Fitch Warns Public Pensions Still Vulnerable to Market Shock Despite Funding Gains 

Strong market returns in recent years have improved funding levels for U.S. state and local defined benefit pensions, but the systems remain underfunded and structurally vulnerable to market volatility, Fitch Ratings warns. A sharp downturn could quickly inflate liabilities and force governments to increase contributions, with those already carrying high pension costs or weak balance sheets at greatest risk of credit pressure. 

Following the global financial crisis, plan sponsors strengthened policies—cutting benefits for new hires, lowering discount rates, adopting more conservative assumptions, and increasing contributions—which helped stabilize funded ratios. Yet other forces now heighten downside risk. Public pensions have doubled their exposure to alternatives to 34% of assets in FY2024 from 17% in FY2008, according to the Public Plan Database. Many of these strategies—including private credit—lack a full recession track record and carry liquidity risks that could force plans to sell liquid assets at unfavorable prices to meet benefit payments or capital calls. CalPERS, for example, increased its private credit target to 8% as part of a move to 40% alternatives across the portfolio. 

Demographic trends are adding further stress. The median ratio of active workers to retirees in state plans has fallen to 1.2x in FY2024 from 1.7x in FY2010, increasing reliance on investment returns rather than contributions to sustain plans. A major market drawdown would simultaneously reduce assets, widen unfunded liabilities, and push employer contributions higher—just as state and local governments face recession-driven revenue pressures. 

Fitch notes that most governments retain flexibility to absorb higher pension costs, aided by actuarial smoothing that phases in losses over several years. However, issuers with elevated carrying costs—above 20% of governmental spending—or weaker liability metrics face the greatest risk of budget strain and potential rating pressure in a downturn.