: Relationship between Investment Performance, Funded Ratio and Contributions 24 Box 3.3: External Manager Selection Process 28 Box 4.1: Net Plan Options 35 Box A2.1: Discussion on Longevity Assumptions 44 Box A2.2: The Features of Different Liability Measures 45 Box A2.3: Usage of Discount Rates 45 Box A2.4: Assessing the Financial Position versus Funding a Plan 46 FIGURES Figure ES.1: Plan Participants ( ) 6 Figure ES.2: Increase in Plan Assets from Investment Returns and Net Contributions 7 Figure ES.3: Plan Assets, Liabilities and Funded Ratios 8 Figure ES.4: Strategic Asset Allocation as of December 31, Figure 1.1: Plan Participants ( ) 15 Figure 2.1: Plan Assets, Liabilities and Funded Ratios 19 Figure 2.2: Real AA Discount Rates (single equivalent) 19 Figure 2.3: Annual Contributions, Net Investment Income and Benefit Payments ( ) 20 Figure 2.4: Dollar Impact on Plan Assets from Investment Returns and Net Contributions 21 Figure 3.1: Bank SRP Contribution Rates since Fiscal Year Figure 4.1: SRP Annualized Returns as of December 31, 2013 (net of inflation and fees) 34 Figure 4.2: Fixed Income Strategies by Geography 36 Figure 4.3: Net Investment Performance - Fixed Income Strategies 36 Figure 4.4: Public Equities Portfolio by Geography 38 Figure 4.5: Private Equity Portfolio by Geography 38 Figure 4.6: 1-year, 5-year, 10-year Net Investment Performance - Equity Strategies 39 Figure 4.7: Private Real Estate Portfolio by Geography 39 Figure 4.8: Net Investment Performance - Real Assets Strategies 39 Figure 4.9: Hedge Funds Portfolio by Geography 41 Figure 4.10: Net Investment Performance - Hedge Funds Portfolio 41 TABLES Table ES.1: SRP Performance as of December 31, Table 3.1: Asset Allocation as of December 31, Table 3.2: Asset Allocation effective as of December 31, Table 4.1: SRP Performance as of December 31, Table 4.2: Market Environment as of December 31, The SRP Annual Report contains forward-looking statements that may be identified by such terms as anticipates, believes, expects, intends, or words of similar meaning. Such statements involve assumptions and estimates based on current expectations, which are subject to risks and uncertainties beyond control. Consequently, actual results could differ from those anticipated. This report may also contain information originating with third parties, information which is in public domain and other information provided to or obtained from third parties ( Third Party Information ). Staff of IBRD did not independently verify accuracy or completeness of Third Party Information and does not guarantee the same, to the extent Third Party Information has been used in, or relied upon, in preparation of this report.

5 LETTER FROM THE Pension Finance Administrator Letter from the Pension Finance Administrator On behalf of the Pension Finance Committee (PFC), I am pleased to present the 64th Annual Report of the World Bank Group Staff Retirement Plan (SRP, or the Plan ). Calendar year 2013 was another strong year for the SRP. Serving nearly 24,700 current and deferred beneficiaries, the assets of the Plan were $17.3 billion at the end of the year, with investment returns contributing more than $1.5 billion to the growth of the assets over the year. The SRP continues to be well funded and have a strong governance structure in which the assets of the Plan are held in trust, separate from the assets of the sponsor. In 2013, the SRP assets again earned a return in excess of the Long-Term Real Return Objective (LTRRO) of 3.5 percent and the PBO funded position of the SRP increased ending the year at 1.00 on the back of strong investment returns and a rise in U.S. interest rates. The year also saw some changes to the World Bank s pension benefits that apply only to current World Bank Group staff prospectively and not to retirees and others already receiving benefits. These benefit design changes have been fully incorporated into the actuarial valuations of the Plan liabilities and are reflected in the contribution rates for fiscal year (FY) RESULTS In 2013 the world economy advanced further on its recovery path led primarily by developed economies although the journey continued to be a bumpy one. Towards the middle of 2013, with the outlook for economic growth improving in developed markets, the U.S. Federal Reserve signaled to the markets that it would begin to pare down its purchases of government and mortgage backed securities. Concerns about stimulus withdrawal caused bond markets to sell-off, pushing up the yield on the U.S. Treasury 10-year note by more than 100 basis points and prompting investors to scale down emerging market positions. Consequently, the emerging market assets significantly underperformed developed markets. In this environment, financial markets delivered varied results in 2013, in stark contrast to High quality fixed income assets experienced negative returns and so did emerging market equities and most commodities. On the other hand, favored by the renewed growth momentum and improved expectations, developed market equities and private equity had a very strong performance with the MSCI World Index returning more than 27 percent and the private equity index returning about 20 percent. Developed markets real estate fundamentals also continued to improve over the course of 2013 resulting in a return of 11 percent for the NCREIF index. In 2013, the SRP s diversified asset allocation returned 10.4 percent gross of fees (9.7 percent net of fees) and a net real return over inflation of 8.1 percent for the year. The SRP s net real return was in excess of the LTRRO, currently at 3.5 percent. Active management of the Plan contributed to an excess return of 48 basis points over the asset class weighted benchmark during the year, with most asset classes and strategies contributing to this excess return. In April of 2013, staff also took actions to significantly reduce the interest rate risk of the SRP which contributed meaningfully to the total return of the Plan over the remainder of the year. Pension benefits are funded by a combination of Plan assets, investment income and contributions. When real returns exceed the LTRRO, future contributions will be lower (all else being equal), and vice versa. Over the 5-year, 10-year and longer time periods, the Plan s net real returns of 8.3 percent, 4.6 percent and 5.2 percent (since 1990) respectively have been well in excess of the LTRRO. As a result, the investments have played a strong role in the funding of Plan benefits, resulting in contribution rates being lower than they would have been had the assets returned the LTRRO. The Plan s PBO funded ratio increased to 1.00 at the end of December 2013 as a result of the combination of strong investment returns and the rise in interest rates. In May 2014, the PFC approved a Bank contribution rate of percent of net salaries for FY15. This rate is lower than what was expected last year primarily due to investment returns being higher than the LTRRO. The external actuaries undertook a periodic experience study for the SRP designed to ensure that the demographic assumptions used in the actuarial valuation models provide the best estimate of future experience. They further reviewed the LTRRO and the inflation assumption. The LTRRO was reconfirmed and the assumed inflation rate was recalibrated to 2.5 percent to reflect more accurately longer term inflation expectations. In addition, the PFC approved certain modifications to the actuarial assumptions and these too are reflected in the contribution rate for FY15. STRATEGY AND OUTLOOK Going into 2013, we expected continued strengthening of the growth trajectory, particularly in developed countries. We were concerned about the level of interest rates and, consequently, took actions during the year to reduce the interest rate sensitivity of the Plan and increase the overall exposure to growth assets while maintaining a cautious stance on emerging markets. We also continued to experience strong distributions from private equity and, to some extent, private real estate investments which we strove to reinvest in order to maintain the allocations close to the policy. This trend is expected to persist in 2014 and represents an area of significant focus for the investment team. Looking forward, current market expectations point towards further gradual improvement in economic conditions with developed countries still expected to lead the way, although significant challenges remain. Improved growth expectations in the United States reinforce the concerns for the outlook for interest rates with negative implications for fixed income returns. At the same time, equity and credit markets have had 2 3

6 an extraordinary run since 2008 fueled by the excess liquidity in the financial system, leaving less room for outsized returns going forward. Against this background we maintain our diversified approach seeking to strike the appropriate balance of generating strong investment returns without taking excessive risks. One of the ways we seek to achieve this is by identifying and exploiting selective investment opportunities where we can effectively use our long investment horizon and access to top external managers as a competitive advantage. For example, we have been analyzing the ongoing changes in different parts of the financial markets since the financial crisis in 2008 that have altered the structure and participants primarily through the re-regulation of the banking system. We have been focusing on this as a theme and investing opportunistically to take advantage of this, whenever possible. In December 2013, the PFC reviewed the asset allocation of the Plan and decided to make some changes to the investment framework that are designed to further streamline the asset allocation, increase implementation flexibility and focus the asset allocation on achieving the LTRRO going forward. Supported by engagements with other major institutional investors, the PFC has been focused on the key investment objective as encapsulated by the LTRRO. Furthermore, the asset allocation of the Plan was modified slightly to reduce the granularity of the allocation in some areas. In addition, the changes increase the flexibility for the implementation of investment opportunities that are outside of the streamlined policy allocation. OUTREACH AND COMMUNICATION Recently, we launched the Pension website. The website is an important part of the continuation of our work to enhance communication with Plan beneficiaries and stakeholders. As previously announced, the functionality of the website is being rolled out in phases. The first release provides key information about the pension plan, including plan governance and funding, pension benefits, investment management and performance reporting. With the recent launch by the Bank of the new human resources (HR) system, our focus is now on the development of the second phase of the website that will provide retirees and current staff with a self-service interface to the new HR system in a secure environment. Information provided on the website is for information purposes only. In addition to the website, we continue to engage extensively with active participants through seminars, video conferences, and one-on-one counseling services. The pension kiosk on the ground floor of the main complex, opened in 2011, has assisted over 2,000 participants so far. PENSION FINANCE COMMITTEE This year, I would like to welcome Frank Heemskerk and Javed Hamid to the PFC. Mr. Heemskerk is a World Bank executive director. Mr. Hamid, is the retiree alternate to Jeff Katz who serves as a nominee of the 1818 Society. We are looking forward to working with Mr. Heemskerk and Mr. Hamid. Also, at this time, I would like to thank Piero Cipollone for his service and contributions to the Committee. COMMITMENT TO RESULTS The pension team is committed to working with the PFC and the Pension Benefits Administration Committee to ensure that the investment, financial and administration functions are performed with integrity and with the ultimate goal of serving well the World Bank Staff Retirement Plan and all of the Plan beneficiaries. The team will continue to work to employ strategies and practices that we believe are in the best interest of the Plan and that best enable us to accomplish the mission entrusted to us. John F. Gandolfo Pension Finance Administrator and Chief Investment Officer Letter from the Pension Finance Administrator 4 5

7 12,103 12,303 Executive Summary PLAN OVERVIEW The Staff Retirement Plan and Trust (SRP, or the Plan ) is a contributory defined-benefit pension plan established by the International Bank for Reconstruction and Development 1 (IBRD, or the Bank ), and covers employees of the Bank, the International Finance Corporation, and the Multilateral Investment Guarantee Agency. As a defined benefit plan, the benefits of the SRP at retirement are determined pursuant to the Plan Document of the SRP adopted by the Executive Directors of the Bank (Plan Document) and these are based on an employee s pay and length of service. The Bank Group has a contractual obligation to make benefit payments to the Plan beneficiaries in a timely manner, and the Plan s governance mechanism, including the 1 Employees of IBRD are also employees of the International Development Association (IDA). Participants 18,000 16,000 14,000 12,000 10,000 8,000 6,000 4,000 2, , , Figure ES.1: Plan Participants ( ) 12,671 7, ,907 7, ,506 7, ,806 7, ,157 8, Active participants (includes those not in contributory service) (left scale) Retired participants and beneficiaries (left scale) Retired as a percentage of active participants (right scale) funding and investment policies described here are designed to support this objective. The Plan has two sets of provisions: the Net Plan which includes participants who joined on or after April 15, 1998; and the Gross Plan for those who joined prior to April 15, On December 19, 2013, the World Bank Board of Executive Directors approved some prospective revisions 2 to certain elements of both the Net and Gross Plans. The Plan currently serves nearly 24,700 participants overall, with the ratio of retirees to active participants currently at 58 percent, a figure that has remained fairly stable over recent years (figure ES.1). 2 The revisions relate to the normal and mandatory retirement ages, staff contributions to the Net Plan cash balance accounts, survivor benefits, and the grossing-up formula for tax purposes for gross plan participants. These revisions impact the benefits of current World Bank Group staff only, not individuals who have already retired from the World Bank Group, and are effective at different times in These changes result in a small decrease in the actuarially determined pension obligation. 14,360 8, ,978 8, ,637 9, Percent (%) US$ billion GOVERNANCE The Plan Document creates two committees: the Pension Finance Committee (PFC) responsible for the financial management of the Plan and supported by the Pension Finance Administrator, and the Pension Benefits Administration Committee (PBAC) responsible for the administration of the Plan s benefits, supported by the Pension Benefits Administrator. According to the provisions of the Plan document, membership of both Committees includes nominees from the Bank s Executive Directors, World Bank Group staff, the Staff Association, and the 1818 Society, an organization of the World Bank Group s retirees. All members are appointed by the president or his or her delegate, and in their capacities as members of the respective committees have an obligation to act in accordance with the Plan Document. PLAN ASSETS The Plan s assets are held in a trust. All contributions made to the Plan by the Bank are paid into the trust and are irrevocable. Staff contributions are deducted from their net salary and paid into the Trust. The Bank acts as trustee for the Plan and the Plan assets are used for the exclusive benefit of the participants, retired participants, and their beneficiaries. Figure ES.2: Increase in Plan Assets from Investment Returns and Net Contributions Last 5 Years Last 10 Years Last 20 Years Net investment income Contribution of net benefit payments Net change in plan assets Contributions that are not needed to pay current benefits remain in the trust and are invested with the objective of accumulating sufficient assets to meet future pension benefit obligations. As such, the current Plan assets of $17.3 billion, represent the accumulated contributions paid by the Bank and participants net of benefit payments, together with the accumulated value of investment earnings net of plan expenses thereon (figure ES.2). FINANCIAL HEALTH A good indicator of a pension plan s financial health is the ratio of the assets of the plan to a measure of the liabilities (called the funded ratio). Funded ratios are a point-in-time measurement of the adequacy of the current value of a plan s assets in relation to that of a plan s liabilities. Given that pension plan liabilities 3 can be defined and measured in a number of different ways, it is possible to have different funded ratio measures for the same Plan. The most widely used and publicly disclosed measure of pension plan liabilities for an open plan is the projected benefit obligation (PBO) As described more fully in appendix II, there are two components involved in determining the value of a pension plan s liabilities: (1) the expected future stream of benefit payments underlying the liability calculation resulting in different liability measures and (2) the discount rate used to determine the present value (PV) of the chosen benefit cash flow stream in other words, the value today of the future stream of benefit payments. A higher discount rate will result in a lower PV of future benefit payments and vice versa. The Plan liabilities are long term in nature and, thus, the present value of the liabilities is sensitive to changes in real interest rates. Executive Summary 6 7

8 Funded ratio Figure ES.3: Plan Assets, Liabilities and Funded Ratios ,000 18,000 15,000 12,000 9,000 6,000 3,000 Funded ratio (left scale) Plan assets (right scale) PBO liabilities (right scale) measure. 4 It reflects the present value of all retirement benefits earned by participants (adjusted for assumed inflation) as of a given date, including projected salary increases to retirement. Therefore, the PBO measure is the single most appropriate metric for assessing the financial position (i.e. the ability to cover earned benefits) of the Plan as of a certain date. The discount rate used to convert future obligations into today s dollars is derived from high-grade (that is, AArated) corporate bond yields as required by the globally recognized International Financial Reporting Standards and Generally Accepted Accounting Principles in the United States for plan sponsors. The PBO-based funded ratio for SRP 5 was 1.00 as of December 31, 2013 as shown in figure ES.3, an increase of 12 basis points owing to strong investment performance coupled with an increase in the real AA discount rate. FINANCIAL MANAGEMENT In managing the Plan, the PFC seeks to strike a balance between funding Plan benefits from Plan assets and investment returns, and from 4 This measure is required by the International Financial Reporting Standards and Generally Accepted Accounting Principles in the United States for plan sponsors, and is the most commonly used and reported measure within the pension industry. 5 For reference, the average PBO-funded ratio for the 100 largest U.S.-based pension plans, according to Milliman, stood at 0.95 as of December 31, Milliman, a pension consulting and advisory firm, conducts annual pension funding studies of the 100 largest definedbenefit pension plans sponsored by U.S. public corporations. The study is based on pension plan financial information disclosed in the footnotes to the companies annual reports. 0 US$ million contributions. The key policies underpinning the financial management of the Plan, including the determination of sponsor contributions and the investment of Plan assets are the funding and investment policies. The objective of these policies is to ensure that the Plan has sufficient assets to meet benefit payments over the long term. The funding policy, as approved by the PFC, establishes the rules that determine sponsor contributions. The policy seeks to fund the Plan in a consistent and timely manner, while at the same time avoiding excessive volatility in Bank contributions. The funding policy, determines how much the Bank, as the Plan sponsor, must contribute annually to sustain and ensure the accumulation of sufficient Plan assets over time to meet the expected benefit payments. The Bank s annual contributions to the Plan are calculated using assumptions established under the funding policy. Asset performance is an important factor in determining the Bank s contribution rate. The funding policy has been predicated on the achievement of a 3.5 percent real return on Plan investments since 1999, and this rate constitutes the long-term (L-T) objective or hurdle rate for Plan assets, referred to as the Long-Term Real Return Objective (LTRRO). The PFC believes that the LTRRO is the most appropriate metric for assessing whether investment returns are meeting funding policy assumptions and the objectives of Current Plan Assets + Investment Returns the financial management of the Plan. Essentially, if Plan assets return 3.5 percent real and contributions are made at the actuarially required rates (that reflect the long-term cost of the benefit design), the benefits will be fully funded over time. 6 In fiscal year (FY) 2014, the Bank s contribution rate to the SRP was percent of net salaries covering the period from July 2013 through June For FY15, the rate approved by the PFC is percent of net salaries. In 2014, based on recommendations from the Plan s independent actuaries, Buck Consultants, the PFC approved revised demographic and financial assumptions for future valuations, effective for the most recent actuarial valuations. The aforementioned benefit design changes as well as the actuarial assumptions have been incorporated into the actuarial valuations and are reflected in the contributions approved by the PFC for FY15. The investment of Plan assets is directed by the Plan s investment policy. Asset diversification and liability-informed investment management are important considerations in the SRP s overall investment strategy and risk management approach. A major component of the investment policy is the strategic asset allocation (SAA) which represents the asset mix that the PFC believes is best able to meet the LTRRO over a given investment horizon and within acceptable risk parameters. Volatility of returns and downside risk measures are considered key indicators of the Plan s overall investment risk. At any point in 6 The Bank contributions are determined based on a modified open group approach of determining liabilities. This measure differs from the PBO liability measure alluded to earlier in a number of ways: (i) it covers not only the existing Plan participants, but also new staff projected to enter the Plan over the next 10 years, (ii) it covers not only benefits earned and accrued till date, but also future accruals of all participants over the entire length of their future projected service, (iii) also, the PV of these liabilities are determined using a 3.5 percent real discount rate, in contrast to the market-based discount rate used to calculate the PBO for accounting purposes. Contributions + = Benefit Liabilities 9 time, the return assumptions underlying a given SAA are dependent on the particular market environment. These return assumptions, which have varied and will vary over time, guide the PFC in determining the appropriate level of risk-taking on plan assets in order to meet or exceed the LTRRO over the medium to long term. The SAA is periodically reviewed and approved by the PFC as appropriate. Over the course of 2013, the PFC approved several changes to the asset allocation and investment framework reflecting concerns about the outlook for fixed income in some developed countries and the on-going goal of taking a more dynamic approach to the investment strategy. The asset allocation was streamlined and greater flexibility was introduced to enable accessing investment opportunities that fall outside the policy portfolio. In addition, the exposure of the asset allocation to interest rates was further reduced through the sale of the U.S. Treasury Inflation Protected Securities (TIPS) portfolio at a significant premium over the purchase price. The SAA as of December 31, 2013 is presented in figure ES.4. Figure ES.4: Strategic Asset Allocation as of December 31, % 13% 8% 53% Equity strategies Absolute return strategies Real assets strategies Fixed income strategies Executive Summary

9 Table ES.1: SRP Performance as of December 31, 2013 Statistics SRP performance (%) Annualized CY13 5-year 10-year 20-year Since 1990 Gross nominal return Net nominal return Excess net return over asset class weighted benchmark Net real return Long-Term Real Return Objective (LTRRO) Excess net real return over LTRRO Consumer price index (%) Executive Summary PLAN PERFORMANCE The SAA and risk tolerance of the Plan are the primary drivers of the total return of the Plan and its ability to meet the LTRRO. Since , the Plan s assets have increased by more than $13.9 billion, net of fees, expenses, and benefit payments. Over the same period, cumulative investment income generated $17.1 billion, net of fees and expenses including $1.8 billion of value add from active management. In 2013, the SRP returned 9.7 percent net of fees, outperforming the asset class weighted benchmark by 48 basis points. The net real return in 2013, 8.1 percent, was substantially in excess of the LTRRO. As shown in table ES.1, over medium and long time periods, the Plan has earned net real returns in excess of the LTRRO. This means that Plan asset returns have exceeded what was expected of them in the overall financial management of the Plan. Although the Plan is managed with a long-term horizon, it should be expected that results over shorter time periods may be impacted positively or negatively by short term market movements. expenses (including staff and other administrative costs), and contractual services provided by third parties, such as consulting, custody, audit and actuarial services. These expenses are discussed annually with and approved by the PFC, during the annual budget review process. In 2013, the total administrative costs for investment management, including in-house administrative expenses and expenses associated with third party contractual services, amounted to 6.7 basis points (bps) on the total assets under management. Investment management fees for external managers amounted to 76 bps for Plan management strives to keep Plan costs reasonable relative to the business model and benchmarks costs against the industry periodically. Expenses necessary to properly perform the trustee functions and duties are borne by the Plan. These expenses include investment management fees for external managers, in-house administrative 7 The period since 1990 is used as an anchor for Plan performance since it reflects a sufficient long history of Plan s diversified asset allocation through different market cycles

10 The following sections of the report provide a more detailed review of the SRP for the year ended December 31, 2013, including information on Plan beneficiaries, the key policies underpinning the financial management, financial results, and the financial health of the Plan. The report is organized as follows: Section I Overview of the Plan contains a brief overview of the Plan design, benefit structure, participants profiles, and governance. Section II Financial Health of the Plan discusses the Plan s financial health. Section III Financial Management of the Plan focuses on the financial management of the Plan, providing greater details on the key policies, including funding, asset liability management and risk tolerance, investment management, as well as risk management. Section IV Plan Performance covers the 2013 market environment along with the long-term and short-term performance of the various strategies and asset classes in detail

11 SECTION I Overview of the Plan The Staff Retirement Plan and Trust (SRP, or the Plan ) is a funded contributory pension plan established to provide retirement benefits to employees of the World Bank Group (WBG, or the Bank Group ), which includes the International Bank for Reconstruction and Development 8 (IBRD, or the Bank ), the International Finance Corporation (IFC), and the Multilateral Investment Guarantee Agency (MIGA). PLAN DESIGN, BENEFITS AND PARTICIPATION Two plans make up the overall SRP and Trust: the Net Plan and the Gross Plan. 9 Participants who joined on or after April 15, 1998 are covered by the Net Plan, which has three benefit components: (1) a definedbenefit, inflation-indexed annuity based on the participant s number of years of service and 8 Employees of IBRD are also employees of the International Development Association (IDA). 9 Annuity benefits in the Gross Plan and the Net Plan are subject to certain minimum service requirements and are substituted with lump sum payouts in cases where the minimum service requirements are not met. highest three years average net salary; (2) a cash balance benefit reflecting the accumulated value of specified World Bank Group credits, participant contributions, and investment earnings based on investment options chosen by the participants; and (3) a voluntary savings benefit reflecting the accumulated value of optional contributions made by the participants and investment earnings based on investment options chosen by the participants. Participants who joined prior to April 15, 1998 are covered by the Gross Plan, a defined-benefit plan providing an inflationindexed annuity upon retirement based on the participant s number of years of service and highest three years average pensionable gross salary. Retirees may elect to receive pensions in currencies other than the U.S. dollar, subject to applicable conditions stated in the Plan. A brief description of the Plan benefits can be found in note A to the Plan s Financial Statements Box 1.1: Who is Responsible for Benefit Payments? The World Bank Group specifically, the Bank, International Finance Corporation (IFC), and the Multilateral Investment Guarantee Agency (MIGA) in its capacity as an employer has a contractual obligation to make the benefit payments defined in the Plan Document to participants when they retire or otherwise become entitled to them. The Plan s assets are held in a trust established by the Bank and formalized in the Plan Document approved by the Executive Directors of the Bank, for the exclusive benefit of Plan participants and retirees or their beneficiaries. The Bank acts as a trustee for the Plan. The Bank also contributes to the cost of funding the liabilities of the Plan and all such Bank contributions are paid into the trust and are irrevocable. The Plan assets, held in trust, represent the accumulated contributions paid by the Bank and participants (of both the Gross and Net Plans), net of benefit payments and Plan management expenses, together with the accumulated value of investment earnings thereon. Participants 18,000 16,000 14,000 12,000 10,000 8,000 6,000 4,000 2, , , ,303 6, ,671 7, ,907 7, ,506 7, ,806 7, ,157 8, Active participants (includes those not in contributory service) (left scale) Retired participants and beneficiaries (left scale) Retired as a percentage of active participants (right scale) (appendix VIII). Additionally, the Treasury Pension website (pension.worldbank.org) contains useful information about the SRP, including the Plan s annual reports, as well as Gross Plan and Net Plan information, including investment option fact sheets with regard to the latter. Participants contribute at a fixed rate depending on the plan in which they are participating. For the Net Plan, the rate is five percent of net salaries until new changes described in the next paragraph take effect. For the Gross Plan, the rate is seven percent of pensionable gross salaries. The Bank is obligated to fund the cost of Plan liabilities not contributed by participants. 10 On December 19, 2013, the World Bank Board of Executive Directors approved some prospective revisions to certain elements of both the Net Plan and the Gross Plan. The main revisions relate to the normal and mandatory retirement ages, staff contributions to the Net Plan cash balance accounts, survivor benefits, and the grossing-up formula for tax purposes for gross 10 Employer contributions are made by the Bank and reimbursed to the Bank by other World Bank Group entities for their proportionate share of the contributions made. Figure 1.1: Plan Participants ( ) 14,360 8, ,978 8, , , Percent (%) plan participants. 11 These revisions impact the benefits of current World Bank Group staff only, not individuals who have already retired from the World Bank Group, and become effective at different points in time in These changes result in a small decrease in the actuarially determined pension obligation. As of December 31, 2013, there were 15,637 active participants in the Plan 13,949 in the Net Plan and 1,688 in the Gross Plan and 9,058 retirees and other beneficiaries (see figure 1.1). With the numbers of active participants and retirees growing at approximately the same rate, the ratio of retirees to active participants, currently at 58 percent, has remained fairly stable over recent years. MANAGEMENT OF THE PLAN The Pension Finance Committee (PFC) and Pension Benefits Administration Committee (PBAC) are responsible for the financial management and administration of the benefits under the Plan and are, respectively, supported by the Pension Finance Administrator ( Finance 11 As part of the revision, the voluntary savings component will be discontinued for headquarter staff in the Net Plan and the balance will be transferred to the cash balance component. Overview of the Plan 14 15

12 Box 1.2: Facts about Plan Participants The Plan serves 24,695 participants overall. 89 percent of active participants are in the Net Plan. The average active participant is 44 years old and has nine years of service. 61 percent of active participants have been with the WBG for less than 10 years and 76 percent for less than 15 years. As of December 31, 2013, there are four beneficiaries over the age of 100 receiving pensions. 70 percent of the retirees are domiciled in the United States, 15 percent in Europe, and 15 percent in the rest of the world. Active Participants by Age 35% 6% 29% Age under 30 Age % Age Age 50 and over 31% 11% 2% Retirees by Age 11% 45% Age under 60 Age Age Age Age 90 and over Administrator ) and the Pension Benefits Administrator (Benefits Administrator). The PFC is responsible for the overall financial management of the Plan and determines and directs the investment of the Plan assets. The PBAC is responsible for the administration of Plan benefits. The PFC s responsibilities include the following: (1) approving investment policies and rules for the Plan s management; (2) approving funding methods and assumptions for the actuarial valuation of the Plan s assets and liabilities; (3) ensuring that actuarial valuations of the Plan s assets and liabilities are undertaken, and determining the Bank Group s annual contributions on the basis of such valuations in accordance with the Plan Document; and (4) approving the Plan s annual budget and the annual financial statements for the Plan. The PFC also reviews the Plan s investment performance. The Plan Document requires that the PFC be composed of a vice president, Senior Vice President or Managing Director of the Bank (as Chairman), two Executive Directors, and three to eight other members, two of which are nominated by the Staff Association and one (plus an alternate) by the 1818 Society (an organization of Bank Group retirees) as listed in appendix I. The PBAC membership also requires two Executive Directors, a Vice President or Managing Director (Chairman), but only three to six other members, three of which are nominated in the same manner as the PFC s other members. All members are appointed by the president or his or her delegate, according to the Plan Document. In discharging their responsibilities, the PFC members shall act in accordance with the Plan Document which requires (1) that Plan assets be held, administered and maintained by the Trustee, in Trust, separately from the Trustee s other property and assets solely to provide the benefits and pay the expenses of the Plan, and (2) that no part of the principal or income of the Plan shall be used or diverted to purposes other than for the exclusive benefit of the participants and retired participants or their beneficiaries or estates under the Plans, until all liabilities thereof have been satisfied. The director of the Pension and Endowments Department (PEN) acts as the Finance Administrator. Subject to the general directions of the PFC, the Finance Administrator prepares documents, makes recommendations to the PFC, and performs all such other functions as assigned by the PFC or as directed by the Plan Documents. Plan functions are performed within various departments in the Bank s Treasury (TRE) and Legal (LEG) Vice Presidency. PEN is responsible for all investment-related functions, including asset allocation, portfolio construction, investment strategy research, implementation of investment decisions (i.e. risk allocation, passive versus active portfolio management, tactical positioning, manager hiring, termination, and monitoring as well as due diligence processes), and portfolio rebalancing. An in-house actuary within PEN is responsible for overseeing the annual valuation of the Plan s liabilities and the annual contribution recommendations by external actuarial consultants as well as for undertaking periodic projects, such as Plan experience studies. The Plan uses the firm Buck Consultants as the external actuarial consultant to assist the in-house actuary. The Quantitative Strategies, Risk, and Analytics Department is responsible for measuring and monitoring Plan risks and developing risk management tools for the Plan. The Treasury Operations Department (TRO) is responsible for accounting, asset valuation, performance measurement and attribution, and management reporting as well as cash management for the Plan. In addition, TRO manages and oversees all activities performed by the Plan s custodian, monitors and approves investment management expenses for certain asset classes, tracks asset class exposures and measures and monitors liquidity and counterparty risks. It is also responsible for the production of the Plan s annual reports and year-end financial statements in compliance with all applicable accounting standards and policies. The Pension Administration Division (PENAD) of PEN administers the provisions of the Plan to nearly 24,700 participants, including retirees and beneficiaries, subject to the oversight of the PBAC. PENAD administers pension benefits for retirees and beneficiaries, including maintenance cash balance and voluntary savings accounts, administration of disability, restorations, transfers, superannuation, and spousal support. It also undertakes education for Plan participants through individual counseling, pre-retirement planning seminars, and other avenues. LEG supports pension investment management through the review and negotiation of legal documentation for the Plan s investment activities, including investment management agreements and fund investment documents, and provides support on custody and certain tax-related matters. In addition, LEG provides legal support on benefits and administration issues. The Plan s assets are managed for the most part by external asset managers and, except for fund investments, are held in custody, primarily with the Bank of New York Mellon. Plan expenses necessary to properly perform the above-mentioned functions and duties are borne by the Plan. These expenses are discussed annually with and approved by the PFC and include investment management fees for external managers, in-house administrative expenses (including staff costs, related travel and training, and certain information technology and communications charges) as well as contractual services provided by third parties (such as actuarial, custody, and risk management services). Overview of the Plan 16 17

13 SECTION II Financial Health of the Plan The financial health of a defined-benefit pension plan such as the SRP can be assessed using funded ratios that measure the adequacy of the current value of a plan s assets in relation to that of a plan s liabilities. 12 A funded ratio in excess of 1.00 indicates that plan assets are in excess of plan liabilities, and a funded ratio of less than 1.00 indicates that plan assets are less than plan liabilities. Pension plan liabilities can be defined 12 As described more fully in appendix II, there are two components involved in determining the value of a pension plan s liabilities: (1) the expected future stream of benefit payments underlying the liability calculation resulting in different liability measures and (2) the discount rate used to determine the present value (PV) of the chosen benefit cash flow stream in other words, the value today of the future stream of benefit payments. A higher discount rate will result in a lower PV of future benefit payments and vice versa. The Plan liabilities are long term in nature and, thus, the present value of the liabilities is sensitive to changes in real interest rates. Annualized Nominal and Real Net Investment Returns as of December 31, 2013 and measured in a number of different ways, as outlined in appendix II. For the SRP, the liabilities are long term in nature and, thus, sensitive to changes in real interest rates. The most widely used and publicly disclosed measure of pension plan liabilities for an open plan is the projected benefit obligation (PBO) measure. This measure is required by the International Financial Reporting Standards (IFRS) and the Generally Accepted Accounting Principles in the United States (U.S. GAAP) for plan sponsors, and is the most commonly used and reported measure within the pension industry. It reflects the present value of all retirement benefits earned Cumulative Flows since 1990 Funded ratio Figure 2.1: Plan Assets, Liabilities and Funded Ratios ,000 18,000 15,000 12,000 9,000 6,000 3,000 Funded ratio (left scale) Plan assets (right scale) PBO liabilities (right scale) by participants (adjusted for assumed inflation) as of a given date, including projected salary increases to retirement. Therefore, the funded ratio based on the PBO measure 13 is the single most appropriate metric for assessing the financial position (i.e. the ability to cover earned benefits) of the Plan as of a certain date. 13 Other liability measures, like the Closed, Open, and Modified Open Group, that anticipate and account for expected future service accruals (for current or even future population) and that use a constant 3.5 percent real discount rate every year create stable contribution patterns and are more suitable for funding purposes. The discount rate used to convert the PBO obligations into today s dollars is derived from high-grade corporate bond yields as required by the globally recognized IFRS and U.S. GAAP for plan sponsors. The present value of the PBO measure based on prevailing high-quality (AA-rated) corporate bond yields discounted using the entire yield curve from Citigroup 14 and based on the inflation expectations published by 14 The Citigroup curve is widely used for PBO determination, as it is objective, transparent, and readily available. It is disseminated by the Society of Actuaries at resources/pen-resources-pension.aspx. 0 US$ million Financial Health of the Plan 10-year 20-year Since 1990 Nominal 7.1% 7.3% 8.0% Real 4.6% 4.8% 5.2% $3.2 billion $17.1 billion Benefit payments Investment exceeding contributions income 7.0 Figure 2.2: Real AA Discount Rates (single equivalent) 6.0 PBO Funded Ratio at December 31, 2013 Impact on Funded Ratio of One Percent Increase in Interest Rate Percent (%) % Weighted average real AA discount rate Average discount rate 18 19

14 600 Figure 2.3: Annual Contributions, Net Investment Income and Benefit Payments ( ) 2, Figure 2.4: Dollar Impact on Plan Assets from Investment Returns and Net Contributions US$ million , ,800-2,700-3,600 US$ million US$ billion Last 5 Years Last 10 Years Last 20 Years Net investment income Contribution of net benefit payments Net change in plan assets Staff contributions (left scale) Bank contributions (left scale) Benefit payments (left scale) the Cleveland Federal Reserve 15 was $17.3 billion 16 as of December 31, The effective real discount rate underlying this figure was approximately 2.7 percent. The fair value of the Plan s net assets were $17.3 billion, resulting in a PBO-based funded ratio of (figure 2.1) as of December 31, By way of reference, the average PBO-funded ratio for the 100 largest U.S.-based pension plans, according to Milliman 18, stood at 0.95 at that date. The investment performance in 2013 coupled with the increase in real AA discount rate contributed to the increase of the funded ratio for the Plan, from 0.88 to Implied real AA interest rates, which are used to discount the benefit cash flows, rose in 2013 by more than 65 basis points (figure 2.2). 15 The Cleveland Federal Reserve publishes inflation forecasts that are consistent with market yields, available at data/inflation_expectations/index.cfm. 16 Approximately 15 percent of these obligations are currently estimated to be denominated in currencies other than the U.S. dollar, reflecting the aggregate impact of the currency choices made thus far by individual eligible retirees. 17 A PBO-based funded ratio of 1.00 indicates that all accrued rights to date are exactly covered by the assets; future contributions will cover future rights only. 18 Milliman, a pension consulting and advisory firm, conducts annual pension funding studies of the 100 largest U.S. public corporations that sponsor defined-benefit pension plans. The study is based on pension plan accounting information disclosed in the footnotes to the companies annual reports. Net investment income (right scale) In order to assess the risk and return trade-offs underlying the management of the Plan, two additional approaches are used to calculate the present value of the PBO measure. The first approach is based on the Long-Term Real Return Objective (LTRRO) of 3.5 percent used in the funding methodology. On this basis, the resulting funded ratio was 1.10 at year end This indicates that, using the real return assumption in the funding methodology, the assets are more than keeping pace with the liabilities over time. The second approach is based on risk-free real interest rates real interest rates derived from U.S. Government TIPS with maturities corresponding to the time profile of the benefit cash flows. As of December 31, 2013, this approach produced a funded ratio of 0.83, an increase of 18 basis points, aided by strong investment returns and a rise in real interest rate of more than 140 basis points. This approach illustrates the extent to which the current assets, if invested to eliminate inflation and investment risk, would meet benefits payments accrued prior to December 31, It is important to note that this funded ratio is not widely used, represents a much more conservative measure than just described, and is not comparable to the funded ratios often quoted in the press for other plans. The differences between the funded ratios are discussed in detail in appendix II. A combination of staff and Bank contributions and investment returns (figure 2.3) augment the Plan assets and together fund the benefits paid to the retirees. The amount that the Plan pays each year in pension benefits is now greater than the amount it collects in contributions. In 2013, Bank and staff contributions were $302 million and $118 million, respectively. Net investment earnings, after all fees and administrative expenses, amounted to $1,511 million; and pension benefit payments totaled $679 million. Figure 2.4 shows the dollar impact of investment returns and net contributions (i.e., contributions less benefit payments) on the growth of the assets of the Plan over various time periods. Over the past 10-year and 20-year periods, the Plan s assets have increased by $7.0 billion and $11.7 billion, respectively, with investment performance not only driving the growth in assets, but also contributing to the regular pension benefit payments. Financial Health of the Plan 20 21

15 SECTION III Financial Management of the Plan Actuarial Value of Assets Assets PV of Staff Contributions PV of Required Bank Contributions = PV of Benefits for Current and Former Staff Liabilities PV of Benefits for Future Staff Current Plan Assets + Investment Returns Contributions + = Benefit Liabilities The SRP benefit payments are funded by plan assets, staff and Bank contributions, and investment returns. Staff contributions are fixed as a percentage of salaries, while the Bank s contributions and the Plan s investment returns vary. The key policies underpinning the determination of sponsor contributions and guiding the investment of Plan assets are the funding and investment policies. The objective of these policies is to ensure that the Plan has sufficient assets to meet benefit payments over the long term. The funding policy, approved by the PFC, establishes the actuarial principles and assumptions used to determine the Bank s annual contributions to the Plan. The funding policy effectively assumes a real return on plan investments (3.5 percent since 1999) and this rate constitutes the long-term objective or hurdle rate for Plan assets (referred to as the LTRRO). This is the real rate of return that the plan assets are expected to earn on average over the long term. Consequently, the PFC believes that the LTRRO is the most appropriate metric for assessing whether investment returns are meeting funding policy assumptions. The investment of Plan assets is directed by the Plan s investment policy. A major component of the investment policy is the strategic asset allocation (SAA) which represents the asset mix that the PFC believes is best able to meet the LTRRO over a given investment horizon and within acceptable risk parameters. At any point in time, the return assumptions underlying a given SAA are dependent on the particular market environment. These return assumptions, which have varied and will vary - over time, guide the PFC in determining the appropriate level of risk taking on plan assets in order to meet or exceed the LTRRO. The SAA is periodically reviewed and approved by the PFC as appropriate. FUNDING POLICY The funding policy for a pension plan such as the SRP seeks to determine how much a plan sponsor must contribute annually to sustain and ensure the accumulation of sufficient plan assets over time to meet the expected benefit payments. A funding policy often has to balance competing objectives avoiding excessive volatility in sponsor contributions and maintaining the participants security by funding plan benefit payments without accumulating excess surpluses or deficits. The SRP s funding policy is approved by the PFC. The policy determines the Bank s annual contributions to the Plan and incorporates the actuarial principles and assumptions used to calculate the Plan assets and liabilities. The following steps determine the Bank s annual contributions: 1. Estimating the value of Plan assets and liabilities and the PV of projected future staff contributions, all in accordance with actuarial principles as of the end of the previous calendar year (CY): The liabilities and the PV of projected staff contributions are calculated using the relevant population of staff and new entrants assumed in the funding methodology (refer to appendix II for more details). 2. Computing the difference between the actuarial value of Plan liabilities and the actuarial value of Plan assets, after accounting for the PV of projected staff contributions: The difference, if any, is the PV of contributions needed from the Bank. Box 3.1: A Snapshot of Plan Governance and Funding Pension Finance Committee Responsibility The PFC oversees the Plan s financial management. The PFC is responsible for the following: Arranging regular actuarial valuations of assets and liabilities Reviewing and adopting assumptions underlying such valuations after obtaining recommendations from the Plan s actuaries Determining the Bank s contributions on the basis of those actuarial valuations after consulting with the Bank. Bank Responsibility The Bank s obligations are based on the Plan Document approved by the Board. The Plan Document provides that the Bank shall contribute to the Plan the amount determined by the PFC on the basis of actuarial valuations after consulting with the Bank. Plan Document and Principles of Staff Employment The Plan may not be amended to reduce benefits to which Plan participants have already become entitled. The Principles of Staff Employment, approved by the Board, prohibit the retroactive reduction of compensation for services already rendered. Financial Management of the Plan 22 23

16 3. The difference, if any, is spread over the expected future service years as a level percentage of staff and new entrants net salaries. This percentage is referred to as the Bank s contribution rate. The funding policy has typically been reviewed and adjusted as needed. The current funding policy, which became effective for Plan valuations as of January 1, 2010, and for contribution calculations as of July 1, 2010 sets out the following key parameters for the annual actuarial valuation of the Plan s assets and liabilities and the eventual determination of the Plan s surplus or deficit: Basing the Plan s actuarial liabilities on a hybrid of the open and closed group valuation methods (referred to as the modified open group measure of liabilities) by including the next 10 years of projected new entrants in the Plan as well as the current active participants Basing the Plan s actuarial asset value on a smoothing process where investment returns above or below the rate used in the actuarial valuation, 3.5 percent, are spread over a 5-year period. It should be noted that a funding policy affects only the timing of the Bank s contributions and not the long-run level of contributions, which is determined by the Plan s benefit design. The ex-post cost to the Bank of providing benefits will depend on the investment returns realized by the Plan. Over time, the estimation of SRP liabilities is affected by changes in demographic and economic assumptions used in the actuarial valuations. The Plan s actuarial consultants review and update these assumptions periodically, including the rates of mortality, resignation, retirement, and real salary increase. The PFC reviewed and approved updated actuarial assumptions in March 2014, based on the most recent Experience Study. The updates are reflected in the actuarial valuations as of December 31, In FY14, the Bank s contribution rate to the SRP was percent of net salaries, covering the period from July 2013 through June For FY15, the contribution rate is percent of net salaries, inclusive of the impact of the previously mentioned benefit design changes and the updated actuarial assumptions resulting from the latest Experience Study. The net impact from the benefit design changes (negative 0.58 percent) and the updated actuarial assumptions (positive 1.35 percent) is an increase in the contribution Box 3.2: Relationship between Investment Performance, Funded Ratio and Contributions The market value of assets is directly affected by the investment return over a year. Other things being equal, asset returns flow directly through to the funded ratios used to measure the funding position of the Plan at any point in time. Hence, strong investment returns in excess of net liability growth result in improvements immediately in the funding position. The transmission of investment returns through to Bank contribution rates is slower due to the smoothing aspects of the funding methodology, as discussed in this section. Here, asset returns are spread over a 5-year period so that the effect on Bank contributions of any one year is muted. In addition, any implied Plan shortfall or surplus is effectively spread over the service lives of Plan participants and 10 years of new entrants. Generally, higher than assumed investment returns will result in lower contribution rates in future years and vice versa, although the effect will flow through gradually and will depend on the levels of prior years returns as well. Percent (%) Figure 3.1: Bank SRP Contribution Rates since Fiscal Year 1994* Fiscal year (FY) ending June 30 Note: Bank contributions were suspended from FY98 to FY Actual Projected FY15 *In addition to the SRP contribution rates shown here, the Bank makes contributions to the Supplemental Staff Retirement Plan (SSRP) and the Tax Supplement Account (TSA). The SSRP and the TSA are accounts under the Post-Employment Benefits Plan (PEBP) that fund certain benefit payments that cannot be paid from the SRP given IRS rules governing tax-qualified plans and the structure of the Net Plan. The SSRP funds payments in excess of specified limits under the Internal Revenue Code and the TSA funds tax supplements paid to Net Plan retirees and beneficiaries whose benefits are subject to income tax. rate of positive 0.77 percent. Overall the FY15 contribution rate is lower than in FY14 primarily due to the strong investment returns. Figure 3.1 shows the Bank s contribution rates over the past two decades, including the contribution holiday during the time period. Since the implementation of the revised funding policy in 2010, sponsor contributions have been less volatile primarily due to the inclusion of the 10 years of new entrants into the valuations and 5-year asset smoothing process. ASSET LIABILITY MANAGEMENT AND RISK TOLERANCE Through the funding policy, the PFC sets the LTRRO for Plan assets that is used to determine the long-term expected Plan sponsor contribution rate. Effective January 1, 2000, the LTRRO has been 3.5 percent. It represents the hurdle rate for Plan investments, assuming that all other actuarial projections are met. Although the PFC aspires to have an asset portfolio that achieves a real return in excess of this hurdle rate without taking undue risks, the 3.5 percent real return is a key factor in deciding on the Plan s appetite for taking on investment risk (risk tolerance) at any time. In this context, it is important to recognize that the level of investment risk required to achieve the LTRRO varies over time, primarily due to exogenous factors such as the following: The level of risk-free interest rates (nominal and real) The expected risk premia in the markets The expected level of economic growth. The level of interest rates in developed countries continues to be very low by historical standards. The extraordinary amount of liquidity injected into financial markets by central banks has fueled, among other factors, strong equity market returns over several years. The extremely low level of rates in developed markets pushed the expected risk premia of many assets lower going forward, with economic growth rates in the developed world still below potential and their long term trend. Against this background, the market environment is expected to be challenging over the medium term, and higher levels of investment risk than in the past may be required in order to achieve the LTRRO of the Plans. Financial Management of the Plan 24 25

17 Another important determinant of the investment philosophy and the approach taken by the PFC to allocate investment risk is the asset liability management (ALM) framework used to value assets and liabilities and to manage their relationship over time. Since 2007, the PFC has followed an ALM framework in which the market value of PBO liabilities, determined based on the prevailing term structure of real interest rates in the U.S. market, was used to define risk tolerance and to evaluate the return-risk trade-offs associated with alternative asset allocation choices. Given that the primary objective for investments is to achieve the LTRRO, the PFC decided last year to revise the ALM framework and further enhance the focus on achieving the LTRRO through the investment strategy. As such, going forward, the primary metric used for defining risk tolerance is the volatility of asset returns. Notwithstanding this change, liability considerations will continue to play a central role in the process and inform decisions on the appropriate investment horizon, risk tolerance, liquidity needs, funded position and the return-risk trade-offs of various asset allocation choices. to accommodate transitory spikes in volatility estimates as well as the impact of active risk under most circumstances. In the latest review of the SAA in December 2013, the PFC decided it is reasonable to use a range for volatility of asset returns, between 10 percent and 13 percent, based on long-term estimates. This measure is consistent with the risk tolerance expressed previously by the PFC through the surplus volatility range. From a downside risk perspective the risk profile of the Plan does not change materially (e.g., the maximum expected loss under a severe market downturn should not exceed the drawdown experienced by the Plan in 2008). INVESTMENT MANAGEMENT The overarching document guiding the investment management of the Plan is the Investment Policy. This is approved by the PFC at the time of the investment strategy review and establishes the rationale for investing the Plan s assets based on long-term objectives, the framework used in deriving the investment strategy, and the trade-offs inherent in seeking higher returns versus limiting risks. Table 3.1: Asset Allocation as of December 31, 2012 Asset allocation Policy allocation Asset class benchmarks* Total investment portfolio 100% Composite based on actual weights Fixed income strategies 26% Composite based on actual weights Cash 2% BofA ML Fed Funds Effective Rate Nominal bonds 4% 50% BofA ML U.S. Treasury, 50% BofA ML G7 Government (100% hedged) U.S. TIPS 20% BofA ML 10+ Year U.S. Inflation-Linked Treasury ** Equity strategies 47% Composite based on actual weights Public equities 27% Russell 3000 (U.S. equities) / MSCI World ex U.S. (unhedged) (non-u.s. developed market equities) / MSCI Emerging Free (unhedged) (emerging market equities) Private equity 20% Cambridge Associates (broad) Real assets strategies 12% Composite based on actual weights Hedge fund strategies 10% 50% global equities + 50% nominal bonds bps Opportunistic strategies 5% 50% global equities + 50% nominal bonds bps * Industry standards against which the short-term relative actual performance of the asset classes and the Plan are measured (see glossary of terms in appendix V and list of acronyms for further details). ** Used as the reference point for the interest rate sensitivity band. Within this band, at any point in time, the benchmark will be determined as a combination of any two BofA ML U.S. TIPS Indices, based on the actual interest rate sensitivity of the TIPS portfolio. When setting the Plan s investment strategy, the PFC needs to balance all these considerations by expressing an appropriate level of tolerance to investment risk (which is defined here as the possibility that the investment outcome will diverge unfavorably from ex-ante expectations). The PFC sets the risk tolerance level through a disciplined, iterative process at the time of the investment strategy review and subsequently reviews and alters that decision as necessary over time as the market outlook over the investment horizon changes. This process is supported by inputs from external experts and by a quantitative analytical framework that illustrates the expected asset return, expected improvement in the funded position and the potential downside implications under extreme scenarios, of different levels of investment risk. These trade-offs are analyzed and assessed both in the short term (one year) and long term (over the next 10 years). For the purpose of investment management, the risk tolerance is expressed by the PFC as an indicative range of the annual volatility of the Plan assets. The size of the range is calibrated Underlying any investment policy is a set of investment beliefs or overarching guiding principles that are broadly shared within an organization and believed to add value to the investment process. The PFC is guided by the following beliefs: Plan liabilities should be explicitly considered when defining the investment policy. Investment strategies should be developed based on forward-looking insights. Diversification across less correlated risk factors improves a portfolio s risk and return characteristics. Illiquidity risk is rewarded over the long term; it creates opportunities for investors with long-term investment horizons and moderate liquidity needs to generate excess returns by accepting illiquidity. The SAA drives investment performance over the long run. A major component of the investment policy is the SAA, which represents the asset mix that the PFC believes is best able to meet the LTRRO over a given investment horizon and within acceptable risk parameters. At any point in time, the return assumptions underlying a given SAA are dependent on the particular market environment. These return assumptions, which have varied and will vary over time, guide the PFC in determining the appropriate level of risk-taking on plan assets in order to meet or exceed the LTRRO. This allocation represents the policy portfolio or neutral mix of assets around which the Plan is expected to invest. The actual portfolio composition can deviate from the policy, subject to a risk budget. The SAA is determined using a disciplined approach that also preserves a measure of flexibility with regard to actual portfolio positioning, based on evolving market conditions and changing investment views. The policy asset mix is periodically reviewed and approved by the PFC as appropriate, so as to preserve the Plan s ability to achieve the LTRRO going forward over a full market cycle. Table 3.1 summarizes the SRP policy allocation and the asset class benchmarks in effect for CY13. In light of the challenging investment environment expected in the coming years characterized by low interest rates, modest economic growth in the developed world, shorter economic cycles, and a disproportionate impact of monetary and fiscal policy decisions on investment returns the PFC recognized the need to take a more dynamic and flexible approach to the implementation of the investment strategy. To that effect, at the end of 2013, the PFC implemented several changes to the asset allocation and investment framework. The main changes are as follows: The asset allocation was further focused Financial Management of the Plan 26 27

18 around core risk factors by reducing the number of investment categories and simplifying the asset class benchmarks where appropriate. Allocation to absolute return strategies has been reduced and the role of the strategy was further refined to reflect mainly exposure to market neutral hedge fund strategies (strategies with no consistent exposure to systematic risk factors and with a strong focus on downside protection and capital preservation). The asset class benchmark was adjusted accordingly to reflect the expected risk and return profile of this investment strategy. Rebalancing bands around public asset class were removed to enhance transparency and performance measurement of active risk taking. The active risk budget was expanded to include investment strategies that do not fit in one particular category in the SAA but rather cut across different categories from a risk exposure perspective (e.g., high yield, emerging market debt, opportunistic strategies, hedge fund strategies with significant directionality, and so forth). As such, going forward, for example, the Opportunistic Strategies investment category will be incorporated as part of the Box 3.3: External Manager Selection Process Investments under the Plan are carried out primarily through external managers. The external manager selection process is therefore one of the cornerstones of portfolio construction, and is informed by the PFC-approved SAA and risk budgets. This selection process is performed by a diverse team of highly dedicated and experienced professionals, consisting of investment staff and staff from the legal and operations departments. One of the team s most important roles across the various asset classes is to identify excellent external managers who staff expects will deliver strong investment returns within acceptable risk parameters and who are likely to be effective partners over the long term. Through the market monitoring and portfolio construction processes, staff identifies and meets with a large number of prospective managers. The list is gradually reduced as the team selects those managers who are best suited to the specific asset class strategies and who share the team s values. An intensive due diligence process follows which includes several components, such as the following: Broad analysis of the investment philosophy, investment process, portfolio construction, risk management, and performance track record, with a focus on sustainability Review of the external manager s business and organization, including the infrastructure and the quality of staff Legal review and operational due diligence covering investment management, risk and analytics, transaction processing, accounting and control functions. Ongoing monitoring of external managers is also an integral aspect of the Plan s overall investment activities. Periodic visits, conference calls, and portfolio compliance and performance reviews are carried out to better evaluate and monitor, on a continuous basis, the robustness of external managers investments and operations. Managers performance is evaluated at regular intervals and discussed in a wider group setting to ensure that the Plan s objectives continue to be met. overall active risk budget. This enhanced approach to active risk is expected to enable increased flexibility in identifying and exploiting sources of return outside of the asset allocation and combining these return streams optimally in the portfolio construction process. Furthermore, over the course of 2013, in light of continued concerns with respect to the outlook for interest rates in the United States, the Plan sold its entire U.S. TIPS portfolio to realize significant gains, thereby reducing the interest rate sensitivity of the portfolio. The appropriateness of the investment strategy is continuously assessed and discussed with the PFC in light of changes in the macroeconomic environment. Periodically, the assumptions underlying the investment strategy are updated to incorporate changes in market levels and outlook. Also, extensive scenario analysis is performed to capture and reflect on the macroeconomic developments that could have a significant impact on the SRP portfolio over the medium term (the next three to five years). Table 3.2: Asset Allocation effective as of December 31, 2013 Asset allocation Policy allocation Asset class benchmarks* Total investment portfolio 100% Composite based on policy weights Fixed income strategies 26% Composite based on policy weights Cash 2% BofA ML Fed Funds Effective Rate Nominal bonds 24% BofA ML U.S. Treasury Equity strategies 53% Composite based on policy weights Public equities 33% The eligible universe of assets continues to be grouped primarily under the following four categories, as discussed in appendix III, based on fundamental return and risk characteristics, along with expected behavioral responses to market conditions: Fixed income strategies (including primarily nominal bonds and inflation protected securities) Equity strategies (including public and private equity) Real assets strategies (including assets such as real estate, timber, infrastructure, and other similar strategies) Absolute return strategies, consisting primarily of market neutral hedge fund strategies. Table 3.2 summarizes the SRP policy asset allocation and the asset class benchmarks as of December 31, Russell 3000 (U.S. equities) / MSCI World ex U.S. (unhedged) (non-u.s. developed market equities) / MSCI Emerging Free (unhedged) (emerging market equities) Private equity 20% Cambridge Associates (broad) Real assets strategies 13% Composite based on actual weights Absolute return strategies 8% BofA ML Fed Funds Effective Rate bps *Industry standards against which the short-term relative actual performance of the asset classes and the Plan are measured (see glossary of terms in appendix V and list of acronyms for further details). Financial Management of the Plan 28 29

19 RISK MANAGEMENT The Plan s investment activities expose it to a range of investment risks. Investment risk refers to the potential loss inherent in an investment or portfolio of investments due to the unpredictability of financial markets. It commonly includes market, credit, counterparty, and liquidity risks. Managing investment risk is an integral part of managing Plan assets and involves collaborative efforts across various departments. Asset diversification and a liability-informed investment management are central to the SRP s overall investment strategy and risk management approach. The asset volatility risk together with the downside risk measures, as discussed in the ALM and risk tolerance section, are considered the key indicators of the Plan s overall investment risk. These measures are used to define the overall level of investment risk that the PFC is willing to assume in order to pursue investment returns. The Plan s assets are diversified across a variety of asset classes. Investments within each asset class are further diversified across funds, managers, strategies, geographies, and sectors to limit the adverse impact that could result from any individual investment. The risk management for each asset class is tailored to its specific characteristics and represents an integral part of the external managers due diligence and monitoring processes. Investment risk is regularly monitored at the absolute level as well as at the relative levels with respect to the investment policy, manager benchmarks, and liabilities of the Plan. Stress tests are performed periodically using relevant market scenarios to assess the impact of extreme market events. To ensure consistent implementation of the Plan s desired risk level, the investment policy document specifies asset allocation bands around the policy allocation. A monthly rebalancing process is used to ensure that these bands are adhered to, taking into account the market conditions and constraints related to investing in private asset classes and absolute return strategies, as appropriate. In addition, monitoring of performance (at both manager and asset class levels) against benchmarks and of compliance with investment guidelines is carried out on a regular basis as part of the risk monitoring process. Credit risk is monitored on a regular basis and assessed for possible market event impacts. The Plan s liquidity position is analyzed at regular intervals and periodically tested using various stress scenarios to ensure that the Plan has sufficient liquidity to meet all cash flow requirements. In addition, the long-term cash flow needs of the Plan are considered during the investment strategy review and are one of the main drivers in determining the maximum allocation to the illiquid investment vehicles. More information on the risk management activities is provided in note K, Financial Risk Management, of the Plan s Financial Statements (appendix VIII). Financial Management of the Plan 30 31

20 SECTION IV Plan Performance US$ 9.2 billion Cumulative Net Investment Income over 10 years The Plan s performance is largely driven by the SAA which, as discussed previously, is substantially informed by the LTRRO of 3.5 percent that is used in the funding policy as the critical determinant of the level of contributions and the long-term adequacy of the assets to service pension liabilities. The LTRRO during the same time periods were 3.5 percent and 3.6 percent, respectively. In addition, as shown in table 4.1, the portfolio consistently outperformed its asset class weighted benchmark over various time periods, generating $1.3 billion in excess returns over the last 10 years and $1.8 billion since US$ 1.5 billion 2013 Net Investment Income US$ 17.1 billion Cumulative Net Investment Income since 1990 LONG-TERM PLAN PERFORMANCE Consistent with the Plan s long-term investment objective, the most relevant time frame for measuring performance is a multi-year period. Since 1990, the Plan s assets have increased nearly $13.9 billion, net of fees, expenses and benefit payments, with cumulative investment income contributing $17.1 billion, net of fees and expenses. The Plan generated annualized net real return since 1990 of 5.2 percent, exceeding the LTRRO. As shown in figure 4.1, the Plan returns consistently met or exceeded the LTRRO over longer time periods, with annualized net real investment returns of 4.6 percent and 4.8 percent over 10-year and 20-year periods, respectively. US$ Gross nominal return Net nominal return Cumulative Dollar Value Growth ( ) CY13 MARKET ENVIRONMENT The recovery trend in the world economy continued in CY13 led by developed countries. Over the course of the year there was growing evidence that the U.S. economy was getting on a 12% 23% 12% Actual Asset Allocation as of December 31, % Traditional portfolio return (60/40 stocks/bonds) Long-term return objective (nominal) Equity strategies Absolute return strategies Real assets strategies Fixed income strategies % 2013 Net Investment Return above Inflation more sustainable footing with positive implications on the performance of risky assets and consumer confidence. The recovery in the housing market continued at a steady pace while unemployment dropped consistently throughout the year. At the same time economic conditions stabilized in the Eurozone and the region returned to economic growth after being mired in a recessionary environment for several years. In Japan a renewed commitment to aggressive monetary stimulation by the Bank of Japan led to a boost in economic growth and a return to inflation. In this context equity markets and risky assets in general in the developed world recorded strong returns while G7 government bond market returns were negative as long-term yields rose, particularly in the United States. In light of improved economic conditions the U.S. Federal Reserve (Fed) started 4.6% Annualized 10-year Net Investment Return above Inflation 5.2% Annualized Net Investment Return above Inflation since 1990 to modulate the degree of monetary stimulation by gradually reducing the size of its bond purchasing program late in CY13. Initial discussions of the Fed tapering bond purchases in the spring of CY13 resulted in an upsurge in volatility in global financial markets, with a disproportionate impact on emerging market assets and global government bond markets. Emerging economies, particularly those with vulnerable current account balances, saw their currencies depreciate significantly with government bonds and equity markets selling off as investors reallocated capital away from these economies and into developed markets. Table 4.2 shows the market returns of different market indices and/or passive portfolios in 2013 and over the last 5 and 10-year periods. Plan Performance 32 33

21 Statistics Table 4.1: SRP Performance as of December 31, 2013 Table 4.1 summarizes the Plan s performance over various time periods. Looking forward, consensus expectations for CY14 point towards a continued recovery of the world economy although significant challenges remain in both the developed and emerging worlds. In the United States, positive growth surprises may lead to an acceleration of inflationary pressures which may trigger the Fed to turn to a less accommodative monetary stance sooner than expected. In the Eurozone and Japan, the sustainability of the recovery is still very much in question as structural challenges remain unsolved. In emerging markets, the re-structuring of the Chinese economic growth model envisaged by the new government creates significant Annualized CY13 5-Year 10-Year 20-Year Since 1990 SRP performance (%) Gross nominal return Net nominal return Percent (%) Excess net return over asset class weighted benchmark Net real return Long-Term Real Return Objective (LTRRO) Excess net real return over LTRRO Consumer price index (%) uncertainties, with ramifications for many emerging market economies. Current consensus expectations are consistent with a gradual normalization of interest rates in the developed world, especially in the United States and the United Kingdom, while additional monetary stimulation is still expected in Japan and the Eurozone. A modest rise in interest rates would negatively impact fixed income returns while risky assets are expected to continue to benefit from the improved growth outlook. PLAN PERFORMANCE Against this backdrop, the SRP s well-diversified portfolio returned 9.7 percent net of fees (10.4 percent gross of fees) in CY13, outperforming the asset class weighted benchmark by 48 bps. Figure 4.1: SRP Annualized Returns as of December 31, 2013 (net of inflation and fees) years 5 years 10 years 15 years 20 years Since 1990 Actual return Benchmark return Long-Term Real Return Objective Box 4.1: Net Plan Options Investment performance for each of the options available to the participants of the Net Plan is included in appendix IV. More detailed information on investment options is available at: pension.worldbank.org. Many asset classes had positive returns, with developed market equity strategies producing double-digit returns. In contrast, the return on emerging market equities was negative in CY13, significantly underperforming developed market equities. The Plan s fixed income portfolio suffered as well, in light of the rise in interest rates. Despite substantially reducing the interest rate risk sensitivity of the portfolio as well as the overall allocation, the absolute return of the Plan was negatively impacted by the rising long-term yields. The Plan s assets, net of benefit payments and contributions, increased to $17.3 billion during the year, compared to $16.0 billion at the end of This increase of $1.3 billion consisted of $1.5 billion of net investment income offset by Table 4.2: Market Environment as of December 31, 2013 Performance (%) Annualized CY13 5-year 10-year BofA ML U.S. Treasury BofA ML G7 Government (hedged) BofA ML 10+ Year U.S. Inflation-Linked Treasury Barclays Global Aggregate (hedged) BofA ML Global High Yield Russell MSCI World ex U.S. (unhedged) MSCI Emerging Free (unhedged) HFRI FoF Index Dow Jones U.S. Select Real Estate Securities Total Return 60/40 stocks/bonds portfolio (without emerging market)* 60/40 stocks/bonds portfolio (with emerging market)** net outflows of $0.2 billion resulting from benefit payments exceeding contributions. ASSET CLASS PERFORMANCE The discussions in this section on asset class performance are on a net of fee basis, unless otherwise mentioned. The approved benchmarks (effective December 31, 2012) for each asset class are shown in table 3.1. Fixed Income Strategies Fixed income markets continued their 2012 upward trend in the first four months of This favorable backdrop abruptly changed in 2013, as previously noted, when the Fed announced the potential tapering of its asset purchase program * Hypothetical portfolio consisting of 60% equity and 40% fixed income: 30% MSCI World ex U.S. (unhedged), 30% Russell 3000 and 40% Barclays Global Aggregate (hedged). ** Hypothetical portfolio consisting of 60% equity and 40% fixed income: 20% MSCI World ex U.S. (unhedged), 20% Russell 3000, 20% MSCI Emerging Free (unhedged) and 40% Barclays Global Aggregate (hedged). Plan Performance 34 35

22 Figure 4.2: Fixed Income Strategies by Geography 3% 3% 7% 87% North America Europe Asia (developed) Rest of the world In contrast, the ECB and the Bank of England maintained their accommodative tones throughout the year in their communication with the financial markets while the Bank of Japan engaged in a round of aggressive monetary easing. As a result, in 2013, the Bank of America Merrill Lynch (BofA ML) U.S. Treasury Index and 10+ year U.S. Inflation-linked Treasury Index returned negative 3.3 percent and negative 16.6 percent respectively, while the BofA ML G7 government bonds index (100 percent U.S. Dollar hedged) returned negative 0.7 percent. The volatility in the U.S. Treasury market carried over in the U.S. investment grade corporate universe as already tight credit spreads and low yields could not absorb the losses of rate increases. As such, investment grade corporate bonds returned negative 1.5 percent as measured by the BofA ML U.S. Corporate Index. In the high yield market on the other hand, despite the rate increase, credit spreads tightened further amid improving economic conditions and low default rates. This helped high yield bonds generate a positive return of 7.1 percent as measured by the BofA ML U.S. High Yield Index. As noted earlier, most affected by the volatility in the U.S. Treasury markets were emerging market bonds which registered a negative performance due to rising inflation pressures, uncertainty about the Fed s program and a slowdown in the Chinese economy, as shown by the JP Morgan Emerging Market Bond Index Plus return of negative 8.3 percent. Fixed income strategies are designed to provide a counter balance to the Plan s equity risk and to Percent (%) Figure 4.3: Net Investment Performance Fixed Income Strategies year 10-year year -3.9 Actual return Benchmark return provide a source of steady income. The overall fixed income portfolio returned negative 3.4 percent in 2013, outperforming its benchmark by 50 bps (figure 4.3). The fixed income portfolio comprises primarily investments in high quality nominal and potentially inflation-linked bonds. Given the negative outlook on rates and the tamed inflation expectation, during 2013, the Plan liquidated its entire U.S. TIPS portfolio of over $3 billion to realize significant gains while reducing the interest rate sensitivity of the portfolio going forward. As of December 31, 2013, the fixed income allocation in the Plan was about 23 percent predominantly invested in sovereign bonds. Figure 4.2 shows the geographic allocation of the fixed income strategies. Fueled by monetary accommodation from the Fed and other major Central Banks after the financial crisis in 2008, yields on major government bonds reached historic lows in The fixed income strategies returned 7.0 percent and 5.3 percent over the 5-year and 10-year periods, respectively, primarily due to declines in interest rates globally, outperforming the benchmark by 42 bps over the 5-year period and but underperforming by 29 bps over the 10-year period. The outperformance over the 5-year period was primarily the result of the external managers ability to make appropriate country, sector, and security selections over the period, and the timely and diligent choice of benchmark mismatch relative to policy benchmark made in recent years. The underperformance over the 10-year period was predominantly due to poor performance from some managers during the financial crisis in Equity Strategies Equities are traditionally an important asset class with respect to return enhancement for a long-term investor. As of December 31, 2013, equity strategies accounted for 53 percent of Plan assets, diversified across U.S. equities, non-u.s. developed equities, emerging market equities, and private equity. Over the past 10 years, the Plan has gradually shifted its focus from public equities in developed markets to a mixture of developed market equities, emerging market equities, and private equity. Overall in 2013, equity strategies posted a gain of 17.7 percent, outperforming its benchmark by 80 bps. Public Equities The Plan has been investing in public equities for a long period of time, primarily through external managers. The external managers are hired after a rigorous due diligence process that considers not only their individual merits but, more important, their fit in the portfolio. The portfolio is constructed by hiring external managers that are diversified in terms of investment philosophy and process, for example between fundamental, bottom-up managers and quantitative managers. While these external managers are expected to make significant absolute and excess long-term performance relative to the benchmark, the excess return can have a degree of volatility and hence they may underperform over shorter periods. Developed market equities had another remarkable year across regions. U.S. equities experienced a stellar performance as the Russell 3000 Index returned a 33.6 percent. Global developed stock markets posted similar doubledigit returns (unhedged) as developed markets in Europe returned 26.0 percent; Japan registered a gain of 26.5 percent while the MSCI World ex-u.s. index returned 21.6 percent, the second highest performance reported since the start of the economic recovery in Strong U.S. economic data, low inflation, signs of economic growth from the Eurozone coming out of its recession, Japan s resurgence from deflation, and continued easy monetary policy in many developed countries, bolstered investor sentiments and helped the developed equity markets achieve another solid year in On the other hand, many emerging markets struggled in CY13. Domestic demand softened in emerging markets such as Brazil and India, and exports declined as rates were increased to stem inflation. The decelerating growth rate combined with fears over the impact of U.S. monetary tightening resulted in a return of negative 2.3 percent as measured by the MSCI Emerging Market Index (unhedged). The global equity portfolio, comprising the U.S. and non-u.s. developed markets, returned 29.1 percent, outperforming the policy benchmarks for U.S. and non-u.s equities by 158 bps. The U.S. equity component of the portfolio returned 37.5 percent, outperforming its benchmark by 402 bps. All managers in the portfolio outperformed their respective benchmarks. Outperformance was largely driven by strong results from several bottom-up, fundamental managers, but also by good performance of the models used by the quantitative managers in the portfolio. The non-u.s. developed equity component registered a strong return of 20.8 percent but underperformed its benchmark by 71 bps. Some of the largest managers in the portfolio struggled in 2013 due to a combination of stock selection and sector and country allocation decisions. The underperformance came after a strong 2012 amid a challenging market environment with large shifts in sector and style factor performance. In addition to stock selection, underweights in telecommunication services and consumer discretionary, the top performing sectors for the year, and overweight in consumer staples, had negatively impacted relative returns. The emerging market equity portfolio finished the year with a negative return of 2.3 percent, marginally outperforming the benchmark by 6 bps. Figure 4.4 shows the geographic allocation of the public equity portfolio. Over the 5-year and 10-year periods, the U.S. equity portfolio returned an annualized 21.4 percent and 9.3 percent, outperforming the benchmark by 276 bps and 140 bps, respectively. These excess returns were primarily the result of superior stock selection by external managers. Plan Performance 36 37

23 Figure 4.4: Public Equities Portfolio by Geography Figure 4.5: Private Equity Portfolio by Geography 36 Figure 4.6: 1-year, 5-year, 10-year Net Investment Performance Equity Strategies 1% 30 25% 10% 24% 40% North America Emerging markets Europe Asia (developed) Rest of the world 24% 23% 53% North America Europe Rest of the world Percent (%) year 5-year 10-year 1-year 5-year 10-year 1-year 5-year 10-year The non-u.s. developed markets equity portfolio generated an annualized return of 13.0 percent and 7.5 percent over the past 5-year and 10-year periods, outperforming the benchmark by 1 bps and 20 bps, respectively. The emerging market equity portfolio returned 14.0 percent and 10.2 percent over the past 5-year and 10-year periods, underperforming the benchmark by 105 bps and 127 bps, respectively. The actual allocation to emerging markets was 2.4 percent 10 years ago and 3.4 percent five years ago and the portfolio had only three managers until mid-2008, thus underperformance by one or two managers drove portfolio returns. Since then those managers were terminated and the portfolio was re-constructed as the portfolio allocation increased to nine percent as of December 31, Performance is expected to improve as the portfolio matures in the coming years. Private Equity A favorable market environment throughout much of the year bolstered private equity returns in Strong public equity markets in the United States. coupled with signs of economic revival in Europe, accommodating credit markets, and an ultralow interest rate environment, set the stage for IPO issuances, follow-on offerings, mergers and acquisitions (M&A) activity, and dividend recapitalizations as favorable exit channels. This backdrop enabled fund managers to exit prior portfolio investments and increase the pace of distributions to investors. Concurrently, these same factors caused fund managers to be more cautious in making new investments as valuations remained high and competition for deals became intense. As a result, in 2013 the Plan continued to exhibit significant net cash inflows as distributions received exceeded capital contributed from this asset class. The private equity portfolio has been in a positive net cash flow position since late 2010, with substantial increases in 2012 and particularly in 2013, when the asset class saw record-levels of net inflows. This accelerated pace of net cash inflows has increased the appetite for investors to refresh their private equity commitments and seek to increase exposure to this asset class in an effort to rebalance private equity allocations that have been affected by record distributions and strong public market valuations. Consequently, fund raising surged during the year and was at its strongest levels since the global financial crisis. By region, North America and Europe-focused funds led the fundraising activity, while funds focused on Asia and other regions had a more mixed experience. The end result was that the Plan s private equity portfolio returned 19.9 percent in 2013, outperforming the policy benchmark by 50 basis points. All sub-strategies performed well, with the venture capital and distressed debt managers leading the way. In addition, the U.S. and Europefocused funds, which account for three-fourths of the private equity portfolio (figure 4.5), posted double digit returns in The Plan has been investing in private equity for over 30 years and is well-diversified across managers and strategies. It invests globally with top-tier managers and has built stable relationships as a result of its long history in the asset class. The private equity portfolio is dominated by buyout strategies (constituting 57 percent of the portfolio) with growth, venture capital, and distressed debt strategies making up the rest. Double-digit returns from the buyout and growth strategies have been the driving force behind the overall performance of the portfolio. The asset class has made a significant contribution to the long-term performance of the Plan, with an annualized return of 15.8 percent and 14.5 percent over 5-year and 10-year period, outperforming the benchmark by 293 bps and 499 bps, respectively. Figure 4.6 shows actual performance for the asset classes within equity strategies relative to their respective benchmarks. Figure 4.7: Private Real Estate Portfolio by Geography 7% 6% 3% Global equities Emerging market equities Private equity 84% United States Asia Europe Actual return Actual return Rest of the world Real Assets Strategies The real assets strategies focus on investments in tangible assets, such as real estate, commodities, infrastructure/energy, and timber, which aim to produce returns that correlate with inflation but have a relatively low correlation to equity and bond returns. Real assets strategies are thus expected to provide good diversification benefits. Over much of its history, the Plan s allocation to real assets has been dominated by real estate. More recently, the focus has been to diversify the allocation across other types of real assets. Real assets experienced a mixed total return in 2013 overall. The NCREIF Property Index gained 11.0 percent. In contrast, the U.S. Real Percent (%) Benchmark return Figure 4.8: Net Investment Performance Real Assets Strategies Benchmark return year Actual return year 8.0 Benchmark return year Plan Performance 38 39

24 Estate Investment Trusts (REITs) had a lackluster performance due to the threat of rising interest rates, with the Dow Jones U.S. Select Real Estate Securities Total Return Index up only by 1.3 percent. Despite this lackluster performance in the U.S. REITs market, the overall real estate fundamentals in the United States remained strong for the year as vacancy rates declined and rents continued to grow modestly with employment and consumer spending picking up. The improving real estate fundamentals have been driven by the primary markets but the fundamentals are also improving across the secondary markets. Commodity markets, represented by the Dow Jones-UBS Commodity Index declined for the third year in a row to close at negative 9.5 percent in Other real assets, such as infrastructure/ energy, benefited from the ever-growing demand for infrastructure development and resources around the world, while timber returns as shown by the NCREIF Timberland Index posted a 9.7 percent return with much of the appreciation coming in the fourth quarter. Strong returns in the last quarter were mainly driven by the recovery in the housing sector backed by low inflation and improving employment and consumer confidence. The Plan s real assets portfolio comprised primarily of real estate, timber and infrastructure returned 9.8 percent in 2013 (figure 4.8), outperforming the policy benchmark by 191 basis points. Among its sub-strategies, private real estate (with 84 percent allocation in the United States as in figure 4.7) exhibited a positive return for the fourth consecutive year. Buoyed largely by an institutional appetite for high-quality, well-leased properties in core markets, private real estate generated a return of 10.8 percent, outperforming its benchmark by 133 bps. The real estate investment strategy in 2013 focused on making investments in value-add and opportunistic investments across the United States and Europe and balancing this exposure with U.S. debt that provides steady core-like returns with strong cash flows and good downside protection. REITs gained 1.1 percent for the year, marginally underperforming their benchmark by 6 bps, primarily because of the portfolio s overweight in fundamentally strong companies that were outperformed by lesser-quality companies in 2013, but are expected to outperform on a riskadjusted basis in the long term. The infrastructure/ energy portfolio returned 15.0 percent in the year, outperforming its benchmark by 941 bps, mostly benefiting from the growing demand for infrastructure development and natural resources around the world, operational improvements, and growth that led to rising valuations. Timber posted a 6.5 percent return in 2013, outperforming its benchmark by 99 bps, supported by the signs of economic recovery. The real assets portfolio returned an annualized 7.8 percent and 8.0 percent over the 5-year and 10-year periods, outperforming its benchmark by 114 bps for the 5-year period and 44 bps for the 10-year period. Absolute Return Strategies In CY13, the Plan s hedge fund investments comprised two distinct sets of strategies: market neutral and directional. The market neutral strategies have limited exposure and correlation to equity, credit, and interest rates and are expected to generate cash plus a spread of 300 bps which is expected to be sufficient to meet the required real return target of the Plan over the medium to long term without taking directional market exposure and which aims to preserve capital in down markets. At the end of 2013, these strategies represented 9.0 percent of the total SRP assets. The directional hedge fund strategies take directional market exposure and are expected to outperform a combination of public equities and fixed income. At the end of 2013, the allocation to these directional managers was about 3.0 percent of SRP assets. The market neutral portion of the portfolio returned 6.5 percent in 2013, outperforming the cash plus 300 basis points expectations for this set of strategies. Among the top performers in the portfolio were equity focused and fixed income relative value funds. Equity focused funds benefited from the increased dispersion in global equities while fixed income arbitrage 30% 11% Figure 4.9: Hedge Funds Portfolio by Geography 8% 17% 34% North America Europe Asia (developed) Emerging markets Global funds took advantage of the increased volatility in rate markets after the surprise announcement of the Fed on its tapering of asset purchases. Multi-strategy managers also recorded strong performance benefiting from a strong overall relative value environment. The directional hedge fund strategies in the portfolio benefited from strong returns of risk assets in developed markets, returning 18.7 percent for the year, outperforming its 50/50 stocks/bonds benchmark by more than 620 bps. In CY13, the hedge fund portfolio allocation was tilted towards the market neutral strategies. Thus, while the respective strategies market neutral and directional each achieved returns that exceeded expectations, the combined allocation underperformed the Plan s policy benchmark by 284 bps. The inherent differences between market neutral and directional hedge fund strategies were a fundamental driver of the decision by the PFC in December 2013 to separate these activities. As a result, the policy portfolio now includes an allocation to absolute return strategies that is intended to be comprised of market neutral hedge funds. The proper evaluation of the performance of this portfolio is cash plus a spread (300 basis points in this case) and the portfolio is expected to exhibit low or very little correlation with other major risk factors in the overall portfolio. It also was determined by the PFC that directional hedge fund strategies could be employed but that these Percent (%) Figure 4.10: Net Investment Performance Hedge Funds Portfolio year 12.5 Actual return year year Benchmark return would be treated as out-of-policy investments that are most properly benchmarked and assessed against a combination of stocks and bonds. Figure 4.9 shows the geographic allocation of the hedge fund portfolio and figure 4.10 shows the actual performance relative to the benchmark of the asset class. Over the past 10 years, the hedge fund industry has seen significant changes. While funds that employed macro strategies to generate returns dominated the landscape in the early 2000s, today managers employ a broad range of strategies (equity long/short, event, fixed income arbitrage, credit long/short, distressed, and so forth) and geographic focus (dominated by the Americas). For the SRP, the portfolio generated an annualized return of 6.9 percent and 4.7 percent over a 5-year and 10-year period, outperforming its benchmark by 132 bps and 330 bps, respectively. Plan Performance 40 41

25 APPENDIX I Committee Membership APPENDIX II A Primer on Valuing Pension Plan Liabilities Pension Finance Committee Members Bertrand Badré (from March 2013) Managing Director and WBG Chief Financial Officer Chair Charles A. McDonough (until February 2013) Acting WBG Chief Financial Officer Chair Executive Directors Piero Cipollone (until November 2013) Roberto Tan Frank Heemskerk (from November 2013) Staff Association Nominees David Wilton Manager, IFC Giuliano Caloia Chief Credit Officer, IFC 1818 Society Nominees Jeffrey Katz Retiree Javed Hamid (from November 2013) Retiree - Alternate Members at Large Lakshmi Shyam-Sunder (from July 2013) Vice President and WBG Chief Risk Officer Jingdong Hua Vice President, Treasury & Syndications, IFC Madelyn Antoncic Vice President and Treasurer, IBRD Sudhir Krishnamurthi Retiree Pension Finance Administrator John F. Gandolfo Director and Chief Investment Officer, Pension and Endowments, IBRD 42 Pension Benefits Administration Committee Members Sean Thomas McGrath Vice President, Human Resources, IBRD Chair James T. Clagett Program Manager, IBRD Deputy Chair Executive Directors Marie-Lucie Morin (from February until December 2013) Mansur Muhtar (from February 2013) Michael Thomas Willcock (from February 2014) Staff Association Nominees Ardhanari Ramaswamy Manager, IFC Lana Bader Senior Financial Officer, IBRD 1818 Society Nominees Khalid Siraj (from July 2013 until March 2014) Retiree Nadereh Chamlou (from October 2013) Retiree Members at Large Yvonne Tsikata (until September 2013) Sector Director, IBRD Hua Wan (from February 2014) Senior Portfolio Manager, IBRD Angela C. Bishop Senior Financial Assistant, IBRD Pension Benefits Administrator Sharada Sundar Manager, Pension Administration, IBRD There are two components involved in determining the value of a pension plan s liabilities: (1) the expected future stream of benefit payments underlying the liability calculation and (2) the discount rate used to determine the present value of the chosen benefit cash flow stream that is, the value today of the future stream of benefit payments. BENEFIT CASH FLOW STREAM The benefit cash flow stream represents the expected benefit payments to be made in each future year after the valuation date. These are calculated by projecting the participant and retiree groups at the valuation date forward in time and allowing for the probability of the various benefit contingencies that can occur. For example, each year a certain proportion of retirees will pass away and a certain proportion of those will have spouses who will commence receiving a pension. Similarly, participants have various probabilities that they will leave the Bank in each future year with benefit payments defined in accordance with the benefit rules, and these are projected forward as well. These calculations are performed for each individual and aggregated to produce the benefit cash flows for the Plan as a whole and for various subgroups, such as retirees, Gross Plan members, Net Plan members, and so forth. It is important to note that the projections at the individual level are done on an expected basis, so that each participant/retiree has expected cash flows in each future year that will be reasonable in aggregate, even though in reality each individual s specific circumstances may vary from the aggregate assumptions. 43 The probabilities of the various benefit contingencies are derived from a set of assumptions called the actuarial basis. Examples of the assumptions are as follows: The probability that a Net Plan male participant will leave the Bank at age 52 with more than three years of service (three percent) The rates of salary growth for staff aged 40 (3.5 percent real, including promotional growth) The proportion of Net Plan retirees aged 54 who will choose lump sum payments at exit (15 percent) The probability that a female retiree aged 80 will survive for one year (97.5 percent), adjusted for longevity improvement. These assumptions are derived from experience studies, most recently reviewed by the PFC in March 2014 covering the period , and the benefit design, also recently revised and briefly alluded to in the Plan overview section of this report. Through the experience studies, the Plan s actual experience during the covered period is compared to the various prevailing assumptions and any variations are observed. The assumptions are then adjusted where appropriate to reflect the latest experience, recognizing the accumulated history built into the existing basis. While the actuarial basis needs to be reasonably accurate, variations in individual assumptions will often offset each Appendix I & II

26 other, so it is important to consider the basis as a whole. In addition, through the process of continual monitoring and adjustment, the funding of the Plan can be adjusted over time to reflect the realities of the realized experience. The resulting benefit cash flow stream can be based solely on accrued benefits, as of a given valuation date without any consideration of the impact of future benefit developments such as expected salary growth or future service accrual or can take into account some or all of these factors. One way to measure liabilities is to base them solely on the plan obligation actually accrued or accumulated as of a given valuation date, namely, the benefit payments that are to be made to existing participants (including retirees) based on accrued service and salary as of that date. This assumes no further accumulation of benefits beyond the valuation date. In accounting parlance, such a measure is referred to as the accumulated benefit obligation (ABO), as reported in the Plan sponsor s (World Bank s) financial statements, or the actuarial present value of accumulated plan benefits (PVAB) as reported in the Plan s own financial statements. Another way to measure liabilities is to account for the anticipated increase in benefits stemming from the expected salary growth rate, but still base it on benefit payments to be made to existing participants and not counting accruals for future service. This measure is referred to in accounting parlance as the projected benefit obligation (PBO) and is reported in the Bank s financial statements as well. A third liability measure is the closed group measure, which represents the benefits cash flow stream owed to existing participants, accounting for both expected salary growth and future service accrual. Box A2.1: Discussion on Longevity Assumptions Longevity has been improving for many years now as a result of several factors, including improvements in medical technology, nutrition and public health programs. Longevity assumptions are used by the Plan actuaries to project future benefit payments so that the PFC can determine the level of contributions necessary to fund these benefits over time. They are projections of participant mortality and behavior for more than 50 years into the future and subject to great uncertainty. It is neither possible nor reasonable to expect all these projections to be correct over such long periods, so actuaries use an approach called the control cycle. The experience of the Plan is monitored over time and the accuracy of the assumptions made is continually tested and adjusted where necessary. In this way, the effect of variations in participant and financial experience can be handled gradually over time by adjusting contributions to ensure that the assets are sufficient to meet the eventual benefit payments. The SRP actuaries use two important techniques to get the best model of longevity and consequently the best estimates of benefit payments and required contributions: 1. They make the best possible estimates of the current levels of mortality affecting pensioners (base mortality rates). 2. They estimate the way in which those mortality rates will change in the future (longevity improvement). Box A2.2: The Features of Different Liability Measures Liability measure Accrued service Salary increases Future service New entrants ABO PBO Closed group Open group Note: Based strictly on accounting literature, PBO represents the PV of liabilities (which takes into account accrued services and expected salary increases) after discounting at high-grade corporate debt interest rates. In this report, the term PBO-based liabilities represent the same stream of liabilities before discounting. A fourth liability measure is the open group measure, which represents the benefits cash flow stream owed to both existing participants and expected new entrants, while also accounting for expected salary growth and future service accrual. Closed Group and Open Group measures are typically used for funding purposes and are based on actuarially determined discount rates. A modified open group liability measure that includes the next 10 years of new participants is used to determine the Bank s contribution rates under the revised funding policy approved by the PFC in December Previous to this, the closed group liability measure was used. Currently, the closed group and the open group measures of liability are not considered for the purpose of contribution determination. Box A2.3: Usage of Discount Rates Purpose Sponsor financial statements DISCOUNT RATE The discount rate used to determine the PV of a given future stream of benefit payments can be determined in a number of different ways. Given the fairly long duration of pension liabilities, even small differences in discount rate assumptions can lead to significant differences in liability values. Essentially, the discount rate can be based on interest rates prevailing in the market that vary from time to time, on expected long-run or equilibrium interest rate levels, or on actuarial assumptions that are more stable. A PV based on prevailing interest rates gives a measure of the current economic value of liabilities, but this can vary over time, even in the absence of any fundamental change in the intrinsic future benefit payment streams. A PV based on long run assumptions eliminates the extreme sensitivity to market movements, but can deviate from the Discount rate used Real rate derived from high-quality corporate bonds The mortality assumptions for the Plan are based on the most relevant reference data available, the United Nations pension scheme, which has about 60,000 pensioners compared to the roughly 8,000 in the SRP. The Plan has been including allowance for mortality improvement in the liability estimates for more than 20 years. Plan financial statements SAA and risk monitoring Fixed 3.5 percent real rate used in funding methodology Real interest rates derived from U.S. Government Treasury Inflation Protected Securities Appendix II

27 Box A2.4: Assessing the Financial Position versus Funding a Plan Both the ABO and the PBO account for accrued services only at the date of valuation. They are therefore indicated to assess the financial position a comparison of the accumulated assets with the accumulated liabilities of a pension plan at a given date. APPENDIX III Characteristics of Different Asset Classes Moreover, the PBO takes account of the expected salary growth rate, giving the best liability measure on an ongoing basis, whereas the ABO, by ignoring expected future salary growth, provides a liability measure that reflects termination circumstances (termination of the sponsor entity). The PBO is by construction more conservative (larger) and therefore preferred to the ABO when assessing the financial position of an open plan. It is for instance the measure retained by the major accounting standards (U.S. GAAP, IFRS) to disclose a plan financial position in the sponsor s financial statements, and the measure retained by the Bank to calculate its funded ratio. The closed, open, and modified open group liability measures, that anticipate and account for expected future service accruals (for current or even future population) and that are based on a constant discount rate, are more appropriate for funding purposes. current economic value if the assumed long-term interest rates differ materially from the current prevailing rates. In addition, the chosen discount rate can be based on relatively risk-free government securities, high-quality (but riskier) corporate bonds, or the expected return assumptions underlying the plan s asset allocation. Because the SRP benefits are indexed to inflation, discounting of future benefit payments is done properly using real (that is, inflation-adjusted) rather than nominal interest rates. International Financial Reporting Standards and the Generally Accepted Accounting Principles in the United States specify discount rates that are to be used for calculating pension plan liabilities for different reporting purposes. At present, the SRP financial statements report the PVAB measure of liabilities calculated using the 3.5 percent real long-term expected return on plan assets. On the other hand, fiscal year-end financial statements of the Bank report the PBO liability using a discount rate based on prevailing high-quality (that is, AA-rated) corporate bond yields, which is the measure commonly used within the pension industry. Another liability measure that provides useful information is based on risk-free real discount rates (that is, TIPS-based). This liability measure is more conservative than those described above and illustrates the level of risk premia that is incorporated in the other liability measures. It is important to note that the discount rates underlying the risk-free and AA-based liabilities are market-based and consequently can vary substantially over time. FIXED INCOME STRATEGIES These are investments in bonds (corporate or government), securitized instruments, TIPS, and other income-producing debt securities. Lower grade fixed income securities such as corporate bonds have a higher expected return in the long run than government bonds because of possible credit downgrades and default. The expected returns and risks on fixed income securities are typically low to moderate. In the SRP SAA, the allocation is primarily composed of high grade government bonds. EQUITY STRATEGIES Equities or stocks signify an ownership position (equity) in a corporation and represent a claim on a proportional share of the corporation s assets and profits. Equity holders are residual claimants and their claims thus carry higher risks, which are reflected in the higher volatility of equity returns. The higher risk causes equity investors to demand a return premium over less risky bonds the so-called equity risk premium. For long-term investors, stocks are traditionally an important asset class with respect to return enhancement. The Plan distinguishes between two main broad categories within the equity strategies bucket: Public equities include (1) global equities - equities of companies in developed economies that are publicly traded on a stock exchange and (2) emerging market equities - equities of companies in emerging market economies that are publicly traded on a stock exchange. These investments are riskier than developed public market equities, owing to their smaller size and the novelty of some national markets. This translates into lower liquidity and less price efficiency. Emerging markets may also be more exposed to political risks. For all of these reasons, investors usually require a higher risk premium than in developed equity markets. Private equity includes equity investments in a company whose stocks are usually not publicly traded on an exchange. Investments are typically done through limited partnerships. These investments are illiquid and are expected to earn a premium over traditional securities such as publicly traded stocks and bonds. Once invested, it is difficult to access the money, which is locked up in long-term investments that can last for 10 years or more. Cash is received as investments are sold. Limited partners typically have no right to demand that sales be made. Private equity investments include financing private companies (venture and growth capital, leveraged buyouts of private or public companies, and distressed debt investing). Investing in this asset class requires considerable due diligence and monitoring. ABSOLUTE RETURN STRATEGIES These instruments comprise many market strategies, including macro, fixed income arbitrage, and equity fundamental and equity quantitative strategies. These strategies aim to have limited exposure and correlation with traditional market performance indicators such as equity, credit, and interest rates. Depending on the strategy, the diversification benefits and risk-return efficiency can vary. These strategies are most commonly utilized by hedge funds that are typically open to only a limited range of qualified investors. Most hedge funds invest in relatively liquid assets and permit investors to enter or leave the fund, usually requiring several months notice. As in the case of private equity, substantial due diligence is required, as the investment results are highly dependent on manager skill. Appendix III

28 APPENDIX IV Historical Performance of Cash Balance and Voluntary Savings Component Investment Options as of December 31, 2013 * 3 Month EURIBOR Index BC U.S. TIPS years years 5 years year 1 year BofA ML USD LIBOR REAL ASSETS STRATEGIES Real assets strategies aim for returns that are strongly correlated with inflation. The Plan invests primarily in the following: Real Estate The physical real estate market is characterized by a relative lack of liquidity, large purchase size, high transaction costs, and heterogeneity. Real estate returns tend to be lower than equity returns but higher than fixed income returns in the long term. Real estate investments are typically split between commercial or private real estate investments in commingled funds that directly acquire and manage actual property, such as apartments and office, industrial and retail space, and public real estate investment trusts that invest in the shares (equity) of real estate investment companies. The returns on REITs are strongly correlated, at least over shorter periods, with equity returns, and thus are significantly affected by volatility in the equity markets. Timber These investments take the form of owning and harvesting trees and selling lumber. Timber prices are correlated with economic growth and have historically exceeded inflation over the past 100 years. Historical returns on timber have had low-to-medium correlations with equity and bond returns. Infrastructure These are investments in businesses that own or operate the physical structures and networks used to provide essential services to society including roads, bridges, airports, electrical grids, utilities, water, and sewage. Unlisted infrastructure projects are often weakly correlated with most other assets, owing to stable (regulated) income flows. Listed infrastructure, however, shows some correlation with corporate bonds, equities, and real estate. Percent (%) JPM EMBI MSCI Emerging Free Russell 2000 Real 3% BC Government / Credit MSCI EAFE S&P * Historical performance does not indicate future investment performance. Earnings in the Cash Balance and Voluntary Savings are based on the returns of the investment options selected by the participant. All investment options are available for both the Cash Balance and the Voluntary Savings component of the Net Plan except the Real 3%, which is available only for the Cash Balance component, and the U.S. TIPS, which is available only for the Voluntary Savings component Appendix IV

29 active management A money-management approach based on informed, independent investment judgment, as opposed to passive management (indexing) which seeks to match the performance of the overall market (or some part of it) by mirroring its composition or by being broadly diversified. actuarial assumptions Estimate of an uncertain variable input into a financial model, normally for the purposes of calculating premiums or benefits. For example, a common actuarial assumption relates to predicting a person s lifespan, given their age, gender, health conditions and other factors. annuity Series of payments at fixed intervals, guaranteed for a fixed number of years or the lifetime of one or more individuals. asset liability management (ALM) An asset management technique that explicitly incorporates liabilities when determining risk and return positioning. basis points (bps) A unit that is equal to 1/100th of one percent. benchmark In finance, it represents a standard against which the performance of a security, index or investor can be measured. In the case of the Plan, the short-term actual performance of each asset class is measured against the respective asset class benchmark and aggregated at the Plan level. composite A grouping of equities, indexes or other factors combined in a standardized way, providing a useful statistical measure of overall market or sector performance over time. APPENDIX V Glossary of Terms correlation A statistical measure of how much the movement of two securities or asset classes are related. The range of possible correlations is between -1 and +1. A result of -1 means a perfect negative correlation, +1 means a perfect positive correlation and 0 means no correlation at all. A positive correlation between two securities means that they tend to move up and down together. counterparty risk The risk to each party of a contract that the counterparty will not live up to its contractual obligations. credit risk The risk that an issuer or other counterparty to an investment or transaction will not fulfill its contractual obligations. custodian A financial institution that holds customers securities for safekeeping so as to minimize the risk of their theft or loss. deleveraging A process undertaken by a company in an attempt to reduce its financial leverage. discount rate The rate used to discount future cash flows to present value. diversification In finance, spreading investments among many different types of assets less than perfectly correlated in order to reduce the overall volatility of the portfolio. downside risk An estimation of an investment s potential to suffer a decline in value if the market conditions change. Downside risk explains a worst case scenario for an investment. duration (abbreviated from modified duration) The change in the value of a fixed income security or liability that will result from a 1 percent change in the relevant interest rate. For example a 5-year duration means that value of the fixed income security will decrease by 5 percent if interest rates rise by 1 percent and increase in value by 5 percent if interest rates fall by 1 percent. Duration is stated in years because it is similar to the weighted average time of the cash flows underlying the security or liability. dynamic approach A portfolio management strategy that involves rebalancing a portfolio so as to bring the asset mix back to its long-term policy. Such rebalancing would generally involve reducing positions in the best-performing asset class, while adding to positions in underperforming assets. The general premise of dynamic asset allocation is to reduce the fluctuation risks and achieve returns that exceed the policy benchmark. ex-ante Refers to anticipated future events, such as future returns or prospects of a company. exogenous factors Factors outside the control of the organization. funded ratio Measures the ratio of the current market value of assets against a measure of liabilities and is one indicator of the financial strength of a pension fund s ability to meet obligations to its members. gross return The total rate of return on an investment before the deduction of any fees or expenses. hedge Making an investment to reduce the risk of adverse price movements in an asset. Normally, a hedge consists of taking an offsetting position in a related security, such as a futures contract. hurdle rate The minimum rate of return on an investment required by a manager or investor. investment horizon The length of time a sum of money is expected to be invested. The length of the investment horizon depends on when and how much money will be needed and the horizon influences the optimal asset allocation. investment policy A document drafted between a portfolio manager and a client that outlines general rules for the manager. This statement provides the general investment goals and objectives of a client and describes the strategies that the manager should employ to meet these objectives. Specific information on matters such as asset allocation, risk tolerance, and liquidity requirements would also be included in an Investment Policy. liability-informed investment In a liabilityinformed investment framework there is a closer link between the investment of the assets and the liabilities. More specifically, the liabilities are taken into account when designing the investment strategy as the underlying characteristics of the liabilities and their expected behavior over time are used as the basis for allocating investment risk and for assessing the risk/return trade-offs of various investment alternatives. liquidity risk The risk stemming from the lack of marketability of an investment that cannot be bought or sold quickly enough to prevent or minimize a loss. Long-Term Real Return Objective Benefits are funded by assets, contributions, and investment returns. The linkage between funding and investment policies is the 3.5 percent real discount rate that is used to assess whether investment returns are meeting funding policy assumptions. In turn, this rate constitutes the long-term objective or hurdle rate for Plan assets and is referred to as the Plan s Long-Term Real Return Objective. net return The investment returns after deducting investment management fees from the gross return Appendix V

30 nominal return The investment s rate of return adjusted for inflation. Plan document The governing document of the Staff Retirement Plan and Trust of the International Bank for Reconstruction and Development as adopted by the Executive Directors of IBRD, and as from time to time amended and restated. plan sponsor The organization that sets up a retirement plan for the benefit of the organization s employees. The responsibilities of the plan sponsor include determining membership parameters, investment choices and providing contribution payments. portfolio rebalancing A process of realigning the weightings of portfolio s assets. It involves periodically buying or selling assets in the portfolio to maintain the original desired level of asset allocation. present value The current value of one or more future cash payments, discounted at some appropriate interest rate. real return The investment s rate of return minus the inflationary factor. real yields An interest rate that has been adjusted to remove the effects of inflation to reflect the real yield. risk budgeting A framework that helps maximize the expected return for a given level of overall portfolio risk by budgeting proportions of the total portfolio risk to its various components. risk premium The reward for holding a risky investment rather than a risk-free one. standard deviation A measure of the dispersion of the actual values of a variable around the expected values. It is defined as the square root of the variance. In finance, the standard deviation is a representation of the risk associated with a given security, or the risk of a portfolio of securities. strategic asset allocation The process of dividing the investments among different kinds of assets in order to optimize the risk/reward trade-off based on an institution s specific situation and goals in order to maintain a long-term goal for asset allocation. surplus volatility It is a measure of the volatility in the funded ratio calculated as the square root of the variance of the plan surplus (the difference between the assets and the liabilities of the plan). trustee A company, individual or institution that holds or administers assets for the benefit of a third party. It is trusted to make decisions in the beneficiary s best interests. July 3, 2014 Mr. Charles Harrison The World Bank Group 1225 Connecticut Avenue NW MSN C5-502 Washington, DC Re: APPENDIX VI Actuarial Valuation Results Letter Final Results of the Actuarial Valuation of the Staff Retirement Plan as of January 1, 2014 Dear Mr. Harrison: We have prepared the valuation of the Staff Retirement Plan (SRP) as of January 1, 2014, and are writing to present the results. These results are based on final asset information provided by the Bank on June 23 and June 27, and census data provided by the Bank on February 6. DATA The following table summarizes the data included in both the current and previous valuations: Data as of 1/1/2013* Data as of 1/1/2014* Percentage Increase Number of active participants 14,817 15, % Annual net remuneration $ 1,466,369,960 $ 1,554,736, % Number of participants not in contributory service % Number of retired participants, terminated participants entitled to deferred pension, and beneficiaries 8,793 9, % Annual pensions $ 583,415,807 $ 613,928, % Present assets of the Plan: At market value $15,996,696,000 $ 17,249,402, % At adjusted value $15,399,591,153 $ 16,712,310, % * Based on final values risk tolerance The degree of uncertainty that an investor can handle in regard to changes in the value of his or her portfolio compared to expectation. 485 Lexington Avenue New York, NY (fax) Appendix VI

31 Mr. Charles Harrison July 3, 2014 Page 2 Mr. Charles Harrison July 3, 2014 Page 3 METHODOLOGY The valuation was based on the Plan provisions in effect on January 1, The following changes were adopted by the Bank in December 2013 and are reflected in this year s valuation results. Plan Provisions The following plan design changes will be implemented as follows: Effective January 1, 2015: Staff contributions for the Net Plan will be restructured from a fixed, mandatory contribution of 5 percent to include an additional voluntary contribution of up to 6 percent, for a maximum total staff contribution of 11 percent of net salaries. For valuation purposes, we have assumed that 100 percent of Net Plan participants will choose to contribute the maximum 11 percent. A survivor s benefit providing lifetime annuities for spouses or domestic partners of active Net Plan participants (in lieu of a lump sum death benefit) along with a child survivor benefit will be introduced for Net Plan participants. For service rendered after the change date only, the SRP s grossing-up formula for the Gross Plan will be revised to reflect current tax rates. Effective December 31, 2015: The Mandatory Retirement Age (MRA) for all current and future staff will increase to age 67 and the Normal Retirement Age (NRA) for future staff will increase to age 65. The NRA for current staff will remain at age 62. Gross Plan accruals will cease at age 62 and will increase by CPI until retirement. Demographic Assumptions In March 2014, the Pension Finance Committee approved several changes to the actuarial assumptions for the valuation as of January 1, 2014, reflecting Plan experience observed from The following key changes were made: Reduction in the salary scale at most ages Revision of withdrawal rates for the Gross and Net Plans, as appropriate Reductions in Net Plan early retirement rates Adjustment of the fixed retirement age from 62 to 65 for the Net Plan Changes in the assumed form of payment (annuity vs. lump sum cashout or commutation) for Gross and Net Plan benefits (retirement and termination) Reductions in the rates of death in active service Updates to the salary, age, and sex distributions for future new entrants Economic Assumptions In March 2014, the Pension Finance Committee approved changes to the economic assumptions for the valuation as of January 1, The assumption changes are: A reduction of the long-term inflation assumption from 4.00% to 2.50% A change from using expected inflation to actual inflation to compute the expected asset return for the actuarial value of assets, for years after January 1, The revised summary of actuarial assumptions is shown in Appendix A of this letter. All other actuarial methods and assumptions remained the same as those used in the prior valuation as of January 1, 2013, including the 3.50% real rate of return assumption. Thus, the resulting nominal asset return was reduced from 7.50% to 6.00%. The funding method, referred to as the 10-Year hybrid aggregate funding method, was first effective with the valuation as of January 1, Under this method, it is intended that contributions on account of current participants and those hired in the next 10 years will be made as a level percentage of payroll. RESULTS The results in the form of a valuation balance sheet are presented in the attached Table I. The principal results of this valuation, together with the results produced last year, are shown below. The closed-group funding results are shown only for comparison purposes. Date of Valuation BANK CONTRIBUTION RATES* Closed-Group Funding Method Basis Valuation Funding Method Basis** January 1, 2013 (FY 2014) 20.66% 20.73%*** January 1, 2014 (FY 2015) 17.04% 18.90%*** * Contribution rates are expressed as a percentage of net salaries. ** The Valuation basis includes future new participants entering service over the next 10 years. *** The theoretical contribution rates of 20.73% and 18.90% are based on final asset values as of January 1, 2013, and January 1, 2014, respectively. For Fiscal Year 2014, the Bank actually contributed at 20.88%, which was the rate determined based on preliminary asset values and approved by the Pension Finance Committee in its May 2013 meeting. For Fiscal Year 2015, at its May 2014 meeting, the PFC approved a contribution rate of 18.98% of net salaries, which was the rate determined based on preliminary asset values Appendix VI

32 Mr. Charles Harrison July 3, 2014 Page 4 Mr. Charles Harrison July 3, 2014 Page 5 A summary of the key items that led to the changes in contribution rates is presented below (each item s effect on the contribution rate is shown, so that items that decrease the rate are shown in parentheses). KEY ITEMS OF NET (GAIN)/LOSS (net pay basis) Current Participants Total Participants* Investment (gain)/loss (2.85%) (1.73%) sources represent all the detailed gains/losses attributable to the decremental assumptions used in the model and other miscellaneous items, and will be disclosed in full in our formal report. Details for the Supplemental Staff Retirement Plan (SSRP) are shown in the accompanying results letter for the actuarial valuation of the Post-Employment Benefits Plan. Taking all of these factors into consideration, Buck recommends a contribution of 18.98% of net salaries (approximately $295 million based on covered payroll as of January 1, 2014) for Fiscal Year If you should have any questions please do not hesitate to contact us. Sincerely, Salary increase (0.58) (0.36) New participants during the year Cost-of-living adjustments for current pensioners (1.35) (0.82) Currency exchange for current pensioners (0.01) (0.01) Bank contributions different than theoretical rate** Decremental (gain)/loss*** (0.04) (0.02) Changes in Assumptions (Experience Review) Changes in Plan Design (0.67) (0.58) Changes in Economic Assumptions (0.20) (0.07) Other sources Total (3.62) (1.83) Stuart M. Schulman, FSA, MAAA, CFA Principal, Consulting Actuary SMS:by 2014 SRP Final Results Encl. cc: Mr. John Gandolfo, World Bank Group Mr. Eric Gires, World Bank Group Mr. Robert Shotter, World Bank Group Ms. Andrea Constantinos, Buck Mr. Peter Ford, Buck Ms. Yungchai Kim, Buck Mr. John McGrath, Buck Ms. Serena Spears, Buck Mr. Christopher Teh, Buck Mr. Moshe Zucker, Buck * Including future new participants entering service over the next 10 years. ** Because the Bank contributed at a lower rate (18.91%) determined under the prior actuarial valuation for the first six months of the calendar year, this leads to a theoretical actuarial loss. *** Reflects termination, withdrawal and mortality experience deviating from expectations. Reflects changing the nominal rate and inflation rate from 7.5%/4.0% in 2013 to 6.0%/2.5% in Includes the software update, cross-effects from changes, and other sources of gain/loss. With regard to the investment gain item in the gain/loss analysis, it is important to note that this was calculated based on the adjusted asset value (a five-year moving average asset value). Because of the averaging process, portions of the 2010 through 2013 investment gains and losses have yet to emerge into that adjusted value. As of the valuation date, the adjusted asset value was approximately $537 million, or 3.1%, smaller than the market value. If all other assumptions are met, and ignoring the effect of new participants beyond ten years, the contribution rate is expected to decrease next year as the 2010 gain becomes fully reflected in the adjusted value, and other gains are further reflected. The items decremental (gain)/loss and other Appendix VI

33 APPENDIX A OUTLINE OF ACTUARIAL ASSUMPTIONS AND METHODS TABLE I THE WORLD BANK GROUP STAFF RETIREMENT PLAN VALUATION BALANCE SHEET VALUATION AS OF JANUARY 1, 2014 (all monetary amounts in thousands of US dollars) Reflects benefit limits under Internal Revenue Code Sections 415 and 401(a)(17) Total Participants Current Participants New Entrants Net DB Net CB Net DB Net CB Gross Plan Component¹ Component² Total Plan Component¹ Component² Total Plan Liabilities PV of benefits payable to or on behalf of retired and deceased participants 9,040, , ,585 9,297, ,297,458 PV of benefits expected to become payable on behalf of active and inactive participants 4,046,232 3,272,012 4,317,569 11,635,813 1,289,802 2,086,347 15,011,962 Voluntary Contributions , , ,388 Total Liabilities 13,086,961 3,427,156 4,541,542 21,055,659 1,289,802 2,086,347 24,431,808 1% of Future Net Pay 13, , , , ,161 1% of Future Net Pay (Limited) 143, ,012 Assets Adjusted value of assets 16,712, ,712,311 Contributions receivable from participants granted retroactive NRS Service Present value of prospective Staff contributions 142, ,505,372 1,647, ,134,363 2,782,028 Present value of prospective Bank contributions 2,695,392 1,289, ,984 4,937,178 Total Assets 13,086,961 3,427,156 4,541,542 21,055,659 1,289,802 2,086,347 24,431,808 Bank Contribution Rate (% of net pay) 17.04% 12.52% 9.24% 18.90% ¹ Net DB component means the defined benefit component formula, also includes termination indemnity component ² Net CB component means the cash balance component formula 2014 SRP Final Results.doc COST-OF-LIVING INCREASES: 2½% per annum, compounded annually. RATE OF INVESTMENT RETURN: Inflation at 2½% plus 3½% arithmetic real return for a total rate of 6% per annum, compounded annually. SALARY INCREASES: Representative values of the assumed nominal rates of salary increases applied to net salaries are as follows: 2014 SRP Final Results Salary Salary Age Increase Age Increase % % Bendpoints associated with the grossing up formula for the Gross Plan benefits are assumed to be adjusted at five-year intervals at the rate of inflation assumed, currently 2½%. SEPARATIONS BEFORE NORMAL RETIREMENT: Representative values of the assumed annual rates of withdrawal, retirement, and death are as follows: Annual Rates of Separation In Effect Prior to Change in Mandatory Retirement Age at December 31, 2015 Withdrawal Retirement Death Gross Plan Net Plan Gross Plan Net Plan Select* Ultimate Age Men Women Unisex Men Women Men Women Men Women Men Women % 1.00% 25.00% 16.00% 12.00% 0.05% 0.03% % 4.00% 3.00% 2.50% * Three or fewer years of service Appendix VI

34 Annual Rates of Separation - In Effect With Change in Mandatory Retirement Age at December 31, 2015 Withdrawal Retirement Death Gross Plan Net Plan Gross Plan Net Plan Select* Ultimate Age Men Women Unisex Men Women Men Women Men Women Men Women % 1.00% 25.00% 16.00% 12.00% 0.05% 0.03% % 4.00% 3.00% 2.50% Disability separation rates are assumed to be 0% at all ages. PERCENTAGE OF GROSS PLAN PARTICIPANTS RETIRING WHO ELECT TO COMMUTE BENEFITS: 10% (50% of Gross Plan participants commute 20% of their benefit) PERCENTAGE OF GROSS PLAN PARTICIPANTS WITHDRAWING AFTER 3 YEARS OF SERVICE WHO ELECT LUMP SUM BENEFITS: 0% PERCENTAGE OF NET PLAN PARTICIPANTS RETIRING WHO ELECT TO TAKE THEIR CASH BALANCE BENEFIT AS A LUMP SUM: 40% PERCENTAGE OF NET PLAN PARTICIPANTS RETIRING WHO ELECT TO TAKE THEIR DEFINED BENEFIT AS A LUMP SUM: 15% PERCENTAGE OF NET PLAN PARTICIPANTS WITHDRAWING AFTER 10 YEARS OF SERVICE WHO ELECT TO TAKE THEIR DEFINED BENEFIT AS A LUMP SUM: 40% DEATHS AFTER RETIREMENT: Annual Rates at Illustrative Ages* Age Male Female % 0.10% * These rates are the baseline rates as of January 1, The forecasting methodology assumes that future mortality improvements are a function of (a) an individual s attained age and (b) the calendar year. The mortality improvements are assumed as follows: Annual Rates of Mortality Reduction at Illustrative Ages Age Annual Reduction Male Female % 2.00% and over CHILDREN S BENEFITS (applied to only Gross Plan prior to January 1, 2015 and to both Gross and Net Plan from January 1, 2015 and on): Married participants are assumed to have two children, born at the participants age 30 and 35. Unmarried participants are assumed to have ¼ child at age 30 and ¼ child at age 35. Children are assumed to receive benefits on the following basis: Age Period Under 22 Ceasing on 22 nd birthday 22 and Over Continuing for life SRP Final Results 2 ASSET VALUATION METHOD: Five-year moving market average, with investment returns greater or less than the assumed real valuation interest rate plus actual inflation for the preceding year being recognized 20% per year for five years. Resulting value is subject to a corridor of 80% to 120% around Market Value. For years prior to 2014, investment returns greater or less than the assumed nominal valuation interest rate are recognized 20% per year for five years SRP Final Results Appendix VI

35 ACTUARIAL COST METHOD: Open-Group Aggregate Cost Method, reflecting future participants expected to enter the Plan within ten years of the valuation date. NEW ENTRANTS: Future new participants are included as replacements for terminating participants on the basis of a constant active workforce. The new entrant distribution was based on the results of a detailed study over the period of actual new entrant data. The new entrant distribution was determined based on the age and sex distributions of employees with less than one year of service. The resulting new entrant frequency distribution for males and females is as follows: Male Female Age Frequency Starting Salary* Frequency Starting Salary* % $42, % $41, , , , , , , , , , , , ,150 *Shown in 2014 Dollars. The starting salaries are brought forward each year by the emerging rate of inflation (based on CPI-U) plus 1% for assumed productivity increases. Based on the experience of the Plan, 50% of new entrants are assumed to be male. CURRENCY OPTION: For active participants in the Gross Plan, the value of the currency option is estimated by a load of 1.86% of Gross pay. OTHER: For active participants and future new entrants, husbands are assumed to be three years older than wives. 80% of Gross Plan retirees are assumed to be married. CASH BALANCE ACCOUNTS: For funding valuations, interest is assumed to be credited at a nominal rate of return of 5½%, representing a real return of 3% plus assumed inflation of 2½%. The present value of participant contributions was included on both the asset and liability portions of the balance sheet. NET PLAN EMPLOYEE CONTRIBUTIONS: Starting January 1, 2015, all Net Plan participants are assumed to contribute the optional additional 6% contribution to the cash balance component of the SRP. No Net Plan participants are assumed to make the one-time transition payment or the additional percentage of pay transition contributions. APPENDIX VII Independent Auditors Report KPMG LLP Suite K Street, NW Washington, DC Independent Auditors Report Pension Finance Committee and Participants of the Staff Retirement Plan and Trust of the International Bank for Reconstruction and Development: Report on the Financial Statements We have audited the accompanying financial statements of the Staff Retirement Plan and Trust (the Plan ) of the International Bank for Reconstruction and Development, which comprise the statements of net assets available for benefits and of accumulated plan benefits as of December 31, 2013 and 2012, and the related statements of changes in net assets available for benefits and of changes in accumulated plan benefits for the years then ended, and the related notes to the financial statements. Management's Responsibility for the Financial Statements Management is responsible for the preparation and fair presentation of these financial statements in accordance with accounting principles generally accepted in the United States of America and International Financial Reporting Standards as issued by the International Accounting Standards Board; this includes the design, implementation, and maintenance of internal control relevant to the preparation and fair presentation of financial statements that are free from material misstatement, whether due to fraud or error. Auditors Responsibility Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits in accordance with auditing standards generally accepted in the United States of America and International Standards on Auditing. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free from material misstatement. An audit involves performing procedures to obtain audit evidence about the amounts and disclosures in the financial statements. The procedures selected depend on the auditor's judgment, including the assessment of the risks of material misstatement of the financial statements, whether due to fraud or error. In making those risk assessments, the auditor considers internal control relevant to the entity's preparation and fair presentation of the financial statements in order to design audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the entity's internal control. Accordingly, we express no such opinion. An audit also includes evaluating the appropriateness of accounting policies used and the reasonableness of significant accounting estimates made by management, as well as evaluating the overall presentation of the financial statements. We believe that the audit evidence we have obtained is sufficient and appropriate to provide a basis for our audit opinion. Opinion In our opinion, the financial statements referred to above present fairly, in all material respects, the financial status of the Plan as of December 31, 2013 and 2012, and the changes in its financial status for the years then ended, in accordance with accounting principles generally accepted in the United States of America and International Financial Reporting Standards as issued by the International Accounting Standard Board. Very truly yours, 2014 SRP Final Results 4 McLean, Virginia July 21, 2014 KPMG LLP is a Delaware limited liability partnership, the U.S. member firm of KPMG International Cooperative ( KPMG International ), a Swiss entity Appendix VII

36 APPENDIX VIII Financial Statements International Bank for Reconstruction and Development Staff Retirement Plan and Trust Assets Statement of Net Assets Available for Benefits (in thousands) As of December 31, Cash $ 72,197 $ 34,931 Investments (including securities transferred under security lending Note L agreements of $94 million and $74.7 million as of December 31, 2013 and 2012) Debt Securities Note J Short-term investments 23,860 7,137 Securities purchased under resale agreements 289, ,865 Government and agency securities 3,861,229 4,303,837 Corporate and convertible bonds 155, ,239 Asset and mortgage backed securities 245, ,760 Total Debt Securities 4,574,689 4,913,838 Equities Note J Common and preferred stocks 3,194,593 2,998,523 Mutual funds and exchange traded funds 443, ,039 Real estate investment trusts 354, ,397 Total Equities 3,993,036 3,567,959 Other Fund Investments Note I & J Other commingled funds 1,651,697 1,193,473 Hedge funds 1,997,960 1,694,943 Private equity funds 3,197,471 3,129,330 Real estate funds 1,674,783 1,549,208 Total Other Fund Investments 8,521,911 7,566,954 Total Investments 17,089,636 16,048,751 Other Assets Derivative assets Note M 41,860 14,764 Fund subscriptions in advance 120,000 - Receivable from investment securities traded 17,259 24,810 Accrued interest and dividends receivable 23,835 32,969 Other receivables 30,437 34,232 Total Other Assets 233, ,775 Total Assets 17,395,224 16,190, Liabilities Payable for investment securities purchased (18,194) (90,194) Derivative liabilities Note M (4,571) (5,247) Liability to return collateral held under securities lending agreement (99,519) (78,176) Accrued interest and dividends payable (159) (160) Benefits payable (15,545) (14,322) Other payables (7,834) (5,662) Total Liabilities (145,822) (193,761) Net Assets Available for Benefits $ 17,249,402 $ 15,996,696 The accompanying notes are an integral part of these financial statements. 65 Appendix VIII

37 International Bank for Reconstruction and Development Staff Retirement Plan and Trust Statement of Changes in Net Assets Available for Benefits (in thousands) Years ended December 31, Investment Income: Net appreciation in fair value of investments Note G $ 1,446,706 $ 1,559,379 Interest and dividends 204, ,582 Less: Investment expenses (126,434) (118,690) Total Investment Income 1,524,899 1,687,271 Contributions: Contributions by participants 93,687 90,226 Contributions by participants - voluntary savings 24,880 20,575 Contributions by the Bank Note C 301, ,816 Total Contributions 420, ,617 Benefit Payments: Pensions (587,549) (553,323) Commutation payments (24,924) (37,005) Contributions, withdrawal benefits and interest paid to former participants on withdrawal (58,673) (57,947) Lump sum death benefits (5,775) (2,970) Termination grants (2,113) (1,887) Total Benefit Payments (679,034) (653,132) Administrative Expenses: Custody and consulting fees (2,477) (2,299) Other (10,750) (10,857) Total Administrative Expenses (13,227) (13,156) Net increase 1,252,706 1,391,600 Net Assets Available for Benefits: Beginning-of-year 15,996,696 14,605,096 End-of-year $ 17,249,402 $ 15,996,696 International Bank for Reconstruction and Development Staff Retirement Plan and Trust Statement of Accumulated Plan Benefits (in thousands) Actuarial present value of accumulated plan benefits Note B9 As of December 31, Vested benefits Participants currently receiving payments $ 9,122,452 $ 8,829,872 Other participants: Deferred vested 175, ,132 Active 4,315,322 3,806,507 Subtotal 4,490,327 3,965,639 Total Vested Benefits 13,612,779 12,795,511 Nonvested benefits 400, ,670 Total Actuarial Present Value of Accumulated Plan Benefits $ 14,013,140 $ 13,328,181 International Bank for Reconstruction and Development Staff Retirement Plan and Trust Statement of Changes in Accumulated Plan Benefits (in thousands) Years ended December 31, Changes in Accumulated Plan Benefits Actuarial present value of accumulated plan benefits at beginning-of-year $ 13,328,181 $ 12,518,807 Increase/(decrease) during the year attributed to: Changes in plan provisions 35,144 - Changes in actuarial assumptions 170,143 - Increase for interest 974, ,418 Changes in benefits accumulated (including accumulations due to additional accrual plus experience gains and losses) 184, ,088 Benefits paid (679,034) (653,132) Net increase 684, ,374 Actuarial present value of accumulated plan benefits at end-of-year $ 14,013,140 $ 13,328,181 The accompanying notes are an integral part of these financial statements. The accompanying notes are an integral part of these financial statements Appendix VIII

38 A. DESCRIPTION OF THE PLAN International Bank for Reconstruction and Development Staff Retirement Plan and Trust Notes to Financial Statements December 31, 2013 and 2012 The following is only a brief description of the Staff Retirement Plan and Trust of the International Bank for Reconstruction and Development (the Plan ). Participants should refer to the Plan document, which provides more complete information. Pursuant to a resolution of the Executive Directors on May 5, 1948, the Plan became effective May 31, The Plan is a contributory defined benefit pension plan established by the International Bank for Reconstruction and Development (IBRD or the Bank ), and covers most employees of the Bank, the International Finance Corporation (IFC), and the Multilateral Investment Guarantee Agency (MIGA) (collectively referred to as the World Bank Group ). The Plan is an employee benefit plan of IBRD and is duly established pursuant to IBRD s Articles of Agreement as an integral part of IBRD s operations. The Plan is a Trust under international law so, consistent with IBRD, it does not have a domicile or residency in any particular country or state. The Bank is trustee of the Plan and holds the Plan s assets in Trust for the exclusive benefit of participants, retirees and beneficiaries. Other than Plan investments in fund structures, most Plan assets are managed by external asset managers and held in custody with The Bank of New York Mellon (BNY Mellon). The Pension Finance Committee (PFC) is responsible for the oversight of investment and actuarial activities of the Plan, including the Bank s contribution to the Plan. The Pension Benefits Administration Committee (PBAC) is responsible for administering the Plan s benefits (see note K for details). In general, employees who entered the Plan prior to April 15, 1998 referred to as the Gross Plan, are covered by one set of provisions governing participation, retirement and death benefits, payment of benefits, and contributions; while employees entering the Plan on or after April 15, 1998 referred to as the Net plan, are covered by a different set of provisions. See description of Plan provisions in note A1. The mandatory employee contributions are seven percent of pensionable gross salary, as defined by the Plan, for staff in the gross plan and five percent of net salary, as defined by the Plan, for staff in the Net plan. The Bank contributions 19 are determined on an annual basis and expressed as a percentage of employees net salaries, based on actuarial assumptions and a funding methodology approved by the PFC. On December 19, 2013, the Board of Executive Directors approved management s proposals to change several elements of both the Net and Gross Plans, which include an increase in the mandatory retirement age (MRA) for current staff and an increase in the normal retirement age (NRA) for future staff. The highlights of the changes are: (1) Enabling Net Plan Pension Participants to save more for retirement by allowing additional contributions. Net Plan staff contributions will be restructured from a fixed, mandatory contribution of five percent to include an additional voluntary contribution of up to six percent, for a maximum total 19 The employer contributions are made by the Bank and then reimbursed to the Bank by other World Bank Group entities for their proportionate share of the contributions made. 68 staff contribution of 11 percent of net salaries to the Cash Balance component. Furthermore, staff on the Net Plan will be able to make contributions for previous years of service. (2) Improvements to the Survivors Benefits of the Net Plan by providing lifetime annuities for spouses and domestic partners, together with a new survivors benefit for children. (3) Increasing the mandatory retirement age (the age at which the Bank Group requires separation from service) to age 67 for all staff who are employed on or after December 31, (4) Closing the voluntary savings component (VSC) for Headquarters (HQ) staff in the Net Plan, making the 401(k) the primary optional savings plan for HQ appointed staff in both the Net and Gross Plans. The existing VSC balances as of January 1, 2015 for both HQ and Country Office staff will be transferred to the Cash Balance Component. A new VSC plan will be opened for Country Office staff, as a non-qualified plan, with no special U.S. tax considerations. (5) Updating the grossing-up formula for the Gross Plan by adjusting the existing grossing-up formula to ensure that future tax computations are in line with current tax brackets. The current Plan formula was established in 1990, based on the combined tax rates of the United States, France, and Germany. Gross Plan rules require that formal reviews of the grossing-up formula be conducted every five years. The purpose of the reviews is to ensure that (i) the formula continues to produce reasonable levels of pensionable remuneration based on changes in the tax rates of the three countries, and (ii) the WBG s retirement benefits remain competitive. Provisions were made at the time the formula was established for regular reviews and for Management to recommend adjustments in pensionable gross salaries if changes in the underlying tax and exchange rates are material and likely to persist. There is no impact on accrued benefits. (6) Ceasing pension accrual for Gross Plan participants after age 62, while allowing staff in this group to continue to accumulate savings in the 401(k). (7) Increasing the normal retirement age (the age at which staff can retire without an early retirement penalty in pension benefits) to 65 for participants entering the Plan on or after December 31, 2015 while it remains at age 62 for all other staff participating in the Plan before then. These changes will be introduced in two separate phases. Changes to employee contributions, survivor benefits, the grossing-up formula, and the closure of the VSC will take effect on January 1, 2015, while increases to the NRA and MRA will follow on December 31, Benefits in effect at December 31, 2013 are described below, without considering the changes above. 1. Retirement Benefits (a) Provisions applying to the Gross Plan Employees who received a severance payment and who have three or more years of pensionable service or have reached age 55 are entitled to a pension beginning at normal retirement age 62 equal to 2.2 percent of their highest three year average pensionable gross salary (HAGS) for each year of the first 25 years of service and 1.8 percent of their HAGS for each of the next 10 years of service thereafter. The Plan permits retired employees who have reached age 55 (or at least age 50 with a minimum total age plus years of service equal to 75 years) to receive a reduced early retirement pension commencing before age Appendix VIII

39 The Plan allows retired employees to commute a portion of their accrued pension benefit into a lump sum payment. This is a one time option available at pension effective date. The commuted amount cannot exceed one-third of the total accrued benefit and is calculated based on factors specified in the Plan. The lump sum is payable as of the pension effective date and each monthly pension payment is permanently reduced. Employees who do not receive severance payments from the World Bank Group and who have waived any right that may exist thereto are entitled to receive unreduced early retirement pensions as early as age 50 if they have at least three years of pensionable service or reached age 50 at service termination. A severance payment refers to any payment that is characterized as such in Staff Rule 7.01 of the Bank. Employees who terminate before becoming entitled to a pension (that is, before age 50 and with less than three years of pensionable service) receive a lump sum distribution based on their HAGS and service. Employees, who are terminated after becoming entitled to a pension, may elect, subject to certain conditions, to receive the lump sum distribution instead of a pension. Participants in the Plan with service prior to May 1, 1990 have a benefit based ratably on their service prior to and after May 1, 1990 using the Plan provisions (e.g. accrual rate and pensionable earnings) in effect at that time. An additional modification is made if there is service before May 1, (b) Provisions applying to the Net Plan Benefits are provided from three components: Defined Benefit, Cash Balance, and voluntary savings (established May 1, 2007). Prior to April 15, 1998, there was a Termination Grant program 20 for country office staff on regular or fixed-term appointments. For employees who earned service credits under the Termination Grant program, the termination grant benefits are also included in the Plan. Under the Defined Benefit component, employees accrue benefits based on an accrued percentage of their years of service times their highest three year average net salary (HANS). Benefits from this component are payable either as a lump sum withdrawal benefit calculated as eight percent of their HANS for each year of service, or as a pension calculated as one percent of their HANS for each year of service. Participants become eligible for a pension once they have at least 10 years of service or after at least five years of service if their age plus years of service is at least 60. Those eligible to receive a pension can begin receiving payments as early as age 50, but with a reduction of three percent (five percent for terminations prior to January 1, 2009) for each year under the age of 62 the pension commences. Terminating participants who are not eligible for a pension, or who elect a withdrawal benefit in lieu of a pension, are paid the lump sum withdrawal benefit. Under the Cash Balance component, the Plan maintains notional accounts for participants, representing the lump sum payment payable to a participant on or after termination of employment with the World Bank Group. The notional accounts receive monthly credits of 10 percent of net salary from the Bank, employee contributions of five percent of net salary, and any deemed earnings/losses credited to their accounts. Those who elect to receive their Defined Benefit component as a pension can also elect to convert some or all of their Cash Balance benefit to an annuity. The voluntary savings component was established within the plan effective May 1, Only participants joining the plan on or after April 15, 1998 are provided the option to contribute to this component. Those participants who choose to enroll can elect to save one percent to 15 percent of their net salary on an after-tax basis. Upon termination, employees are entitled to receive a lump sum withdrawal of their contributions plus any deemed earnings/losses credited to the separate notional accounts established for this component. Employees terminated after June 1, 2009 who are eligible to receive a pension, have the option to leave their funds invested in voluntary savings until they begin the pension. Deemed earnings in the Cash Balance and voluntary savings are based on the returns of funds selected by the participant. The Cash Balance component offers the following nine investment options at December 31, 2013: the Real 3% option, providing a return of three percent above U.S. inflation; the U.S. Dollar money market option, providing a return on the Bank of America (BofA) Merrill Lynch (ML) USD 3-Month LIBOR index; the Euro money market option, providing a return equal to the product of the Thomson Reuters 3-Month Euribor Constant Maturity Total Return End-of-Month Index and BofA ML Spot Euro/U.S. Dollar Exchange Rate; the Government/Corporate Bond option, providing a return corresponding to that of the Barclays Capital U.S. Government/Credit index; the emerging market bond option, providing a return on the JP Morgan Emerging Market Bond Index; the Standard & Poor s (S&P 500) option, providing a return on this stock index; the Russell 2000 option, providing a return on this stock index; the Europe Asia and Far East (EAFE) option, providing a return corresponding to that of the Morgan Stanley Capital International Index (MSCI EAFE Index); and the emerging market equity option, providing a return on the Morgan Stanley Capital International Emerging Market Index. The investment options for the voluntary savings component are the same as those for the Cash Balance component except for the Real 3% option, which is not available in this component. Instead participants can select a U.S. Treasury Inflation Protected Securities (TIPS) option, which provides a return of the Barclays Capital U.S. TIPS Index. 2. Disability Benefits Employees who entered the Plan prior to April 15, 1998 and who became totally and permanently disabled prior to July 1, 1998 were retired on a disability pension normally equal to the pension they would have received based on actual service and HAGS, but with no reduction for start of payments before normal retirement age 62; provided such pension is at least equal to the lesser of 50 percent of HAGS or the normal pension that the employees would have received had they continued to be employed to normal retirement age with no change in HAGS. Claims for disability benefits arising after July 1, 1998 are, if approved, covered by the World Bank Group outside the Plan and are administered by a third party provider. 3. Death Benefits (a) Provisions applying to the Gross Plan If a married participant dies in active service before normal retirement age, the spouse normally receives a pension based on the pension the employee would have received in the event of disability retirement. If the disability pension would have been more than 60 percent of HAGS, the spouse s pension would be equal to 50 percent of that pension; if the disability pension would have been between 30 percent and 60 percent of HAGS, the spouse s pension would be equal to 30 percent of HAGS; and if the disability pension would have been less than 30 percent of HAGS, the spouse s pension would be equal to the disability pension. If death occurs after the normal retirement date or after the employee has retired and becomes entitled to receive a pension, the spouse would normally receive 50 percent of such pension. 20 Staff in the country offices with appointment types of Local-Regular or Local-Fixed Term before April 15, 1998 and who are eligible for participation in the Plan accrue 21percent of final net salary per year of termination grant service. This can be taken as lump sum, part lump sum, or annuitized using annuity conversion factors. Service credits for the program were frozen as of April 15, Appendix VIII

40 Upon the death of a single participant, active or retired, a lump sum benefit is paid to the employee s designated beneficiary. The benefit is determined as follows: Death in active service: 100 percent of the employee s annual gross salary, plus accumulated contributions; however, if service is at least two years, the benefit is the greater of 200 percent of employee s final annual gross salary or 100 percent of the employee s annual gross salary, plus accumulated contributions. 5. Cost-of-Living Increases in Pensions The Plan contains provisions for cost-of-living increases in pensions and children s benefits as of May 1 of each year. 6. Payment Options The Plan permits the election of the following payment options related to benefit payments: Death after retirement and becoming entitled to receive a pension: in general, the excess of accumulated contributions over any benefit payments, plus a percentage of the annual pension (maximum 200 percent on death at or before age 65, minimum 50 percent on death at or after age 73). Death after retirement but before becoming entitled to receive a pension: in general, a lump sum withdrawal benefit determined as of the date of death. Effective March 1, 2002, the Plan was amended to extend most of the spousal survivor benefits to eligible domestic partners of Plan participants. (b) Provisions applying to the Net Plan (a) Provisions applying to the Gross Plan: i. Converting up to one-third of the pension into a lump sum payment ii. Reducing the pension in order to provide a survivor annuity to a designated person iii. Receiving the pension in the currency of the country of principal residence instead of in U.S. dollars, or partly in the currency of the country of principal residence and the remainder in U.S. dollars iv. Reducing the pension after payments commence to provide a survivor annuity to a new spouse or a former spouse, in the case of marriage or divorce after retirement or to provide a survivor annuity to children born after retirement. If a participant dies in active service or before the pension becomes effective, a lump sum benefit is paid to the designated beneficiary in the amount of eight percent of HANS for each year of service plus the account balance in the Cash Balance and voluntary savings components, as applicable. The lump sum death benefit would also include the Termination Grant, if applicable, that would have been payable on the date of death to the participant. In general, the death benefit for a married participant receiving a pension who dies after retirement is a pension payable to the surviving spouse in an amount based on the age of the participant at retirement and the age difference between the participant and the spouse. Such a participant may, prior to retirement, elect to reduce his/her pension in order to provide a greater benefit or, with consent of the spouse, name another beneficiary or change the form of benefit to a lump sum. In general, the death benefit for a single participant who dies after retirement is a lump sum payable to the designated beneficiary in an amount ranging from 430 percent of his/her pension at the time of death for retirement at age 50 reduced by 15 percent each year to a minimum of 205 percent at age 65. Such a participant may, prior to retirement, elect to provide, in lieu of a lump sum, a survivor annuity to a designated beneficiary on the same basis as a married participant, with the amount of survivor annuity and reduction in pension, if any, based on the age of the participant at retirement and the age difference between the participant and beneficiary. 4. Children s Benefits These provisions apply only to the Gross plan. Eligible children of a deceased employee or a deceased retired employee who was receiving or entitled to receive a pension at the time of death, receive annual benefit payments. The amount of the benefit payment is adjusted annually effective May 1 of each year. Such benefit for the period May 1, 2013 through April 30, 2014 is $5,760 per child (maximum $17,280 for all eligible children); and $5, per child (maximum $17, for all eligible children) for the period May 1, 2012 through April 30, Similar benefits are payable to the eligible children of a retired employee who is receiving a disability pension. Eligible children are unmarried children under age 19 (age 22 for full-time students) or unmarried disabled children whose disability started before age (b) Provisions applying to the Net Plan: i. The Plan permits the election of alternative currencies for payments of both lump sums and pensions ii. Reducing the pension in order to provide a larger survivor annuity iii. For participants eligible to receive a pension, electing a withdrawal benefit in lieu of the pension. 7. Administrative Expenses The Plan s assets are held by the Bank, separate from the Bank s other assets, and are used solely to provide the benefits and pay the expenses of the Plan. The Plan allows payment of certain investment and actuarialrelated fees and expenses out of Plan assets. The Plan incurred administrative expenses of $13.2 million and $13.1 million during the years ended December 31, 2013 and 2012 respectively. These expenses are included under Other Administrative Expenses in the Statement of Changes in Net Assets Available for Benefits. Other Administrative Expenses include staff cost, information technology, consulting, audit and actuarial related fees. B. SUMMARY OF ACCOUNTING POLICIES The following are the significant accounting policies adopted by the Plan: 1. Basis of Accounting The accompanying financial statements have been prepared in accordance with Generally Accepted Accounting Principles in the United States (U.S. GAAP) and International Financial Reporting Standards (IFRS) as issued by the International Accounting Standards Board (IASB). Appendix VIII

41 2. Subsequent Events On July 21, 2014, the PFC approved these financial statements for issuance, which was also the date through which the Plan s management evaluated subsequent events. There were no subsequent events identified through this date. 3. Cash Cash is defined as cash on hand, cash held with external managers and cash held at brokers as collateral on futures contracts. 4. Investments Investment securities are carried and reported at fair value on the Statement of Net Assets Available for Benefits with changes in fair value recognized in Net appreciation/depreciation in fair value of investments on the Statement of Changes in Net Assets Available for Benefits. Purchases and sales of securities are recorded on a trade date basis. Gains and losses on sale of securities are based on the average cost of the respective securities. Dividends are recognized on the ex-dividend date. 5. Valuation of Financial Instruments The carrying value of financial assets and liabilities approximates fair value. The Plan has an established and documented process for determining fair values. Fair value is based on quoted market prices where available. If quoted market prices are not available, fair values are based on discounted cash flow models using market-based parameters such as yield curves, interest rates, volatilities, foreign exchange rates and credit curves. Some financial assets are valued using valuation techniques, which require significant unobservable inputs. The selection of these inputs may involve some judgment. Imprecision in estimating these factors, and changes in assumptions, can impact the Net Assets Designated for Benefits as reported in the financial statements. Plan management believes its estimates of fair value are reasonable given its processes for obtaining security prices from multiple independent third-party vendors. In addition, management performs periodic reviews of the third-party s pricing process and controls and ensures that the policies are applied consistently from period to period. Investments in equities listed on national and foreign securities exchanges are valued based on quoted closing price. Debt securities are not listed on an exchange and are valued by independent pricing vendors either using direct quoted prices in active markets or valuation techniques incorporating observable market inputs such as comparable trades, dealer quotes, interest rates, prepayment speeds, spreads and other market data. Hedge funds, commingled funds, private equity and real estate investment funds do not have a readily determinable fair market value. Fair value is recorded by the Plan mainly using the net asset value (NAV) reported by the investment manager in the latest available financial statements of the funds, which are reviewed by management. The Accounting Standards Codification (ASC) 820 permits the use of NAV as a practical expedient for fair value, with additional disclosures required, when measuring the fair value of a fund investment that meets certain specific criteria (see note I and J for more details). enters into new repriced transactions. The securities transferred to the counterparties under security lending arrangements and the securities transferred to the Plan under the resale agreements have not met the accounting criteria for treatment as a sale. Therefore, securities transferred under security lending arrangements are retained as assets on the Plan s Statement of Net Assets Available for Benefits, and securities received under resale agreements are not recorded on the Plan s Statement of Net Assets Available for Benefits (see note L for more details). 6. Accounting for Derivatives The Plan complies with the derivative accounting requirements of the Financial Accounting Standards Board (FASB) ASC 815 Derivatives and Hedging, as well as International Accounting Standard (IAS) 39, Financial Instruments: Recognition and Measurement. These standards require that derivative instruments, as defined by these standards, be recorded on the balance sheet at fair value. The Plan s derivative instruments, which include foreign currency forward contracts, futures, swaps and contracts to purchase or sell to be announced (TBA) securities, are measured at fair value with the changes in fair value recorded in the Statement of Changes in Net Assets Available for Benefits. No derivatives are designated as hedges for accounting purposes (see note M for more details). 7. Risks and Uncertainties The Plan invests in various investment securities. Investment securities in general are exposed to various risks such as interest rate, credit and overall market volatility. Due to the level of risk associated with certain investment securities, it is possible that changes in the value of investment securities will occur in the near term. The Plan invests in collective investment funds which include securities with contractual cash flows such as asset backed securities, collateralized mortgage obligations and commercial mortgage backed securities. The value, liquidity and related income of these securities are sensitive to changes in economic conditions, including real estate value, delinquencies or defaults, or both, and may be adversely affected by shifts in the market s perception of the issuers and changes in interest rates. Plan contributions are made and the actuarial present value of accumulated plan benefits are reported based on certain assumptions pertaining to interest rates, inflation rates and employee demographics, all of which are subject to change. Due to uncertainties inherent in the assumptions process and use of estimates, it is at least reasonably possible that actual results could differ from these estimates. 8. Use of Estimates The preparation of financial statements in conformity with U.S. GAAP and IFRS requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and changes therein, disclosure of contingent assets and liabilities, and the actuarial present value of accumulated plan benefits at the date of the financial statements. Such estimates include but are not limited to assumptions about plan benefit obligations and changes therein, and the fair value of investments. Actual results could differ from those estimates. Securities purchased under resale agreements and securities lent under securities lending agreements are recorded at face value, which approximates fair value. The Plan receives securities purchased under resale agreements, monitors the fair value of the securities and, if necessary, closes out transactions and Appendix VIII

42 9. Actuarial Present Value of Accumulated Plan Benefits Accumulated plan benefits represent the total actuarial present value of those estimated future benefits, including lump sum distributions that are attributable under the Plan s provisions to the service employees have rendered, as of the valuation date. Accumulated plan benefits include benefits to be paid to: (a) retired or terminated employees or their beneficiaries, (b) beneficiaries of employees who have died, and (c) present employees or their beneficiaries. Benefits payable under all circumstances - retirement, death, disability, and termination of employment - are included to the extent they are deemed attributable to employee service rendered as of the valuation date. The actuarial present value of accumulated plan benefits (which does not take into account future salary increases) is determined by the actuarial firm of Buck Consultants (the Plan s actuaries) and the amount is derived from applying actuarial assumptions to adjust the accumulated plan benefits to reflect the time value of money (through discounts for interest) and the probability of payment (by means of decrements such as for death, disability, withdrawal, or retirement) between the valuation date and the expected date of payment. In 2014, the PFC approved changes in the demographic assumptions as a result of an experience review. The review of the financial assumptions was completed, at the same time. Both the changes in demographic and financial assumptions were used for valuation of liabilities as of December 31, The significant actuarial assumptions used in the valuations as of December 31, 2013 and 2012 were: Life expectancy of participants (2007 United Nations Joint Staff Pension Fund mortality table adjusted for forecast improvements in mortality) Age and gender specific resignation and retirement rates resulting in an average retirement age of 59 as of December 31, 2013 and age 58 for males and 57 for females as of December 31, 2012 Annual rate of 2.5 percent in 2013 and four percent in 2012 for cost-of-living increases in pensions Annual investment return of six percent in 2013 and 7.5 percent in 2012 which serves as the discount rate for liabilities. The foregoing actuarial assumptions are based on the presumption that the Plan will continue. Were the Plan to be terminated, different actuarial assumptions and other factors might be applicable in determining the actuarial present value of accumulated plan benefits. 10. Recent Accounting Pronouncements In December 2011, the FASB issued ASU , Balance Sheet (ASC Topic 210): Disclosures about Offsetting Assets and Liabilities. The ASU requires entities to disclose both gross information and net information about instruments and transactions eligible for offset in the statement of financial position, and instruments and transactions subject to an agreement similar to a master netting agreement. Subsequently, in January 2013, the FASB issued ASU , Balance Sheet (ASC Topic 210): Clarifying the Scope of Disclosures about Offsetting Assets and Liabilities. The main objective of ASU is to clarify that the scope of ASU applies to derivatives, as well as repurchase agreements, reverse repurchase agreements, and securities borrowing and securities lending transactions that are either offset in accordance with U.S. GAAP or subject to an enforceable master netting arrangements or similar agreement. The Plan adopted this standard during the year ended December 31, 2013 and the adoption resulted in additional disclosure (See note K for more details). IFRS Pronouncements In November 2009, the IASB issued IFRS 9 Financial Instruments as the first step in its project to replace IAS 39 Financial Instruments: Recognition and Measurement. IFRS 9 introduces new requirements for classifying and measuring financial assets. In October 2010, the IASB issued additions to IFRS 9 in relation to financial liabilities that an entity has elected to measure at fair value. In the fourth quarter of 2013, the IASB tentatively decided to defer the mandatory effective date of IFRS 9 until the issue date of the completed version of IFRS 9 is known, The amendments also provide relief from restating comparative information and require disclosures (in IFRS 7) to enable users of financial statements to understand the effect of beginning to apply IFRS 9. The application of this standard is not expected to have a material impact on the Plan s financial statements. In May 2011, the IASB issued IFRS 13 Fair Value Measurement. This standard sets out a framework for measuring fair value in a single IFRS and requires disclosures about fair value measurements. IFRS 13 applies when other IFRS require or permit fair value measurements. It does not introduce any new requirements to measure an asset or a liability at fair value, change what is measured at fair value in IFRS or address how to present changes in fair value. IFRS 13 establishes a single source of guidance for all fair value measurements required or permitted by IFRS. The new requirements are effective for annual periods beginning on or after January 1, 2013, with earlier application permitted. The standard was adopted in 2012 and there has been no material impact of this standard on the Plan financial statements. In December 2011, the IASB published amendments to IAS 32 Financial Instruments: Presentation to clarify the application of the offsetting requirements. The amendments are effective for annual periods beginning on or after January 1, 2014, with earlier application permitted. The Plan is currently evaluating the impact of the amendment on its financial statements. U.S. GAAP Pronouncements In July 2010, the Dodd-Frank Wall Street Reform and Consumer Protection Act (the Act ) became law in the United States. The Act seeks to reform the U.S. financial regulatory system by introducing new regulators and extending regulation over new markets, entities, and activities. The implementation of the Act is dependent on the development of various rules to clarify and interpret its requirements. Pending the development of these rules, no impact on the Plan has been determined as of December 31, The Plan continues to evaluate the potential future implications of the Act. In December 2011, the IASB published new disclosures regarding the Offsetting Financial Assets and Financial Liabilities (Amendments to IFRS 7). The joint IASB and FASB disclosure requirements will enable users of the financial statements to better compare financial statements prepared in accordance with IFRS and U.S. GAAP. The new requirements are effective for annual periods beginning on or after January 1, The Plan adopted this standard during the year ended December 31, 2013, and the adoption resulted in additional disclosure (See note K for more details) Appendix VIII

43 11. Tax Status On December 2, 2011, the U.S. Internal Revenue Service (IRS) informed the Bank of its determination that the Staff Retirement Plan and trust meet the requirements of Section 401(a) of the Internal Revenue Code (the Code ) as applicable to governmental plans, other than the requirement that the Trust be created or organized in the United States. Accordingly, concessional tax treatment is available for benefits to the extent applicable. With regard to taxation of the Plan, the Trust established under the Plan to hold the Plan s assets is intended to qualify for exemption under Section 501 (a) of the Code except for the fact that it was created or organized outside the United States. Based on the favorable determination letter from the IRS, dated December 2, 2011, the Plan Sponsor believes that the Trust continues to qualify and to operate in accordance with the applicable requirements of the Code. Additionally, since the income and assets of the Trust are held by the Bank, as trustee, they are subject to the Bank s tax immunity granted under Article VII, Section 9, of the Bank s Articles of Agreement. Accordingly the Trust s investment income is exempt from income tax, and no provision for income taxes, whether current or deferred, has been included in the Plan s financial statements. 12. Reclassifications Certain reclassifications have been made to prior year amounts to conform to the current year presentation. Certain Federal Government agency bonds were reclassified from short term investments to Government and Agency securities. Interest and dividends from alternative fund investments are now classified as net appreciation and depreciation of investments. Management believes this would further improve the presentation of the Financial Statements and enhance comparison with current year s figures. C. FUNDING POLICY As a condition of participation, employees in the Gross plan are required to contribute seven percent of their pensionable gross salaries to the Plan. Employees in the net plan are required to contribute five percent of their net salaries to the Plan. Present employees accumulated contributions at December 31, 2013 and 2012 were $1,237.0 million and $1,137.7 million, respectively, including interest credited (at an interest rate computed in accordance with Section 411 of the Code). In 2014, based on recommendations from the Plan s independent actuaries, Buck Consultants, the PFC approved revised demographic and financial assumptions (see note B9) for future valuations effective as of The changes in assumptions have a significant effect on the amounts reported. The combined effect of these changes in assumptions resulted in a 1.3% increase in contribution rate for the Plan. The Bank s funding policy is to make contributions to the Plan at an annual rate, expressed as a percentage of employees net salaries. The Bank s contribution rate for its fiscal year ended June 30, 2014 was percent and percent for its fiscal year ended June 30, Bank contributions to the Plan totaled $301.5 million and $259.8 million during calendar years 2013 and 2012, respectively. When combined with employee contributions and expected investment returns, total funding is estimated to be sufficient to fully provide for all employee benefits by the time they retire. method (which uses total projected liabilities for all current participants and retirees as well as future participants expected to join the Plan in the ten years following the date of the valuation). In addition, the asset value used to determine contributions was modified so as to recognize annual deviations of actual from expected investment returns over the immediately preceding five year period. As an additional constraint, a corridor of 80 percent to 120 percent of market value of assets was established such that the resulting asset value may not deviate from the market value of assets by more than 20 percent. The previous method was based on a three year averaging of realized and unrealized capital gains and losses, but immediate recognition of interest and dividends and was not subject to a corridor constraint. Based on the recommendations of the Plan s actuaries and in accordance with the revised funding policy adopted in 2009, the PFC approved a Bank contribution rate of percent of net salaries for the period beginning July 1, 2014 through June 30, While the Bank intends to continue the Plan into the future, it has the right under the Plan to completely or partially suspend its contributions for benefits based on future service, in which event all such benefits on account of future service will be reduced to such amounts as can be actuarially provided by future contributions, if any. D. PLAN TERMINATION Although there is no intention to do so, the Plan may be completely or partially terminated by the Bank at any time. In the event the Plan is terminated, the net assets of the Plan will be used for the purpose of paying or providing for all accumulated plan benefits as of the date of Plan termination and the Bank will be liable for any additional funds that may be required for this purpose. Any Plan assets remaining after paying or providing for all such benefits will be returned to the Bank. E. RELATED-PARTY TRANSACTIONS Certain officers and employees of the Bank (who may also be participants in the Plan) perform certain administrative and legal services related to the operation, record keeping and financial reporting of the Plan. As trustee to the Plan, the Bank pays these salaries and other administrative expenses on behalf of the Plan and the Plan reimburses the Bank for such expenses according to agreed upon guidelines. The amount related to expenses incurred from July 1, 2012 to June 30, 2013 reimbursed to the Bank in 2013 was $11.3 million. The amount related to expenses incurred from July 1, 2011 to June 30, 2012 reimbursed to the Bank in 2012 was $11.3 million. At December 31, 2013 and 2012, an amount of $5.4 million and $5.3 million, respectively, payable to the Bank is included under Other payables in the Statement of Net Assets Available for Benefits. F. FOREIGN CURRENCY Transactions denominated in foreign currencies are recorded in U.S. dollars at exchange rates prevailing on the transaction date. Investments and other monetary assets and liabilities denominated in foreign currencies are translated into U.S. dollars at exchange rates prevailing on the year end date with any resulting gain or loss included in net appreciation in fair value of investments. In December 2009, the PFC approved a revised actuarial cost method for purposes of computing the Bank s contribution rate, replacing the previous closed group aggregate cost method (which uses total projected liabilities for all current participants and retirees) with a modified open group aggregate cost Appendix VIII

44 G. NET APPRECIATION IN FAIR VALUE OF INVESTMENTS During 2013 and 2012, the Plan s investments, including gains and losses on investments bought and sold during the year, appreciated in value by $1,446.7 million and $1,559.4 million, respectively. Included in this total amount are $58.0 million and $833.2 million of appreciation for 2013 and 2012, respectively, which relate to investments for which fair values have been measured by quoted prices in active markets. The net appreciation/depreciation in fair value by asset class is shown in the following table: Years ended December 31, (in thousands) Debt Securities Short-term investments $ 690 $ 3,397 Government and agency securities (258,846) 193,606 Corporate and convertible bonds (4,004) 12,027 Asset and mortgage backed securities (12,429) 8,546 H. INVESTMENT COMMITMENTS In the private equity and real estate partnership investments, funds are drawn down only under the terms and conditions of the fund agreements. The fund agreements are unique to each individual investment. However, funds are drawn down: (a) to fund investments in assets that have been purchased or are being contracted for purchase, and (b) to pay fees earned by the general partner or manager under the terms and conditions of the fund agreement. Investment commitments are drawn down and recorded by the Plan when the contractual terms of the fund agreement have been met. As of December 31, 2013 and 2012, the total investment commitments were $6,110.3 million and $5,592.6 million for private equity and $2,934.3 million and $2,487.3 million for real estate, respectively. The total undisbursed investment commitments as of December 31, 2013 and 2012 approximated $2,336 million and $1,942.1 million, respectively. I. OTHER FUND INVESTMENTS ASC 820 permits the use of NAV per share as a practical expedient for fair value, with additional disclosures required, when measuring the fair value of a fund investment that meets certain specific criteria. Net (depreciation) / appreciation on debt securities (274,589) 217,576 Equity Securities Common and preferred stocks 269, ,855 Mutual funds and exchange traded funds (5,723) 43,572 Real estate investment trusts (9,644) 37,966 Net appreciation on equity securities 253, ,393 Other Fund Investments Other commingled funds 409, ,450 Hedge funds 196, ,029 Private equity funds 611, ,806 Real estate funds 202, ,104 Net appreciation on other fund investments 1,419, ,389 Swaps, futures and TBAs Net appreciation in foreign exchange contracts due to fluctuations in exchange rates 24,868 1,921 23,400 12,100 Net Appreciation $ 1,446,706 $ 1,559,379 The Plan has $8,521.9 million and $7,567.0 million of investments (private equity, real estate, hedge funds and other commingled funds) as of December 31, 2013 and December 31, 2012, respectively, which are recorded at NAV as reported by the underlying funds consistent with the guidance provided under ASC 820. Due to the nature of the investments held by the funds, changes in market conditions and the economic environment may significantly impact the NAV of the funds and, consequently, the fair value of the Plan s interest in the funds. Other Commingled Funds: represents funds that invest principally in publicly listed equity securities. There are no funds with redemption restrictions as of December 31, 2013 and Hedge Funds: consists of investments in equity, event driven, fixed income, multi-strategy, macro and relative value strategies. Redemption restrictions are in place for investments with a fair value of $ million and $ million as of December 31, 2013 and 2012, respectively, primarily because the funds are subject to lock-up provisions, in the process of liquidation, gated, or in side pockets. The redemption restrictions are expected to remain in effect up to December In addition, investments amounting to $ million and $ million as of December 31, 2013 and 2012, respectively, are redeemable beyond a period of 90 days based on their redemption terms. As of December 31, 2013, there is no intention to sell any of the funds. Private Equity: includes investments primarily in several Buyouts and Venture Capital funds across North America, Europe and Asia in a variety of sectors. A large number of these funds are in the investment phase of their life cycle. Substantially all of these investments do not allow redemptions; instead, the redemptions in this category are in the form of distributions, which are received through the liquidation of the underlying investments of the funds. As of December 31, 2013, there is no intention to sell any of the funds. Real Estate: includes several funds which invest in core real estate as well as non-core type of real estate investments such as debt, value-add and opportunistic equity investments. It also includes investments in infrastructure and timber funds. Most funds do not allow for redemptions, instead, the redemptions in this category are in the form of distributions received through the liquidation of the underlying investments of the fund, and are expected over the next nine years. As of December 31, 2013, there was no intention to sell any of the funds Appendix VIII

45 The following tables summarize the Plan s investment in various types of funds as of December 31, 2013 and December 31, 2012, respectively. The carrying value of these investments has been measured using the NAV per share of the Plan s ownership interest in the funds or an equivalent measure. The Plan has concluded that the carrying value reported below approximates the fair value of the investments in aggregate. Fair Value As of December 31, 2013 (in thousands) Unfunded Commitments Other commingled funds $ 1,651,697 $ N/A Hedge funds 1,997,960 N/A Redemption Frequency Daily, Weekly, Monthly, Quarterly Monthly, Quarterly, Annually Redemption Notice Period 3-60 days 5-90 days Private equity funds 3,197,471 1,557,933 N/A N/A Real estate funds * 1,674, ,033 N/A N/A Total Other Fund Investments $ 8,521,911 $ 2,335,966 * Real estate fund investments with a fair value of $520 million have redeemable interest with redemption frequency and notice periods ranging from days. The remaining real estate funds do not allow for redemptions. Fair Value As of December 31, 2012 (in thousands) Unfunded Commitments Redemption Frequency Redemption Notice Period Commingled funds $ 1,193,473 $ N/A Daily, Weekly, Monthly, Quarterly 3-60 days Hedge funds 1,694,943 N/A Monthly, Quarterly, Annually 5-90 days Private equity funds 3,129,330 1,279,002 N/A N/A Real estate funds * 1,549, ,136 N/A N/A Total Other Fund Investments $ 7,566,954 $ 1,942,138 * Real estate fund investments with a fair value of $419.3 million have redeemable interests with redemption frequency and notice periods ranging from days. The remaining real estate funds do not allow for redemptions. J. FAIR VALUE MEASUREMENT U.S. GAAP and IFRS standards establish a three-level fair value hierarchy under which financial instruments are categorized based on the priority of the inputs to the valuation technique. The fair value hierarchy gives the highest priority to unadjusted quoted prices in active markets for identical assets or liabilities (Level 1), the next highest priority to observable market-based inputs or inputs that are corroborated by market data (Level 2) and the lowest priority to unobservable inputs that are not corroborated by market data (Level 3). When the inputs used to measure fair value fall within different levels of the hierarchy, the level within which the fair value measurement is categorized is based on the lowest level input that is significant to the fair value measurement of the instrument in its entirety. Additionally, the standards require that the valuation techniques used to measure fair value maximize the use of observable inputs and minimize the use of unobservable inputs. The following tables present the fair value hierarchy for those assets and liabilities measured at fair value on a recurring basis as of December 31, 2013 and As of December 31, 2013 (in thousands) Level 1 Level 2 Level 3 Total Debt Securities Short-term investments $ - $ 23,860 $ - $ 23,860 Securities purchased under resale agreements 289, ,138 Government and agency securities 2,593,090 1,268,139-3,861,229 Corporate and convertible bonds - 154, ,187 Asset and mortgage backed securities - 245, ,275 Total Debt Securities 2,882,228 1,692, ,574,689 Equity Securities Common and preferred stocks 3,194, ,194,593 Mutual funds and exchange traded funds 443, ,593 Real estate investment trusts 354, ,850 Total Equity Securities 3,993, ,993,036 Other Fund Investments Other commingled funds - 1,651,697-1,651,697 Hedge funds - 1,473, ,594 1,997,960 Private equity funds - - 3,197,471 3,197,471 Real estate funds - 520,041 1,154,742 1,674,783 Total Other Fund Investments - 3,645,104 4,876,807 8,521,911 Total Investments at fair value $ 6,875,264 $ 5,337,206 $ 4,877,166 $ 17,089,636 Other Assets and Liabilities Derivative assets 25,762 16,098-41,860 Derivative liabilities (405) (4,166) - (4,571) Total Other Assets and Liabilities at fair value $ 25,357 $ 11,932 $ - $ 37,289 The Plan s policy is to recognize transfers in and transfers out of levels as of the end of the reporting period in which they occur Appendix VIII

46 Debt Securities As of December 31, 2012 (in thousands) Level 1 Level 2 Level 3 Total Short-term investments $ - $ 7,137 $ - $ 7,137 Securities purchased under resale agreements 145, ,865 Government and agency securities 3,596, ,903-4,303,837 Corporate and convertible bonds - 152, ,239 Asset and mortgage backed securities - 298,729 5, ,760 Total Debt Securities 3,742,799 1,165,099 5,940 4,913,838 Equity Securities Common and preferred stocks 2,998, ,998,523 Mutual funds and exchange traded funds 212, ,039 Real estate investment trusts 357, ,397 Total Equity Securities 3,567, ,567,959 The reconciliations represents activities during 2013 and 2012 for investments identified as using Level 3 inputs at either the beginning or the end of the respective calendar year. Debt Securities Year Ended December 31, 2013 (in thousands) Hedge Funds Private Equity Funds Real Estate Funds Balance as of December 31, 2012 $ 5,940 $ 437,649 $ 3,129,330 $ 1,129,874 $ 4,702,793 Net (decrease) / increase in net assets available for for benefits (72) 103, , , ,060 Purchases , , , ,127 Sales (2,862) (134,385) (850,171) (360,616) (1,348,034) Transfers out (2,780) (2,780) Balance as of December 31, 2013 $ 359 $ 524,594 $ 3,197,471 $ 1,154,742 $ 4,877,166 Total unrealized gains included in income related to financial assets and liabilities still held at December 31, 2013 Total $ 4 $ 78,012 $ 239,879 $ 81,086 $ 398,981 Other Fund Investments Other commingled funds - 1,193,473-1,193,473 Hedge funds - 1,257, ,649 1,694,943 Private equity funds - - 3,129,330 3,129,330 Real estate funds - 419,334 1,129,874 1,549,208 Total Other Fund Investments - 2,870,101 4,696,853 7,566,954 Total Investments at fair value $ 7,310,758 $ 4,035,200 $ 4,702,793 $ 16,048,751 Other Assets and Liabilities Derivative assets 1,891 12,873-14,764 Derivative liabilities (244) (5,003) - (5,247) Debt Securities Year Ended December 31, 2012 (in thousands) Hedge Funds Private Equity Funds Real Estate Funds Balance as of December 31, 2011 $ 14,955 $ 304,925 $ 2,955,854 $ 1,016,957 $ 4,292,691 Net increase in net assets available for for benefits 70 32, ,735 75, ,179 Purchases 999 6, , , ,508 Sales (13,683) (27,835) (614,653) (172,951) (829,122) Transfers in 3, , ,537 Balance as of December 31, 2012 $ 5,940 $ 437,649 $ 3,129,330 $ 1,129,874 $ 4,702,793 Total Total Other Assets and Liabilities at fair value $ 1,647 $ 7,870 $ - $ 9,517 Total unrealized gains included in income related to financial assets and liabilities still held at December 31, 2012 $ 70 $ 28,157 $ 171,712 $ 30,637 $ 230,576 Level 3 investments primarily comprise of fund investments in private equity, real estate and hedge funds. These investments do not have a readily determinable fair market value and are reported at NAV provided by the fund managers, and reviewed by management, taking into consideration the latest audited financial statements of the funds. Gains and losses related to Level 3 purchases, sales and transfers for the year ended December 31, 2013 and 2012 are included in the net appreciation in fair value of investments on the Statement of Changes in Net Assets Available for Benefits Appendix VIII

47 The tables below provide the details of all gross inter level transfers for the years ended December 31, 2013 and 2012, respectively. Year ended December 31, 2013 (in thousands) Level 1 Level 2 Level 3 Total Transfers into Debt securities $ - $ 2,780 $ - $ 2,780 $ - $ 2,780 $ - $ 2,780 Transfers out of Debt securities $ - $ - $ (2,780) $ (2,780) $ - $ - $ (2,780) $ (2,780) The PFC meets on a quarterly basis and is responsible for the oversight of investment and actuarial activities of the Plan, as well as the determination of the Bank s contribution to the Plan. In this capacity, it oversees the Plan finances and reviews and approves the strategic asset allocation approximately every five years with annual updates for maximizing the expected funded ratio, subject to the risk tolerance that the PFC is willing to assume on behalf of the Plan in order to pursue the investment returns. The PFC is also responsible for arranging regular actuarial valuations of assets and liabilities, reviewing assumptions underlying such calculations, and determining contributions on the basis of actuarial valuations. The PFC sets the appropriate risk limits and controls and establishes monitoring of these limits. Additionally, the PFC approves the budget for the management of all aspects of the Plan, including pension administration, and it engages the external auditors to audit the financial statements of the Plan and approves the annual report and the financial statements. All the investment related functions are provided by the Pension and Endowments Department (PEN), the Quantitative Strategies, Risk and Analytics Department (QRA) and the Treasury Operations Department (TRO) of the Bank s Treasury. In addition, the Finance unit within the Bank s Legal Vice Presidency (LEG) provides legal support on issues related to the Plan s investments. Year ended December 31, 2012 (in thousands) Level 1 Level 2 Level 3 Total Transfers into Debt securities $ - $ - $ 3,599 $ 3,599 Hedge funds , ,938 $ - $ - $ 124,537 $ 124,537 Transfers out of Debt securities $ - $ (3,599) $ - $ (3,599) Hedge funds - (120,938) - (120,938) $ - $ (124,537) $ - $ (124,537) Transfers between Level 1 and Level 2 There were no transfers between Level 1 and Level 2 during The Pension Administration Division, under the oversight of the PBAC and with legal support provided by the Institutional Administration unit of LEG, manages the administration of Plan benefits including aiding in staff s retirement planning. Credit Risk The Plan is party to a variety of financial instruments and transactions that involve credit risk. Credit risk is the risk that an issuer or other counterparty to an investment or transaction will not fulfill its contractual obligations. The Plan is primarily exposed to credit risk in its debt securities, receivables and derivative contracts. The maximum potential exposure to credit risk, represented by debt securities, fund subscriptions in advance, accrued interest and dividends receivable, and other receivables is $4,749.0 million and $4,981.0 million as of December 31, 2013 and 2012, respectively. In addition, the credit exposures to derivative contracts (excluding futures contracts) are $16.1 million and $12.9 million as of December 31, 2013 and 2012, respectively, as detailed later in this note under Offsetting Assets and Liabilities. Transfers between Level 2 and Level 3 Transfers out of Level 3 into Level 2 for debt securities during 2013 were attributed to the decrease in volatility and continued improvement in liquidity in the markets. Transfers out of Level 2 into Level 3 for debt securities were because of the illiquid nature of these securities during Transfers out of Level 2 into Level 3 for hedge fund investment during 2012 were due to changes in redemption terms. K. FINANCIAL RISK MANAGEMENT Governance Structure The Plan is exposed to credit risk if the financial condition of counterparty deteriorates and it is unable to honor its obligations whether the counterparty is an issuer or a party to a swap or other over-the-counter derivative agreement under which it has the obligation to make payment. The Plan is also exposed to credit risk in the reverse repo transactions if the value of the securities of third parties that it holds as collateral declines. The increase in such unexpected credit losses could have an adverse effect on the Plan s ability to meet its obligations, as and when required. The Plan might require collateral in the form of cash or other approved liquid securities from individual counterparties in order to mitigate its credit exposure in connection with resale agreements. Such collateral held at December 31, 2013 and 2012 was $294.9 million and $148.7 million, respectively. Credit risk also exists where assets are custodied by a third party other than the Plan s custodian, such as Prime Brokers or Clearing Brokers. The Plan Document, as approved by the Bank s Board, led to the creation of the PFC for the overall management of funding and investment of the assets in the Plan and the PBAC for the administration of the Plan s benefits. According to the provisions of the Plan document, membership of both Committees includes Executive Directors, World Bank Group staff (including nominees of the Staff Association) and a retiree (and an alternate) nominated by the 1818 Society, the retirement association for staff of the World Bank Group Appendix VIII

48 The exposure to credit risk classified by credit ratings for 2013 and 2012 are provided in the following tables: A- to AAA BBB- to BBB+ As of December 31, 2013 (in thousands) Non- Investment Grade Non- Rated Total credit risk monitoring process that is reported to management on a regular basis. The Plan also monitors the financial condition of the brokers and believes that the likelihood of material loss is limited. The limits and conditions for commingled investments are specific to each fund in which the Plan invests and are typically controlled by the manager of the fund. The Plan did not use any credit derivatives to manage credit risk during the years ended December 31, 2013 and Short-term investments $ - $ - $ - $ 23,860 $ 23,860 Securities purchased under resale agreements 289, ,138 Government and agency securities 3,809,345 49, ,803 3,861,229 Corporate and convertible bonds 65,381 83,768 5, ,187 Asset and mortgage backed securities 243,962 1, ,275 Fund subscriptions in advance , ,000 Accrued interest and dividends receivable 23, ,835 Other receivables ,437 30,437 Swaps, forwards & TBAs 16, ,099 $ 4,446,961 $ 134,893 $ 5,729 $ 177,477 $ 4,765,060 A- to AAA As of As December of December 31, , 2012 (in thousands) (in thousands) Non- BBB- to Non- Investment BBB+ Rated Grade Total Short-term investments $ - $ - $ - $ 7,137 $ 7,137 Securities purchased under resale agreements 145, ,865 Government and agency securities 4,278,741 24, ,303,837 Corporate and convertible bonds 92,176 48,492 9,219 3, ,239 Asset and mortgage backed securities 302,661 1, ,760 Accrued interest and dividends receivable 32, ,969 Other receivables ,232 34,232 Swaps, forwards & TBAs 12, ,873 $ 4,864,664 $ 74,199 $ 9,310 $ 45,739 $ 4,993,912 Credit risk is controlled through the application of eligibility criteria and volume limits for transactions with individual counterparties. These limits and conditions are, for separately managed accounts custodied with the Plan s custodian and managed by external asset managers, specified in the Investment Objectives and Guidelines schedule of the investment management agreements signed with the external asset managers, and may include the list of eligible instruments, the credit quality standards of the instruments that need to be adhered to, the eligible counterparties and the credit quality standards that they may need to satisfy, and limits on the concentration in various areas including eligible instruments and sub-sectors. The investment manager is required to provide a report on the compliance with these guidelines and such compliance is also internally monitored. In addition, the Plan also closely monitors the market events including credit rating downgrades and defaults of counterparties and incorporates this information into its Appendix VIII

49 Offsetting Assets and Liabilities Credit risk exposure on over-the-counter derivatives is mitigated through the use of International Swap and Derivative Association (ISDA) master agreements and collateral. The Plan enters into these master netting agreements with substantially all of its forward exchange contract counterparties. These legally enforceable master netting agreements give the Plan the right to liquidate securities held as collateral and to offset receivables and payables with the same counterparty, in the event of default by the counterparty. The following tables summarize information on derivative assets and liabilities (before and after netting adjustments) that are reflected on Plan s Statement of Net Assets Available for Benefits as of December 31, 2013 and Total derivatives assets and liabilities are adjusted on an aggregate basis to take into consideration the effects of legally enforceable master netting agreements. The net derivative asset positions have been further reduced by the cash and securities collateral received, if any. Gross Amounts Recognized on the Statement of Net Assets Available for Benefits As of December 31, 2013 (in thousands) Derivative Assets Derivative Liabilities Gross Amounts Offset on the Statement of Net Assets Available for Benefits Net Amounts Presented on the Statement of Net Assets Available for Benefits Gross Amounts Recognized on the Statement of Net Assets Available for Benefits Gross Amounts Offset on the Statement of Net Assets Available for Benefits Net Amounts Presented on the Statement of Net Assets Available for Benefits Interest rate $ 579 $ - $ 579 $ 522 $ - $ 522 swaps Currency swaps 15,458-15,458 3,273-3,273 Other * 25,823-25, Total $ 41,860 $ - $ 41,860 $ 4,571 $ - $ 4,571 Amounts subject to to legally enforceable master netting agreement Net Derivative positions at counterparty level before collateral (2,050) (2,050) $ 39,810 $ 2,521 Gross Amounts Recognized on the Statement of Net Assets Available for Benefits As of December 31, 2012 (in thousands) Derivative Assets Derivative Liabilities Gross Amounts Offset on the Statement of Net Assets Available for Benefits Net Amounts Presented on the Statement of Net Assets Available for Benefits Gross Amounts Recognized on the Statement of Net Assets Available for Benefits Gross Amounts Offset on the Statement of Net Assets Available for Benefits Net Amounts Presented on the Statement of Net Assets Available for Benefits Interest rate swaps $ 242 $ - $ 242 $ 20 $ - $ 20 Currency swaps 12,351-12,351 4,938-4,938 Other* 2,171-2, Total $ 14,764 $ - $ 14,764 $ 5,247 $ - $ 5,247 (535) Amounts subject subject to to legally legally enforceable master master netting netting agreement (535) (535) Net Derivative positions at counterparty $ 14,229 $ 4,712 level before collateral Less: Less: Cash Cash collateral - received received ** Securities Securities collateral collateral - received received ** Net derivative exposure after collateral $ 14,229 * These relate to swaptions, exchange traded options, futures contracts and TBA securities. * These relate to swaptions, exchange traded options, futures contracts and TBA securities. ** Does not include excess collateral received. ** Does not include excess collateral received. - Less: Cash collateral received received ** - Securities collateral received ** Net derivative exposure after collateral $ 39,810 * These relate to swaptions, exchange traded options, futures contracts and TBA securities. * These relate to swaptions, exchange traded options, futures contracts and TBA securities. ** Does not include excess collateral received. ** Does not include excess collateral received Appendix VIII

50 The Plan participates in securities lending through the custodian, BNY Mellon against adequate collateral (see note L). These transactions have been conducted under legally enforceable master netting agreements which allow Plan to reduce its gross credit exposure related to these transactions. For presentation in the Statement of Net Assets Available for Benefits, the Plan presents its securities lending and resale agreements, on a gross basis. The following table summarizes information on assets and liabilities under securities lending program (before and after netting adjustments) that are reflected in Plan s Statement of Net Assets Available for Benefits as of December 31, 2013 and Total assets and liabilities are adjusted on an aggregate basis to take into consideration the effects of legally enforceable master netting agreements. The net assets positions have been further reduced by the cash and securities collateral received. Investment Assets Securities purchased under resale agreements Investments Liabilities Liabilities relating to securities transferred under repurchase or securities or securities lending lending agreements agreements Gross Amounts of Recognized Assets As of December 31, 2013 (in thousands) Derivative Assets Gross Amounts of Recognized Liabilities Net Amounts of Assets Presented on the Balance Sheet $ 289,138 $ - $ 289,138 - (99,519) (99,519) Net Investments $ 289,138 $ (99,519) $ 189,619 Less: Amounts subject to legally enforceable master netting agreements Cash collateral received Securities collateral received ,980-93,980 - Net amount of investments $ 289,138 $ (5,539) $ 283,599 Investment Assets Securities purchased under resale agreements Investments Liabilities Liabilities relating to securities transferred under under repurchase or or securities lending lending agreements Gross Amounts of Recognized Assets As of December 31, 2012 (in thousands) Derivative Assets Gross Amounts of Recognized Liabilities Net Amounts of Assets Presented on the Balance Sheet $ 145,865 $ - $ 145,865 - (78,176) (78,176) Net Investments $ 145,865 $ (78,176) $ 67,689 Less: Amounts subject to legally enforceable master master netting netting agreements Cash collateral received Securities collateral received ,654-74,654 - Net amount of investments $ 145,865 $ (3,522) $ 142,343 Liquidity Risk Liquidity risk for the Plan mainly arises as a result of periodic cash requirements. It includes the risk of being unable to meet the benefit payments due to beneficiaries, or being unable to liquidate positions timely and at reasonable prices to meet the benefit payment obligation. Another important aspect of liquidity risk for the Plan arises if it is unable to fund the separately managed accounts at appropriate times in line with the portfolio strategy. Liquidity risk can also present itself if the Plan has insufficient cash to fund the Plan s undisbursed investment commitments in private equity and private real estate asset classes (uncalled commitments approximated $2,336 million as of December 31, 2013) where the funds are drawn down only upon capital calls by the managers or the general partners of such funds, in accordance with the terms of the fund agreements. The Plan manages its liquidity risk primarily by investing a sizable portion of the asset base in securities that can be liquidated on short notice and at a reasonable price. The long term cash flow needs of the Plan are considered at the time when the strategic asset allocation is determined. Assets that can be liquidated at short notice, such as public equity, certain liquid hedge fund investments and real estate fund investments (redeemable within a three month period subject to restrictions that can be applied under fund documents in exceptional circumstances) and liquid debt securities, accounted for approximately 70.8 percent and 70.9 percent of net assets as of December 31, 2013 and 2012, respectively. In addition, monthly rebalancing meetings are held with internal portfolio managers to lay out cash requirements and ensure those requirements are fulfilled adequately and on a timely basis. This helps to plan for any new manager funding as well as expected benefit payments Appendix VIII

51 Market Risk Market risk is the risk that the fair value or future cash flows of an investment will fluctuate because of market movements, such as changes in interest rates, foreign exchange rates, equity prices etc. Market risk that the Plan is subject to is primarily comprised of the following: a. Interest Rate Risk: the risk that changes in interest rates will adversely affect the Plan s investments and liabilities. The Plan s investments in debt securities and interest rate derivatives, as well as the Plan s liabilities, are exposed to interest rate risk. b. Currency Risk: the risk that movements in exchange rates will adversely affect the Plan. The Plan is exposed to currency risk through its holdings of non-u.s. dollar investment and liabilities. c. Equity Risk: the risk that changes in stock prices will adversely affect the Plan. The Plan is exposed to equity risk through its investments in stocks and equity derivatives. End of Year Surplus Volatility Asset Volatility 95% Absolute VaR (% Annualized) Short-Term Estimates Long-Term Estimates Volatility measures the dispersion of the distribution. VaR measures the potential down side risk, and has two equivalent interpretations: (1) it estimates the worst loss over a one-year horizon at a 95 percent confidence level and (2) it estimates the potential loss that can be exceeded over a one-year horizon with a five percent probability. Foreign exchange contracts and futures limited to various equity indices, interest rates and foreign exchange are used to manage part of the market risk related to a variety of risk factors. Operational Risk The PFC sets the overall level of market risk that it is willing to assume in order to achieve target investment returns. The objective of market risk management is to manage and control market risk exposures within acceptable parameters, while optimizing the return. The market risk is regularly monitored at the absolute level, as well as of the relative levels with respect to policy benchmarks, manager benchmarks and the liabilities. The Plan uses a range of measures to assess the market risk of the portfolio. Under the asset-liability management framework adopted for the strategic asset allocation since 2007, the Surplus Volatility measure (the annualized standard deviation of asset values relative to that of liabilities) is considered the primary measure for assessing the Plan market risk. 21 In addition, the Plan monitors the asset absolute risk in the form of the Asset Volatility (the annualized standard deviation of asset values) and absolute value at risk (VaR) measures. VaR is a method to estimate the potential negative change in the market value of a portfolio that is not expected to be exceeded over a specified time horizon at the given confidence level. The VaR models are designed to measure market risk in a normal market environment and may underestimate the extreme losses, such as those experienced in 2008 and early To assess the impact of extreme market movements, stress tests are performed periodically using relevant market data. The Plan monitors the market risk from two perspectives: 1) a long-term perspective, to assess the risk characteristics of the portfolio over a long-term horizon, and 2) a short-term perspective, to capture the impact of the recent market environment. The long-term risk estimates are based on an asset liability simulation model on a forward-looking basis over a 10-year horizon. The model uses a vector auto regression approach and a Monte Carlo simulation framework. It relies on asset class market indices and a long history of quarterly market data (going back to 1980 s). The short-term risk estimates are computed from current portfolio positions by applying a Monte Carlo simulation approach. The Monte Carlo method is commonly used in a stochastic model to simulate the various sources of uncertainty in the risk factors. It generates 1000 scenarios based on inputs estimated from exponentially weighted weekly return time series for the past three years with no decay factor. Prior to September 2012, inputs were estimated from exponentially weighted daily return time series for the past three years (with a decay factor of 0.999). The portfolio is fully repriced for each scenario. Risk measures are then derived from the full distribution of 1000 possible outcomes. 21 Effective January 1, 2014, with the approval of the new investment framework, the primary metric used for defining risk tolerance going forward would be the asset volatility. Operational risk is the potential for loss resulting from inadequate or failed internal processes or systems, human factors, or external events, and includes business disruption and system failure, transaction processing failures and failures in execution of legal, fiduciary and agency responsibilities. The Plan, like most pension plans, is exposed to many types of operational risks. The Plan mitigates operational risk by maintaining a system of internal controls that is designed to keep that risk at appropriate levels. This, along with other checks and balances at various levels, ensures that mitigating controls exist to offset the impact of operational risks. L. SECURITIES LENDING The Plan participates in a securities lending program through the custodian, BNY Mellon. Under this program, the Plan s investment securities are loaned to investment brokers for a fee. Such securities are fully collateralized by cash or securities issued or guaranteed by the U.S. Government. As of December 31, 2013 and 2012, respectively, $94.0 million and $74.7 million of the Plan s securities were on loan under the securities lending program and were collateralized by cash and liquid securities of $99.5 million and $78.2 million at December 31, 2013 and 2012, respectively. The fair value of the cash collateral received (approximately 102 percent for domestic loans and 105 percent for international loans), is subsequently invested in a separately managed account holding money market and other liquid financial instruments, which are reported and included in the respective investment line items on the Statement of Net Assets Available for Benefits. The obligation to return this cash collateral received is also included under Liability to return collateral held under securities lending agreements. The Plan s investment balance includes $95.2 million and $72.2 million at December 31, 2013 and 2012, respectively, of securities purchased using cash collateral received under securities lending agreements. Net gain from the program was $616,316 and $403,012 for the years ended December 31, 2013 and 2012, respectively. This, along with any unrealized gains and losses on collateral investments, is included in the net appreciation in fair value of investments on the Statement of Changes in Net Assets Available for Benefits. M. DERIVATIVE FINANCIAL INSTRUMENTS As part of the Plan s risk management process, the Plan is party to a variety of derivative financial instruments: Appendix VIII

52 Forward, Futures, Swap and To Be Announced (TBA) Contracts Forward and futures contracts are commitments to either purchase or sell a financial instrument at a future date for a specified price and may be settled in cash or through delivery of the underlying financial instrument. Forward rate agreements settle in cash at a specified future date based on the differential between agreed interest rates applied to a notional amount. Most of the contracts have terms of less than one year. Futures contracts are traded on exchanges that require daily cash settlement of the net change in the value of open contracts. Forward contracts are transacted over the counter with counterparties and generally do not require daily cash settlement of the net change in value. As such, the credit risk on futures is generally lower than that on forwards. Swap contracts are agreements between two parties to exchange a sequence of cash flows in the same or different currencies. For example, interest rate swaps are agreements involving the exchange of periodic interest payments of differing character, based on an underlying notional principal amount for a specified time. Credit default swaps are agreements involving the exchange of a fee in return for a contingent payment upon a credit event occurring in a specified entity. Total return swaps are agreements in which one party makes payments based on a set rate, either fixed or variable, while the other party makes payments based on the return of an underlying asset, which includes both the income it generates and any capital gains. TBA contracts are forward contracts on mortgage backed securities. The actual mortgage backed security that will be delivered to fulfill a TBA contract is not designated at the time the trade is made. The seller agrees to deliver the mortgage backed security for an agreed upon price on an agreed upon date, but makes no guarantee as to which or how many securities are to be delivered. Trade counterparties are required to exchange pool information 48 hours prior to the established settlement date. Use of Futures Contracts Futures contracts are used for hedging and to take investment positions, and are related to various financial instruments or referenced items, such as stock indices, interest rates, and commodities. They are used primarily for purposes of transactional efficiency. Futures transactions are accounted for at fair value. The notional and fair values as of December 31, 2013 and 2012 are summarized below: Use of Forward Contracts Foreign exchange forward contracts are used to hedge the currency exposure of non-u.s. dollar assets and to take investment positions. For hedging currency exposure of non-u.s. dollar assets, the face value of open forward contracts is limited to the market value of the Plan s non-u.s. equity and non-u.s. fixed income investments. Forward contracts are accounted for at fair value. The notional and fair values as of December 31, 2013 and 2012 are summarized below: Location in Financial Statements As of December 31, (in thousands) Notional Asset at Liability at Notional Asset at Liability at Value Fair Value Fair Value Value Fair Value Fair Value Derivatives $ 1,049,798 $ 15,458 $ (3,273) $ 795,267 $ 12,351 $ (4,938) Use of Swap Contracts Swap contracts are used for hedging and to take investment positions.. The notional and fair values as of December 31, 2013 and 2012 are summarized below: As of December 31, (in thousands) Location in Location Notional Asset at Liability at Notional Asset at Liability at Financial in Financial Value Fair Value Fair Value Value Fair Value Fair Value Statements Statements Interest Rate Interest Rate Swap $ 149,225 $ 579 $ (523) $ 65,583 $ 242 $ (20) Swap Location in Financial Statements Long position Notional Value Short position As of December 31, (in thousands) Assets Liability at at Notional Value Fair Fair Value Value Long position Short position Asset at Fair Value Liability at Fair Value Derivatives $ 841,947 $ (196,769) $ 25,762 $ (405) $ 203,791 $ (193,240) $ 1,891 $ (244) Appendix VIII

53 Use of To Be Announced Contracts TBA securities are used for hedging against interest rate risk and to take investment positions. The notional and fair values as of December 2013 and 2012 are summarized below: As of December 31, (in thousands) Location in Financial Statements Notional Value Long position Liability Asset at at Notional Value Short Fair Fair Long Short position Value Value position position Asset at Fair Value Liability at Fair Value Derivatives $ 54,976 $ - $ 62 $ (371) $ 54,203 $ (4,000) $ 280 $ (45) The following table provides information on the location and amounts of gains and (losses) on the derivative instruments as of December 31, 2013 and 2012: As of December 31, (in thousands) Location in Financial Statements Swaps Net Appreciation $ 1,942 $ (10,488) Futures in Fair Value of Investments $ 23,914 $ 12,412 TBAs (Note G) $ (988) $ (3) Total $ 24,868 $ 1,921 N. INVESTMENTS EXCEEDING FIVE PERCENT OF NET ASSETS There were no investments representing five percent or more of Net Assets Available for Benefits as of December 31, 2013 and The Plan invested a total of $1,969.8 million in five U.S. Treasury Securities and $1,280.5 million in four U.S. TIPS as of December 31, 2013 and 2012 respectively, each investment representing five percent or more of debt securities. There were $232.9 million in one public equity fund representing five percent or more of Equities as of December 31, There were no investments representing five percent or more of Equities as of December 31, The Plan also invested $812.7 million and $553.6 million in commingled funds as of December 31, 2013 and 2012, respectively. These investments represent five percent or more of other fund investments. 98