Herding is always a risk – like the tuna in the paddling pool


Watch the latest LDI sessions from the Work and Pensions Committee here. https://parliamentlive.tv/event/index/eac3a006-5e0b-4312-b4db-ba9af7ef9a3b

Toby Nangle’s analogy of DB pension funds as a great big tuna fish thrashing around in a paddling pool is an odd one. It’s even odder when a the Bank Of England refers to it as a consequence of herding – potentially resulting from DWP regulations on private sector DB  schemes.

Images of tuna in paddling pools are in short supply on the web this week though I hope that some creative pension people will be able to visualise such a thing. You will have to use your imagination to work out the impact of conflating these two images.

Sarah Breedon, who is on the Bank of England Stability Committee was speaking when she referred to pension scheme herding as analogous to this bizarre risk, was not talking of LDI but of the potential impact of the DWP’s funding regulations. To be fair to the DWP and TPR , she was not suggesting that the regulations and code were going to recreate the concentration of risk that happened in September over LDI.

It is refreshing to hear someone from outside the loop talk with such precision about the problems created by leveraged LDI. Breedon made it clear that LDI did not great a financial risk to the system through segregated funds which had liquidity within their funds and from sponsors to meet collateral calls, the problems were within pooled funds that generally had insufficient internal liquidity to meet calls – in short, they were jeopardised by their not having planned for the impact of having to sell their gilts and Breedon pointed out that the testing they did was on the basis of them being the sole sellers and getting out of gilts in an orderly way.

The Bank of England are conducting an investigation into pooled funds and I imagine that their state of preparedness will be analysed, not just in terms of the buffers held for the leverage taken but also for their capacity to deal with clients when the emergency happened.  The BOE might also want to look at the supply chain between the clients and the providers.

The true cost of LDI

Much of the earlier session had been pre-occupied with the impact of LDI on the pension system and changes that should follow.

Bush, Blake and Nangle weren’t afraid to disagree with each other. Most notably, Tim Bush and Toby Nangle clashed on whether leverage in LDI should continue. Bush, who took a view that LDI resulted from the wrong accounting standard and the wrong approach to discounting, reckoned that leverage had no place in LDI. Nangle, who was mindful of the cost of getting out of the leverage, took the opposite view.

I think  both are right. We have to accept that like bindweed in a garden, once leverage is embedded in the DB pension system, the cost of eradicating it is more than it’s eradication is worth. But should pension schemes be part of the shadow banking system – fundamentally not – Bush is right to point out that conceding that LDI is legitimate is setting the wrong precedent.

Sarah Breedon had pointed out that leverage is rife in financial products and indeed makes many of them work. Typically they work well till something happens, when they blow up. Leverage should be avoided in savings product and that includes pension schemes (whether institutional or retail).

The two sessions can be watched from this link. I thoroughly reccomend them as a way to better understand our pensions and broader financial system



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 Herding is always a risk – like the tuna in the paddling pool

  1. Charles Cavendish says:

    Hi Henry – I think it was Toby Nangle not Nigel Mills that first used the tuna fish / paddling pool analogy at the beginning of the session (see 09:36:50 onwards in the recording)

  2. Jnamdoc says:

    The knotweed analogy is a good one. Successive Govts and quangos will happily kick the gilt-borrowing can down the road, like the home-owner paring back, hiding the knotweed, only for the next buyer to later ‘discover’, and who then repeats the cycle… But ,eventually the knotweed (systemic over-borrowing) will bring down the whole house. That is now clear, but which Govt is going to be brave enough to wean us off of cheap pension debt, replacing it with the hard work and faith required of investment-led growth. The systemic risks are not just the immediate from a sudden increase in rates, real though that is, but of the malignant impact of chronic under-investment and over-borrowing aided and abetted by raiding pension schemes of their trophy growth assets in return for the fools’ gold of excessive issuance UK Gilts.

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