How Aon explained LDI to clients (pooled buckets positioned as affordable risk reduction)
The PLSA has around 1400 members, give or take the odd DC master trust, the vast majority run DB pension schemes. You can find who they are if you purchase the PLSA database
The industry bible “Pension Fund and their Advisers” lists around 2000 schemes, the vast majority are DB schemes, the information is available in book form or online (at a price).
The PPF and TPR jointly publish the purple book which lists around 5800 DB pension schemes operating in the UK.
So where do I find information of the 4000 schemes that aren’t searchable through commercial databases?
The answer is that you need to find their report and accounts but first you need to know who they are and that is not as easy as you might think. That’s because TPR and PPF do not list contributors to the data they get from scheme returns.
We know, from information that TPR has put in the public domain, that around 60% of all DB schemes used the leveraged form of LDI which nearly blew up the gilts market last month. We also know from the Bank of England that the part of the LDI market that was going into self-destruct, was that part invested in pooled funds and we know that small schemes that use LDI , use pooled funds.
So some quick maths suggests that of the 5800 DB schemes around 3000 used LDI and that even if all 1400 of the PLSAs big schemes used LDI , that still leaves around 1600 schemes too small to use the PLSA for its lobbying and conference services, using LDI. We can make an approximation and assume that these were the schemes in the pooled funds that nearly blew up and the one thing we know about them is that we don’t know who they are.
And yet…
One of the many tropes being put around about LDI is that small schemes didn’t do it. This is absurd, LDI pooled funds are big beasts and we suspect that 1600 small schemes are in them.
It’s also a known trope because I know lots of trustees and advisers who used pooled LDI funds , not least because when at Investment Solutions, I used to work in a team that sold L&G’s pooled LDI funds to the clients of what was then Alexander Forbes. That platform also used these funds to sell to other consultancies such as JLT and First Actuarial who used these funds either through that platform or directly with L&G, BlackRock , Insight and others.
Lordy, I was with Abrdn yesterday who told me that they ran a pooled LDI fund for clients, so did Columbia Threadneedle. All these organisations were marketing to the consultancies that provide investment consultancy to the thousands of small schemes in this country. If you want to read the pooled fund pitch, here’s Insight’s (dated November 2021)
Not all small schemes use LDI but many do. John Ralfe gave evidence yesterday that none of the small DB schemes he is trustee to , use leveraged LDI. But that does not mean that most eschewed LDI. I won’t go into all the reasons why consultants recommended LDI to small DB schemes but it comes down to the same issue that big schemes had. LDI allowed sponsors to feel in control of their balance sheet without having to pay the ruinous cost of Boots or BOE style “gilts only” DB investment strategy.
This worked until it didn’t , which was this year. But unlike the big schemes, that have the resource to manage the “liquidity waterfall” that prevents segregated schemes losing their hedges, small schemes seemed to rely entirely on the provider of the pooled fund to manage their collateral calls. Pooled funds don’t give you much notice to stump up the cash. If you want to keep your hedge in place, you are required to buy more units in the fund and you are usually given a period of grace to do so. But the situation leading up to the BOE’s announcement seems to have been so frenetic, that some pooled funds were terminating hedges before the period of grace was up.
Let’s be clear, if you don’t buy new units in the funds, your gilts are sold from under your feet and when the gilts are gone, the hedge is gone. As I told the Work and Pensions Committee yesterday, “it’s like standing naked on the shore after the tide’s gone out”.
As John Cunliffe of the BOE has said, the danger for pooled funds was that their only way of meeting collateral calls was selling gilts into the doom loop and if the BOE had not intervened, they might have had no price from the market for their gilts , meaning they could not meet their margin calls, meaning they became insolvent, screwing up the derivative and Repo market and causing lasting damage to the gilts market. Put it at its most extreme, these 1600 small schemes, who we know nothing about, could have triggered a financial crisis.
The Mariupol factor
We know that these small schemes have been badly impacted by the financial crisis but we don’t know who they are and how bad the damage is. It’s like thinking about Mariupol. We will have to wait till later to hear the horror story and for now we can only imagine what has gone on. The trustees and their advisers are understandably not volunteering their bad news but I continue to speak with trustees and advisers who confirm that many of these schemes have lost the hedges that LDI supported and are effectively locked out of the pooled funds.
TPR does not ask for details of the positions schemes using leveraged LDI adopt, when they ask for scheme returns. They do not know which schemes have LDI and which don’t as a matter of course. So they too suffer the Mariupol deficiency, the fear that something awful has happened without access to the detail.
This would be bad but acceptable were it not for the promotion of the trope that small schemes do not use LDI. It’s like saying that Mariupol is alright because the last time we went there it looked great.
Slide showing 86% of BMO clients with assets under £500m used LDI pooled funds
