Toby Nangle’s the brightest voice in pension journalism and I’m pleased to see an opinion piece of his is the FT’s editor’s pick today. Here’s the headline
Pension shift will change the UK financial landscape
Toby argues that there is a fundamental shift in the ownership of the assets of UK pensions from trustees to insurance companies and this is down to the acceleration of the DB end game.
But I sense his heart is not pounding at the prospect. I suspect he is not sure such a shift is “for the better”
Today, the interests of the 10.1mn members of private sector DB schemes are overseen by about 5,200 boards of trustees, their advisers and their managers. The LDI crisis made plain that investment strategies lacked the kind of heterogeneity in risk exposures that might be assumed to flow from such a large population of investors. But a future in which eight insurers dominate the market does not seem entirely unproblematic either.
And he points to the capacity crunch that is slowing the transfer of what seem well-funded schemes to their insured resting place. The LDI catastrophe has drained schemes looking to buy-out of their liquid assets and all too many are now clinging to their hedges to with what liquidity they can find to meet expanded collateral buffers. This leaves the growth portion of the assets largely in illiquids, assets that insurers don’t want. The choice is to liquidate and take a haircut or hang on and hope to get out close to the current valuation of your illiquids. (Toby uses a wonderful invention “marked-to-make believe” to describe some current valuations. Either way, “there is no easy way out“.
Likewise with data, there just aren’t the quality administrators to go round.
Double-checking that correct spousal details are coded in the right systems for tens or hundreds of thousands of scheme members is slow work, and there is simply insufficient capacity to complete the paperwork demanded by insurers.
Toby concludes that the “Pension Shift” is for the future, for now
the capacity to migrate to buy-out looks to be only £50bn a year which is little more than a rounding error in the context of a £2tn pensions market.
With a rather cavalier conclusion, Toby dismisses these illiquidity and poor data as real but temporary
The constraints are real. But they are not permanent. A world of change is coming to the UK’s financial landscape.
An alternative view
If I read Toby’s article correctly, I suspect that it is written in hope but not in expectation that the hegemony of a small group of insurers will be averted by the arrival of something else.
What “something else” might be is of course too speculative for an FT article but not too speculative for this blog, which likes to explore alternatives to current thinking. So here are three alternative scenarios
- The DWP and TPR abandon their current DB funding regs. and code which martials the 5200 schemes to the gates of the insurers. This would give opportunities for DB master trusts to consolidate small schemes with some certainty of earn out on assets over time.
- The DWP revisit the 2018 consultation on Superfunds (which they have yet to respond to) and enable commercial organizations to take on DB scheme assets and liabilities as going concerns – running off liabilities not through insured annuities but through the prudent management of the funds and the pensions.
- That CDC is given air to breathe and not asphyxiated by the CDC regulations and code. Any relaxation in the DB regs and code will not go so far as to release sponsors from the obligation to support trustee guarantees, but there is an opportunity to start again with a pension system based on best endeavors rather than insurance.
We have a pensions policy team at the DWP that has been tasked with reducing the gap between the DB and the DC promise. The Pension Shift, resulting from a return to more normal interest rates and a degree of inflation has given us options.
Now is an interesting time to explore these options, rather than shutting the door on the future. There are prizes to be won for schemes that dare; better deployment of assets that allow employers to demonstrate commitment to ESG; better benefits for staff prepared to accept their employer’s sponsorship of their pension benefits (rather than an insurer’s).
And there is a wider win here for society. We need diversification of investment to fund a confident growing economy. Locking down our DB assets in bulk annuities backed by debt is not a societal win. Finding ways to use our DB legacy to fund the growth needed to pay the next generation’s retirement bills, sounds a just transition from this “Pension Shift~”.
There are two major issues to consider
1. Pooling of risk in DB resulted in a loss of 40% of assets for John Lewis and an unquantified amount overall. Does pooling reduce risk? If not is CDC vulnerable to the same problem? Is risk to continue to be passed to those least able to manage risk?
2. Productivity of the country. Having sold off the family silver to foreign owners and damaged the economy with Brexit, pandemic, excess printing of money and politicians engaging mouth before brain where is the growth going to come from to pay for the aspirations of an “entitled” population
You can’t have social benefits European style with tax policy of the USA
The vulnerability of the U.K. is the high dependence of tax receipts on the top 1% of earners who already pay 33% of income tax. Many of this group were not born in the U.K.
The Government would be well advised to launch a cross party consultation on replacing the non dom regime because if Labour simply shut the door the U.K. standard of living will decline even faster than it is already declining.
JM – on your 2 points:
1. it wasn’t the pooling of risk that caused the loss of asset value at JL. It was collective group-think and falling into the LDI trap in paying the resulting “idiot premium”, and in a way where they seemed to be “hedged” 125%…?
2 – productivity solution- invest!. Actuarial training should require they consider the counterfactual and the mitigation every time they use the word “risk” in an investment context. Often they mean “returns”. This has led to the confusion or group think to consider that only insurers / actuaries can manage “risk”, when actually they are custodians now of the nation’s wealth and it is required yet debatable as to whether they have the mindset to generate returns (which unfortunately is not the same as managing “risks”, something to which they are well suited).
Top of my agenda is navigating risks the recent banking crisis is the tip of the iceberg and will re-emerge after a while, exactly as it happened in 2007-09.Let’s hope I am wrong
Transferring DB funds of c£50bn per year to an oligopoly of (cautious, gilt laden) insurers will deepen the vortex of unproductivity. We’re in a hole and we keep handing out shovels. It’s a catastrophe in the making. But not for the insurers – the built in profit on insurer transfer / buy-in is circa 15 – 20%, (so £7bn – £10bn per annum) and by design over cautious.
If this is allowed to continue, this will give rise to a truly colossal transfer of value away from working class scheme members who’ve spent a lifetime contributing to their pensions (along with scheme sponsors) to the financial insurance sector. You can understand why they’d have capacity constraints – they never expected to have such a bounty fall into their laps, and they are scurrying like crazy to get the staff to pick up this windfall.
Such a uniform approach and scale of expected asset and value transfer is not ‘normal’ – it represents a windfall of a magnitude that makes the recent windfall profits of the energy companies look like a casual restaurant tip.
Its another unintended (but bleedingly obvious) consequence of the short-sighted and disastrous UK pension regime foisted upon the pension schemes by the unaccountable TPR this last 10-15 years. There would be an uproar if it anyone had suggested 15 years ago that we should embark on a process leading to the ownership and management of all UK businesses and productive capacity to be transferred to a handful of owners. Why can that ever be acceptable for pension schemes and their assets. Ref previous blogs – TPR needs to come under some direct Ministerial oversight, and with some clear alignment to the greater economic good. Surely!