Let’s unpick this headline , statement by statement.
Do we need a rethink of pensions?
Undoubtedly we do , the current pensions regime is under review and the DWP have drafted some draft regulations which are supposed to make them safer. These regulations have met considerable opposition, particularly from leading pension experts Willis Towers Watson. Ironically, compliance with these regulations would force pension scheme to be more rather than less dependent on gilts.
Do gilts increase rather than reduce risk?
The gilt rate represents the cost of borrowing for the Government, normally Government’s borrow cheaply because they don’t default on debt. Currently the markets are marking up the cost of Government borrowing because they see it as irresponsible and incompetent.
This doesn’t mean that the fundamental reason for buying gilts has gone away, they normally pay a yield that is low but safe. Gilts become risky when packaged into LDI contracts which double , triple or quadruple the risk when something goes wrong. The problem that the pensions regime has is that two thirds of all defined benefit pension schemes have been at it.
So why have gilts been so popular? The answer is that the accounting standards to which pension schemes report , and have done since 2004, make holding gilts the best way of demonstrating solvency of a scheme. But as Terry Smith (the boss af Fundsmith) has shown, where an employer is prepared to stand behind a scheme, a more risky strategy can be more rewarding.
And what do we make or a risk free asset that can do this?
As anyone who has found themselves in a standalone “pre-retirement” fund , losing 20% in a year leading up to your wanting your money, is not a pleasant experience.
Gilts are risky assets , no matter their matching properties. Doubling or tripling down on gilts is a risky business. LDI is a risky strategy and pension schemes that have embraced it are now at risk of losing their hedge, their collateral and even their solvency.
Is the pension regulator a weak and captured watchdog?
Let’s hear what Ruth Sunderland has to say
The Regulator promised that lessons would be learned and its powers in regard to reckless employers have been strengthened. The UK is no stranger to pension scandals, from Robert Maxwell to Equitable Life. But LDIs dwarf the lot combined and the Regulator is out of its depth.
That no one knows how big the potential write off of collateral, the sell down of equities and the cash calls on employers are . is evidence that this crisis is out of control.
I sat and watched as TPR CEO Charles Counsell explained to an audience eager to be reassured that there was really nothing to see. That was because TPR have are blindsided.
They have been captured by circumstances that they will say were beyond their control but which happened under their noses.
Why does LDI dwarf the lot?
We don’t know what has been sold to meet collateral calls. JP Morgan are saying £149bn, which looks a precise number until you remember that there are 9 zeros behind a billion.
I suspect the figure is a lot higher and while some of that money will revert to the scheme, an indeterminate amount won’t.
The reorganisation of asset strategies now involves such exotics as “synthetic equities”. We are in unchartered waters.
Is the Regulator out of its depth?
A smiling and calming CEO , an urbane head of policy, a charming and charismatic Chair, all very much on display in Liverpool, but the damage that has been done to the system has happened in countless meeting where case-workers have co-erced schemes into LDI strategies that worked for a decade but blew up in a few days