I spoke to one CEO of a large DB pension scheme yesterday evening who had spent the day arranging to liquidate a large proportion of the scheme assets to pay the margin calls on its LDI portfolio. The amounts of real “productive” assets being sold amount to billions of pounds. The demand for collateral require those managing the assets to transact at short notice and there are reports of emergency dealing days.
This is a result of the spike in bond rates occasioned by market’s reaction to last week’s mini budget. What it means is that the investment strategies developed over years of careful management are being trashed. Was this an intended consequence of the experiment with trickle-down economics?
Even before the mini-budget, Keating and Clacher estimated that the total call on LDI portfolios would be in the region of £60bn, but reports yesterday suggest that it could be many times that. Here is Jo Cumbo reporting on twitter
The surge in gilt yields is having a stunning side effect on pension scheme offering a secure income for members, or defined benefit plans.
In short, their funding positions have been substantially improved by the surge in gilt yields this morning and last week.
— Josephine Cumbo (@JosephineCumbo) September 26, 2022
“We are starting to see liability driven investment (LDI) managers flag new emergency collateral calls, a trend that is likely to continue in the coming days,” added XPS.
— Josephine Cumbo (@JosephineCumbo) September 26, 2022
So what does this mean?
We have reason to worry. Forced selling is an opportunity for hedge funds to short-sell stocks to drive down prices meaning that pension funds have to sell at the bottom and not get fair value.
A general lack of liquidity in the market means that spreads on transactions widen meaning that the cost of dealing increases exponentially.
But more importantly for the markets, there is a squeeze on available capital meaning that the ownership of the companies that should be driving the growth in the economy is now in the hands of speculators. How can this possibly be good for the long-term prospects of pensions schemes? How can it be good for the publicly listed companies whose shares are being dumped and how can it work for the good of our economy?
The Government’s Growth Plan 2022 is peppered with references to “business investment” but this will only happen if people feel confident that there are better returns to be had from the market than by sitting on a pile of cash. Frankly, a pile of cash is what pension schemes are now having to pay to meet the repayments for all the money they’ve borrowed to gear up on bonds (which are now seriously down-valued).
All this may leave pension funds feeling pretty perky by way of their technical funding positions , but they hold considerably fewer assets and those holdings they keep are rather less valuable. The entire good news story is about high interest and gilt rates which mean the schemes can boast they are super-solvent.
If that means a mad rush to buy-out , then there may be disappointment. The queue may be long and by the time a scheme gets to the front – this window may have slammed shut.
Meanwhile in DC- land
The threat to SIPPS and wealth management
The providers of wealth management schemes (SIPPs) see little to cheer about. Bonds are down , equities down and any currency hedging has proved disastrous. The freeze on the LTA and AA limits mean that pensions are looking less likely a good long-term store of wealth.
The threat to workplace pensions
Workplace pensions are under threat from a contribution squeeze, 35% of employers are reporting that staff are pausing contributions of whom two-thirds cite the cost of living as cause
If interest rates rise to 6% as widely predicted, a whole raft of more affluent savings may be forced to choose between paying the mortgage of the pension.
If DC pensions are being encouraged to invest in long-term assets, they can point to some substantial headwinds. The current economic policies are challenging many of the certainties. Many mature spenders will be increasingly uncertain about drawdown and looking at cash and annuities as safe havens. Unless we have a radically different regulatory regime, neither cash nor annuities are likely to drive economic growth.
On the face of it, pensions have never had it so good. But in practice – what is happening this week to investment strategies – looks little short of carnage.
our estimate of £60 billion was in respect of Friday’s moves, yesterday’s will be similar and perhaps larger – possibly as much as £90 billion.
Why are pension schemes leveraged on Gilts?
Why would someone repeat the Long Term Capital Management (LTCM) 1998 stupidity? Why someone could leverage an asset with negative expected investment return is beyond me.
We own less than 5% bonds in our clients portfolios. We have high balance of cash (including USD) from middle of 2021.
I do not get it. These schemes should sue their investment advisors.
The good news is that we have some clearance now – Zombie companies (leaving only due low interest paid on their huge debt) should go and clear the deck. Companies and people, and not last Governments should put their house in order.
Agreed, but who will help them sue their advisers? They have all been complicit, doing TPR’s bidding.
At a macro level the country is in deep trouble – at a time, more than ever, we need growth assets (including within the huge reservoir of what was pension scheme wealth) the schemes are flogging their assets. The rest of the world is laughing, mopping up our assets.
Never could imagine the Schemes would succumb to such mass hysteria jumping on the band wagon of “de-risking”, so much to the extent they started to buy synthetic gilts!!!. They’d have been better buying synthetic tulips.
Where was the unelected unaccountable (and now silent) TPR when all of this was brewing up – asleep at the wheel, or driving the bus.
More on this on Monday. TPR is not coming out of this smelling of roses
About time. Given every scheme has to file an annual return, and TPR has a programme of active supervision for the troublesome child schemes who dare to carry equities (I mean risk assets), it only leaves one to consider that TPR were complicit in building this mess or blindly incompetent…? It’s a shame and an embarrassment for the whole industry that the BoE had to step in to rescue the pension system – where has the Regulator been, on holiday with Liz and Kwasi?
At least the fix to this is really simple – allow scheme to once again carry return and wealth generating assets,and invest in our economy. TPR should do what it always should have done, manage and convert the PPF into a sovereign wealth fund now it is of considerable size, unleashing more investment potential!