The state lending to its own citizens’ pension funds at negative real rates was always going to come back to the state balance sheet at some point.
The problems of LDI will continue playing out over decades to come.— George (@George63493297) December 11, 2022
George is worth a “follow”.
Water under the bridge?
Alex Brummer, writing in the Daily Mail, suggests
The belief in the City is that, because markets are now becalmed, it is water under the bridge.
Not for pension fund trustees sitting on big deficits and having to rely upon sponsoring companies to come to the rescue.
We should be careful to avoid “status-quo bias” and return to leverage in a diluted form. Simply dialling down the borrowing means more dead assets sit in the collateral buffer and less money is invested in productive capital. This doesn’t help members of occupational schemes who are already well protected from losing benefits, first by scheme funding and in the worst case, by the PPF.
It certainly doesn’t help sponsors of the DB schemes who soldier on with the more expensive leverage suggested by tPR , consultancies and LDI providers (at recent WPC sessions).
It doesn’t help the Regulators , for whom the LDI blow-up is a serious embarrassment. While the current 300-400bp collateral buffer is a short-term fix, it is not the long-term policy solution that the DWP is grappling with , as it plans to launch its revised DC funding regulations.
Reading the WPC submission of Dixon International Group over the weekend, I was reminded of the price we have paid for de-risking pension schemes. This medium sized company has been taken hostage by its pension scheme and by the demands of trustees egged on by a zealous regulator.
The actuarial demands on my company almost put us out of business and several times pushed us into loss….The system as it stands is unfit for purpose and has damaged our collective fortunes gratuitously. We have been a zombie manufacturer, existing to serve the pension with nil investment in talent, plant, diversifying etc.
Dixons International has paid a high price not to take on LDI, other much larger DB schemes complain privately of being bullied by TPR (and consultants) into taking out LDI, and swapping growth for matching strategies by loading up on gilts.
The debate is not over, the House of Lords, through its Industry and Regulation Committee and the House of Commons through the Work and Pensions Committee continue to ask the awkward questions that this blog has been asking for some years.
We have been living in a climate of fear created by the way we value our liabilities. Using a longer-term means of valuing assets that discounts liabilities by the average return of scheme assets (and not a version of the gilt rate) would have led to a much less stressful experience than that of Dixons International.
By moving away from valuing liabilities on a present value basis – using the risk free rate, we can and should be able to take a longer view of pension funding.
This would demand some courage from DWP and TPR as it would mean accepting that the status quo that has been maintained since 2004 has not worked and that those who argued for a system of best estimates of scheme returns – as a means of measuring the funding requirement – were right all along.
I have no skin in this game, I do not work for a consultant, am not a trustee but I am a member of a DB pension scheme. I see the loss of £500bn this year, resulting from leveraged LDI as a wake up call. Business as usual from DWP and TPR is not an option,
There has been no loss of £500 Bn this year. That number created for the WPC enquiry has no substance. Your FAB index chart is notable for the absence of any significant alteration in the funding position in recent months or years.
We cannot deny reality and pretend we can change our discount rates and make funding look better than it really is. The tPR and PPF combination over the past 15 years has seen a remarkably successful achievement which is that DB pension promises have been maintained and delivered with the support of well-planned and delivered recovery payments.
Its just different world-views, Peter. If one thinks pensions deserve or need to be distinct and priority promises separate from the sponsor and any impact on and from the broader economy, then switch their assets and discount rates over into Govt Gilts and accept that in effect those pensions will be paid by and large by the State. It’s attractive to the mathematicians as its a simpler model to understand or to ‘feel’ safe about, but as we are seeing it actually leads to some pretty complicated funding choices and monitoring (the TPR latest on monitoring leveraged LDI is an orwellian joke, a consultant’s paradise, and issued without a hint of irony), and it can destroy growth assets.
If one thinks the demographics of pensions and the need to provide a non-working wage for the elderly are now of such a massive scale and term that they need to be part of an integrated fiscal and economic model, then a large proportion of the assets need to be in growth supportive investments – both supporting and sharing in the spoils of economic growth – and the discount rates prudently set, should be aligned with that. Its not complicated, but it can feel more risking – investing in the economy and jobs and new ideas, rather than the State, requires hope and trust and a longer term view. But it would be entirely consistent with the current law.
They are just different world views.
Yes, but one world view has already won. All the performance from growth supportive investments over the last two decades has been foregone and can never be recovered. The overwhelming majority of DB schemes which are now closed to new members will never re-open. Where they can, employers have switched into DC schemes, where all the risk is born by the member, and which are also significantly restricted from investing in growth assets. Both employers and the aggregate of pension savers have been the losers all round.
Stephen. What do you mean that DC schemes are significantly restricted in growth assets? My funds are mostly DC and entirely invested in growth assets because I’m prepared to take the risk – unlike widget makers who want to make profitable widgets rather than use their DB pension promises to speculate on financial markets.
Peter, you take deliberated decisions not to invest in gilts, but smaller businesses with DB schemes find themselves funding their pension promises using matching assets which turn out to cost them. Most people in DC plans are similarly in gilts and bonds rather than growth assets as a result of de-risking (Stephen’s point). Since the time horizons for people of our age (late 50s and early 60s is at least 25 years, why this caution. Much the same can be said of DB schemes whose sponsor makes widgets.
The horse has bolted on the approach to DB funding and is heading for the settlement stable
Yes, rien ne va plus
Peter, I suspect that in the DC funds you refer to you can choose the asset allocation yourself. As I can in mine, which are entirely invested in growth assets also. But the vast majority of DC savers are in a default fund, constrained on investing in growth assets by the charge cap, daily pricing, and a widespread tendency among providers to compete on cost rather than value.