Parliament’s six challenges to LDI

Things are not going to be the same for fiduciaries, advisers or managers of DB pension schemes. That was the big message coming out of the lengthy evidence session conducted by the Work and Pension Committee on December 14th.


It might be helpful to sum up the evidence as responses to the following challenges

  1. Did the Pension Regulator encourage LDI or “dictate” that trustees  adopt it?
  2. Were advisers herding trustees ?
  3. Did the FCA have any powers to regulate the management of  pooled LDI funds?
  4. Should leveraged LDI have been considered legal?
  5. What does the PPF’s use of LDI tell us?
  6. Are DB plans really better off as a result of rising interest rates?

Dictate or encourage?

The debate has moved on from earlier statements from tPR which now accepts that it encouraged leveraged LDI as a means of stabilising the funding positions of DB schemes and engineering that under- funded schemes could access growth assets.

The meeting did not re-open the question of liability valuations. That appears to be a rabbit-hole though it has not gone away.

While for CEO, Charles Counsell, who will shortly retire from being its CEO, TPR’s role is embarrassing, for David Fairs, who is carrying responsibility for the DB funding code which is being rushed out in the next few days, the use of TPR’s powers to fast track schemes to the end-game of buy-out is very much of the moment.

Fairs told the meeting that the legislative timetable meant publishing code and regulations this year was critical for them to be in place next. It looks like legislation and regulation on the hoof with some tough conversations to come both in the upper and lower houses of parliament.

Trustees and advisers

The debate has also moved on with regards where the breakdowns in advice and governance occurred. Large schemes had mechanisms in place to meet their collateral calls, the problems occurred among the long-tail of small schemes, again there is now consensus that among the 60% of occupational schemes that used leveraged LDI, a large number were in pooled schemes. The FCA’s Simon Walls quoted Insight’s estimate that only 10% of their pooled customers lost their hedges, we do not know the numbers for other pooled fund managers but – as they were operating under lower buffers, they may be higher.

Rathi accused advisers of applying an “advisory template” for DB small schemes which herded schemes into similar strategies, concentrating investment into long dated and index linked gilts – markets where they were the principal buyers and from which it was hard to sell when the market turned.

While the scale of the problem with pooled funds is unknown, both the FCA and TPR look vulnerable. Nickil Rathhi, the FCA’s CEO admitted that despite buffers being increased to 300bps or more, the fundamental risks of LDI were still present. Interestingly, he drew parallels between the regulatory concession that allows high net worth individuals (those with £250k or more) to be treated as “self advised” and the ability of pension trustees to take complex financial decisions without regulated advice.

For the FCA the solution is to bring investment advice to pensioners within their “perimeter”, regulating advisers. For TPR the solution is the “encouragement” of professional and corporate trustees, consolidation of small schemes into master trusts and the eventual transfer of assets and liabilities into insured buy-outs or superfunds.

The ubiquitous problem surrounding all of the TPR’s solutions are that there are too few professional trustees, and a long queue for buy-out. Master trusts appear to be languishing in regulatory limbo (the draft DB funding code does not help them) , while super trusts are either emerging from or stuck in the tPR’s authorisation pipeline.

The WPC event suggested the need for a radical solution to the problem all regulators see with small scheme governance, but no agreed solution has yet to emerge, watch this space.

The FCA and pooled funds

Clearly the FCA are frustrated. A mischievous question from the Committee was to Nickil Rathi asked whether Rathi had wished he’d been in charge over the crisis period.

It was an offer to bury TPR which Rathi did not take but it is clear that it considered it powerless over the period, power resting with corresponding regulators in Luxemburg and Dublin.

It seems much more likely that the pooled funds will shed light on if and where bodies are hidden than will be gleaned from reporting from schemes themselves. TPR accepted that real time information on small scheme preparedness for future shocks, was limited by their lack of governance, advice and reporting resource.

So I expect to see the FCA taking a much larger role going forward.

Are leveraged LDI funds legal?

Clearly this question troubles the WPC and it troubles tPR who told the Committee that they trusted their in-house lawyers for legal opinion. Meanwhile , Sharon Bowles in the Lords, continues to call it borrowing , as have the FCA and Bank of England.

David Fairs is fighting hard on this and put up a robust defence, pensions litigation lawyer Stephenson Harwood were asking in yesterday’s Professional Pensions, “who is to blame for the LDI crisis and where are the possible claims?”.

What does the PPF’s use of LDI tell us?


The presence of the PPF, represented by Ethan Guppy and its CEO Oliver Morley added a new angle to the issue as its use of leveraged LDI , had operated differently, using larger buffers with direct reporting of cash calls from counterparties (rather than using fund managers).

The message that Nigel Mills and others on the Committee seemed to be getting was that the stress testing carried out by TPR and the FCA was less rigorous than that done by the PPF. Though the PPF and TPR both claimed to be working closely with each other, the impression given was of two quasi Government bodies with differing views of the risk of leverage.

I suspect that leveraged LDI will not be deemed illegal but that its use will quickly dwindle, partly because hedges will be more expensive (keeping large buffers makes it a poor strategy) and partly because the issues around shadow-banking make the use of questionable instruments a reputational risk for schemes. The PPF’s use of LDI looks exemplary, it does however ask awkward questions.

Are DB plans really better off?

As has been pointed out, if all corporate DB plans had been 100% hedged against increases in the gilt rates, as much money would have been lost as had been gained. The overall funding ratio of UK schemes as measured by the PPF’s own index is much better than at the start of the year, telling us that many schemes did not fully hedge and that has proved a blessing for them.

The estimate from Con Keating and  Iain Clacher that £500bn had “gone missing” from pension schemes this year, as a result of leveraged exposure to gilts, has been backed up by evidence.

David Fairs of the Pension Regulator dismissed this evidence partly because it did not mention liabilities  and partly because he considered you could make numbers show anything. I suspect that neither argument will carry much weight with the Committee.

Why does this matter?

Each of these meetings is extremely important. How we fund our DB schemes going forward will be a cause of major concern to employers who stand behind them, members who benefit from them, advisers and trustees who are involved in implementing the plans that keep them solvent and the PPF who rescues schemes when employers run out of road.

They also matter to DC savers, whose employer contributions are depressed when an employer is required to pay deficit contributions. Notably they are depressed not just because of contribution rates but also pay rates, the reward and compensation budgets are impacted by support for legacy DB schemes.

It is right that these arguments are rehearsed on blogs and in the more established media (I am pleased to see the FT , Pensions Expert and Professional Pensions have all commented on yesterday’s meeting).

It is good that we have in parliament, people prepared to devote themselves to these issues and we should be particularly grateful to Stephen Timms and his Committee for their interest and questions. There is much that can be done to make DB better.

About henry tapper

Founder of the Pension PlayPen,, partner of Stella, father of Olly . I am the Pension Plowman
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2 Responses to Parliament’s six challenges to LDI

  1. Con Keating says:

    David Fairs criticism of the absence of any consideration of liabilities in his response to our explanation of the derivation of the £500 billion realised loss of assets due to LDI was without merit. He asked us only for an explanation of the asset loss figure, which we provided to him.
    He is also aware that we have raised issues with the use of gilt-based discount rates and in the context of this year’s rises and LDI we have repeatedly offered this caution:
    Trustees, acting prudently, cannot, without being in breach of trust, derive a discount rate from gilt yields which is higher than the prudently assessed expected return on the scheme’s assets, net of its prudently assessed expected cost of borrowing via the repo market over the same duration as the assets funded by that borrowing.

  2. John Mather says:

    Why is the figure for all losses still a mystery? Who is protected by the silence?

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