In a blog posted yesterday, Con Keating and Iain Clacher lamented the decline in the fortunes of DB pensions pointing to a series of political and regulatory interventions that hastened rather than prevented the catastrophic decline in good quality occupational schemes.
The article also pointed to a certain amount of actuarial chicanery that papered over the cracks for awhile without properly alerting sponsors to the massive increase in liabilities they were funding for , nor the loss of dividend income needed to meet pensions in payment.
The references to strip-off’s relate to the famous protest on Brighton beach by male pensioners at the time of the 2009 Labour Party Conference.
The article has prompted a number of interesting comments including this from a former colleague of the great proponent of equity backing for occupational pensions -Alastair Ross-Goobey
Although I found some parts of Gerardine’s post hard to follow, it’s central question is clear enough, where is the next big idea – what rabbit can the actuarial profession pull out of the bag now? The implication of a multi-sex nudist breach is a mass cross-gender protest at the decline in pay-outs as pensioners find the PPF their new paymaster.
I have been reproved for posting pictures of semi-naked men so you will forgive me if I restrict myself to this happy shot of Andrew Young’s family on Studland Bay yesterday! Andrew, you will remember, was author of the report that got us a safety net and his wife Sara, is COO of a pension scheme that is not stripping us of our pensions. As can be seen from the photos , you can enjoy a nudist beach with being stripped off.
Studland Beach – 10/09/20
On a more serious note, here is Con Keating’s answer to Gerardine’s question.
What’s the actuarial response to this? We have had none.
Cash flow projection forms the basis of much sound financial analysis. It was used, and unfortunately also abused in former times. The problem that remains though is comparison of distributions of cash flow projections over time.
Discounting the cash flows at some (any) common rate will return the correct proportionality but still needs some further metric to report that as a cash amount.
Part of the issue is the over-emphasis on solvency- (an intrinsically short term measure)
It is possible to compare distributions directly (for the technicians, by affine transformation) But there are other more important issues that need to be resolved -for example the completely misplaced emphasis from the Regulator on scheme funding as the solution to all ills. That is economically very inefficient and staggeringly costly to employers.
I also knew Alastair – we started our careers together at Kleinworts. His early death was a true tragedy.
Andrew Young is an actuary and has probably done more to stop the great pension strip-off in the UK than any other.
Who from his profession will step forward and provide pensioners with hope beyond the PPF? Or is the expectation of a PPF benefit, all that deferred members should give themselves?
We watch developments among the consolidators with interest.
Happier times?
I was thinking for a while that to change the narrative for DB pension schemes, we would need to start with the PPF valuation. And that would mean that PPF should also invest in growth assets.
If for example we could move the discount rate for PPF from Gilts discount rates to Gilts + 1.25% (equivalent of 20% equity exposure/ 80% bonds), all other pension schemes will follow this as a minimum. From there onwards we could create different target asset allocations to different types of pension schemes, with different types of employer covenants. For example, a scheme like LGPS could have 70% equity exposure, allowing Local Governments to pay less in contributions out of taxpayers money and as a result hire a few more people for social services for old people.
A scheme like USS could have 50% growth assets, and the Railways pension scheme 40% – 45% growth assets. Closed pension schemes should not have no more than 45% growth assets. That would mean that falling into the PPF to pay 90% pension benefits, would result in not much deficit if schemes are funded to these levels.
I have resisted commenting so far, but feel that, having been at the helm of the ‘Stripped of our Pensions’ campaign to get Government to compensate people who lost their entire pension after a lifetime of contributions and successive official assurances that their pensions were ‘safe and protected by law’, I think it is important to recognise that the PPF has done a tremendous job in protecting DB scheme members.
I will never in my life come up with a better slogan for a campaign than our ‘Stripped of our Pensions’ banner, which was fun to choreograph, but it was utterly accurate. These workers, all of them lifelong loyal employees of their firms and many had their whole life savings in their company scheme (in those days, if you had a company pension, then Government rules required you to put all your additional personal pension savings in there as well) were facing financial ruin. Even part of their state pension was in their company pension scheme. So, after Maxwell, workers who had been assured that their pensions could not disappear in future because protection had been put in place, realised they had not been told the truth.
The actuarial assumptions behind the so-called ‘Minimum Funding Requirement’ (MFR) (which became the ‘Maximum’ Funding Requirement for most schemes) were only actually designed to give a 50/50 chance for members to get their full pensions. But members were told their money was safe and protected by law.
What went so wrong?
Firstly, the MFR actuarial calculation was designed to deliver only the 50% chance of full pension. This made it far too weak as a standard for pensions that were supposed to be ‘guaranteed’.
Secondly, even employers who were solvent were allowed to walk away from their pension liabilities as long as they had met this MFR standard – which saw many firms in the early 2000’s abandon their pension schemes by paying just MFR, but this was so inadequate to cover the costs of winding up the scheme itself, that even those workers in schemes where the employer had not gone bust, found they had lost their pensions too.
Thirdly, the MFR did not protect workers whose companies were subject to corporate and private equity ‘restructuring’. I saw private equity firms bought up traditional manufacturing companies which had long-standing DB schemes, then split that company into different parts – one new company was given the good assets that the new owners wanted to keep and the liabilities or unwanted assets were left in the old firm. That firm then failed and the new owners walked away with profitable assets in the new split off company, while the pension scheme was left attached to the but firm. This was morally horrendous, but perfectly legal at the time. Indeed, this is what led to the ‘full buyout’ requirements that were put into legislation for Section 75 debt – previously, this could be met by just MFR. The aim was to deter this kind of corporate restructuring.
Fourth, the Trade Unions recognised the problems for their members and turned to the EU Insolvency Directive to challenge the UK Government on the lack of protection for workers whose companies had failed without enough money to pay the full pensions. EU law required pensions to be protected on insolvency, but the UK system failed to do this properly.
Fifth, the problem was compounded by several Government decisions. These included the withdrawal in 1997 of ACT relief for company dividends, that meant pension schemes lost 20% of their dividend income overnight. No offsetting provision was made for this in the actuarial calculations. Government also decided to tax pension fund ‘surpluses’ in the late 1980s, which led trustees and companies to try not to have such ‘surpluses’. Actuarial assumptions suggested the schemes had so much extra money that they could afford to increase benefits, while employers did not need to pay a penny into the schemes. Once again, these assumptions proved incorrect, because market moves meant the risk of sudden falls or tax and legislative changes had not been provided for in the asset allocation., The normal actuarial risk margins were missing it seemed and when the dot-com crash came, pension schemes were badly hit.
BUT in my view, the biggest problem was the legal ‘priority order’ on wind-up and the requirement in legislation to buy annuities to secure pensioner benefits in full (including all inflation-linking) before non-pensioner members (even those a day away from their pension) could get any money at all. This was the most iniquitous part and it was the combination of the pensioner cut-off (which still allowed directors to walk away from age 50 taking ‘early retirement’ and getting the scheme assets to buy annuities for them, but leaving loyal long-serving workers with no pension at all) plus the cost of deferred and index-linked annuities.
This priority order meant that even non-pensioners’ state pension contracted out rights were not covered on wind-up.
I believe that there should have been risk margins built in to actuarial forecasts and there should have been much more recognition of risk. The priority order should also have recognised the rights of long-serving members, rather than using stark ‘pensioner’ cut-off to refer even to early retirees and Directors.This is why the PPF rules contained the reduction for early retirement! The PPF now ensures that workers’ pensions are protected and they can no longer lose their whole life savings and their company pension if their employer fails.
That is tremendous progress but the campaign was hard-fought. The Financial Assistance SCheme was resisted by Gordon Brown for years, the workers in schemes whose employers had not become insolvent were not protected by EU Insolvency protection at all, so the Trade Unions were battling for insolvency but the Pensions Action Group which I spearheaded had to battle for the solvent employer schemes too. Andrew Young was instrumental in helping to get the Financial ASsistance Scheme recognised and in stopping the winding up schemes from buying annuities. I had called for that in 2003, but nobody would listen. Running the schemes on, rather than locking into annuities, allowed the assets to be used to help defray the short-term funding costs that the Treasury would need to pick up. Andy was brilliant, he understood the need to remedy this injustice and Sara, his now wife, has done a splendid job at the PPF.
This whole episode (when I had to watch people die without their pensions, a wife who felt she had to lie to her husband on his death bed about having won our pensions battle so her husband could die in peace), people having to complain to Parliamentary Ombudsman after being fobbed off by Ministers, then seeing the Government totally reject the Ombudsman’s recommendation for full compensation, then having to mount a case in the High Court where I had to find lawyers to work on a no-win, no-fee basis to sue the Government for maladministration, then having to fund an Appeal Court case when the Government refused to accept the High Court ruling in favour of the Pension Action Group victims,
Moral of the story (I could write a book, but time does not permit and there is much more to this that needs to be learned) would be 1. there are no guarantees in pensions and people need to recognise there are risks which may reduce the amount received 2. pension ‘surpluses’ were really buffers against bad markets and actuarial assumptions need to make provision for both risk and upside returns (we’ve gone from over emphasis on taking risks in order to maximise returns,, to an over emphasis on minimising risks (which means must lower returns) – both are wrong and I believe the aim should be to ;manage’ risks. In a QE world, increasingly buying bonds and gilts will not deliver the returns needed to pay pensions in the long run. A diversified portfolio of asset classes which deliver different types of risk premia rather than relying on any one asset class too much will diversify risk and srouces of return.
Finally, the cost of Section 75 buyout and annuitisation is ruinous and wasteful of corporate resources. Use pension assets to invest in growth-producing investments, in social housing, build to rent, old-age living, infrastructure and so on. And that means look to the consolidators to drive the future of pensions – economies of scale, investing for the long-term,ongoing funding rather than annuity purchases….
Living, as I now do, in Dorset, I feel I should point out to your readers that by no means all of Studland beaches are nudist beaches, only the one furthest from the car parks……