More horribly boring good news!
In a week when we learned pension freedom withdrawals hit a record £1.9bn, First Actuarial warns advisers’ exaggerated concerns about the ongoing viability of defined benefit (DB) schemes is contributing to the recent surge in people cashing out.
A recent survey, carried out by Momentum Pensions, suggests that 63 per cent of advisers specialising in pensions are concerned or very concerned about the ongoing viability of some clients’ defined benefit (DB) schemes.
They could instead be reading First Actuarial’s Best estimate (FAB) Index, which improved again in June, showing a month-end surplus of £301bn across the 6,000 UK defined benefit schemes.
Scaremongering also ignores the protection provided to DB schemes by the Government’s Pension Protection Fund (PPF) which recently reported an increased funding level in its latest accounts of 131% (up from 116% in the previous year).
First Actuarial partner, Rob Hammond warns:
“We’ve long warned of the dangers of scaremongering about the financial position of DB pension schemes. Suggestions that the recent surge in DB transfers may be due in part to advisers’ concerns on DB solvency are extremely worrying, and could lead to the next pensions mis-selling scandal.”
Hammond adds:
“Our FAB Index shows that the 6,000 DB schemes in the UK have a healthy surplus (calculated on a best estimate basis). Solvency has generally been increasing month on month as employers plug prudent funding deficits. We also have, of course, the safety-net provided by the Pension Protection Fund which we estimate itself has a substantial best estimate surplus . Advisers who exaggerate the implications of funding deficits, or ignore the existence of the PPF, risk claims of mis-selling from their clients in years to come.”
The technical bit…
Over the month to 30 June 2017, the FAB Index improved, with the surplus in the UK’s 6,000 defined benefit (DB) pension schemes increasing from £295bn to £301bn.
The deficit on the PPF 7800 index also improved over June from £232.3bn to £186.2bn.
These are the underlying numbers used to calculate the FAB Index.
| FAB Index over the last 3 months | Assets | Liabilities | Surplus | Funding Ratio | ‘Breakeven’ (real) investment return |
| 30 June 2017 | £1,515bn | £1,214bn | £301bn | 125% | -0.6% pa |
| 31 May 2017 | £1,534bn | £1,239bn | £295bn | 124% | -0.8% pa |
| 30 Apr 2017 | £1,514bn | £1,227bn | £287bn | 123% | -0.8% pa |
The overall investment return required for the UK’s 6,000 DB pension schemes to be 100% funded on a best-estimate basis – the so called ‘breakeven’ (real) investment return – has remained at around minus 0.6% pa. That is, a nominal rate of just 3.0% pa.
The assumptions underlying the FAB Index are shown below:
| Assumptions | Expected future inflation (RPI) | Expected future inflation (CPI) | Weighted-average investment return |
| 30 June 2017 | 3.6% pa | 2.6% pa | 4.2% pa |
| 31 May 2017 | 3.6% pa | 2.6% pa | 3.9% pa |
| 30 Apr 2017 | 3.7% pa | 2.7% pa | 4.1% pa |
Useful data.
Is the average weighted investment return based on the average asset allocation of schemes? Assume (being a simple fellow) that weaker schemes (in terms funding) would have more in bonds and thus have a lower expected future return?
Should an adviser look at the funding rate and asset mix on a scheme by scheme basis? That would create a run on weaker schemes?
Thanks in advance.
Dan, the daft thing is that weaker schemes (the ones with impoverished sponsors and deficits) can’t afford to fund with bonds but are often forced to by the zealotry of the bond brigade. They often would be able to manage with a balanced approach but are not allowed. Advisers need to be aware of the asset mix of a scheme, to understand its strategy – is it trying to get an insurer to buy it out or is it investing for the long-term. Ironically, the best CETVs are from schemes trying to buy-out , if a scheme gives a relatively low CETV, it is probably playing the long-game.
Are there any historical plots of the above data sets over significant time periods, overlaid with things like boe interest rate and ftse100/250 and other global equity market values?
In a market correction scenario (which we’ve seen time and again), who loses out more?
Also are there any numbers on those trading DB to DC?
Ie, are they older people who’re moving into less diversified, more ‘secure’ investments running up to retirement age, or do they include younger (lucky) ones who are moving mostly into stocks/shares and riskier investments?
Also are there any numbers of their pre/post expected retirement incomes?
Surely they’re being sold the transfer based on greed? (ie, they’ll get more in DC)
Or are they being sold just on fear? (ie, DB is going to crumble, get out now!)
Or a combination of fear and greed? I’m still surprised that people aren’t being more curious as to the motives of being offered a better deal elsewhere in a world where everyone is losing… if it’s too good to be true it usually is!
And aren’t all regulated and properly operated DB schemes protected largely by the PPF?
If these funds are willing to buy customers out for a decent sized DC pot, which suggests good fund health, to then buy a DC pension which has no promised income, just expected incomes, that strikes me as immediately very fishy.
DB > DC just puts all the risk onto the consumer, perhaps at parity of expected income today, but what about tomorrow?
With all-time tops in all the markets all the risk is down-side on both growth and inflation.
Either way it’ll all become clear in hindsight as to the winners and losers in this game. Lets wait and see.
There’s a huge amount in your post Dave, DB dynamics are different because they are about paying pensions while most retail saving is not! Our view is that there is an equity premium which pays over time and compensates schemes for short term ups and downs.
Most schemes aren’t prepared to wait for the long-term benefit of equity investing , being keen to sell out to an insurance company, We are arguing that many schemes would be better being patient and taking a long view.
There is a lot of herding going on here. One of the FCAs criticisms of investment consultants is that they’re not asking the kind of questions they should and herding trustees into bond based strategies.
The same issues relate to CETVs which are higher for schemes that eschew equities. We think that the conservative valuation methodologies which make scheme funding look insecure, actually promote transferring; people are needlessly quitting DB schemes and may regret the decision in years to come.
I’ve been playing in tennis matches for over 50 years. A few weeks ago we were enjoying a beer after the match when for the first time ever the conversation changed to DB pensions. I didn’t disclose my interest in the subject but one of the opposition said that he’d just cashed in his DB bank pension at 55 for just under £2m. He’d received a multiple of around 40 times. He knew he’d have some tax to pay but despite this he felt he’d done really well. One of the other members of his team then chipped in and said that a friend had just cashed in a deferred pension of £8k and received a transfer value of 52 times!
Listening to the conversation I was struck by the behavioural influences particularly the individual risk propensity. It is all very well to blame scaremongering but this ignores the other social and other factors that influence decision making. Concerns about scheme solvency may well be behind some of the decisions to transfer – and the recent news coverage of the situation at USS is unlikely to reduce those concerns but there are a host of other reasons why someone might choose to take control of their pension rather than leave it up to a group of distant trustees and in many cases a disconnected employer.
I’ve been involved with income drawdown since it was introduced in 1995. Many have argued over the years about the merits of annuities as opposed to drawdown – and again the behavioural influences are often ignored. There will be and have been winners and losers on both sides of that debate -and the same is true of the DB/DC dilemma. Scaremongering is unhelpful – but so is excessive zeal in advocating the merits of derisking and collectivism without acknowledging the other influences that affect all our decision making.
In my discussions with clients in DB schemes not once have I or the client been concerned about the solvency of the scheme. In almost every case where the client has transferred there have been clear identifiable reasons why pension freedoms genuinely suit their situation and the multiple of the transfer value over the revalued income has been at least 35 times. And the growth rate required to meet the critical yield is normally achievable and consistent with the clients attitude to risk.