The following article is extraordinary. Until a few weeks ago, the Government’s Pensions Regulator was urging small and underperforming pension schemes to demand employers pump money into them so they can buy risk-free assets in a process known as “de-risking”.
For a decade these schemes were locked into LDI strategies where employers were steadily tapped for deficit recovery contributions and schemes inched back to solvency by taking a huge bet that interest rates wouldn’t rise. In 2022 interest rates rose and the good work was undone as they found themselves trapped in funds they clearly didn’t understand. This saw them were shorn of assets and often the expensive insurance they’d purchased against inflation rises.
Many of the small schemes have only recently found that their funding strategies have been sunk below the waterline. At a PMI session on the liquidity crisis last week, it emerged that some pooled funds were only informing DB scheme clients they had lost their hedge at the beginning of March.
Now these schemes are contemplating complying with the Pensions Regulator’s DB funding code which demands more of the same. The Pensions Regulator marched them up to the top of the hill and marched them down again. Compared to more of such pain, many employers and their trustees may be ready to hand the keys to their scheme to the Government’s lifeboat.
Pension funds have been urged by the City minister to embrace a “culture of risk-taking” as the Treasury draws up plans to bolster returns for savers using an industry lifeboat.
Andrew Griffith said pension schemes must be willing to take a greater degree of risk in their investments, amid fears that a reluctance to put money in the stock market is holding the economy back.
Speaking to the Telegraph, he said:
“We are working on removing points of friction, streamlining our regulations and encouraging a greater culture of risk-taking.”
Jeremy Hunt, the Chancellor, is understood to be considering plans to hand control of underperforming schemes to the Pension Protection Fund (PPF), which currently protects people in retirement schemes when their employer goes bust.
Officials are considering how they can encourage small, poorly-performing defined benefit (DB) funds – old-style pension plans sponsored by an employer, which pay out a guaranteed proportion of a worker’s income when they retire – to fold into the PPF, creating a superfund that can invest in a broader range of UK high growth assets.
Treasury sources said the idea was one of several options under consideration, but it is understood that altering the PPF’s powers would require complex changes in the law and could not be rolled out before the next election.
The government-backed body already manages almost £40bn and was forced to step in and run the schemes of Carillion and BHS when the companies collapsed.
It is understood that Mr Hunt and his advisers are against forcing pension funds to invest in UK assets – in contrast to the shadow chancellor, Rachel Reeves, who has suggested they could be ordered to pay into a £50bn “growth fund”.
A Whitehall source said: “Under no circumstances should we be mandating.” A Treasury spokesman declined to comment.
The Tony Blair Institute will recommend in a report next week that sponsors of the smallest 4,500 DB schemes should be allowed the option of transferring to the PPF.
It will point out that although the UK has the third largest pension market in the world, no individual fund is in the global top 40.
The institute believes consolidation could transform the PPF into a superfund of around £400bn, making it one of the biggest in the world.
Mr Griffith said that pension fund managers are not currently being incentivised to deliver higher returns. He said:
“[We have to] move the emphasis away from funds running themselves for the minimum cost to funds looking properly at performance and that is what matters here because it is about making sure long-term savers get the most prosperous retirement that they can.”
His comments came after City heavyweights warned earlier this week that London was falling behind rival financial centres owing to its risk-averse pensions industry.
Sir Nigel Wilson, chief executive of Legal & General, said Britain’s pension schemes were failing to support growth industries such as bioscience and risked holding back the economy.
In a sign of a change of direction, the boss of The Pensions Regulator also pledged to go after the trustees of struggling funds that are letting down their members.
Mr Hunt will on Friday announce plans to earmark £250m of taxpayer cash for the Treasury’s Long-Term Investment for Technology and Science (Lifts) initiative, intended to spur the creation of new investment vehicles for pension schemes to back British science and technology.
Mr Griffith said:
“The £250m will be used to seed a new vehicle aimed at defined contribution pension schemes, allowing them to invest in scaling up some of the UK’s most innovative companies.”
The Treasury will launch a call for proposals alongside the announcement.
Baroness Altmann, a former pension minister, welcomed the move, adding:
This Lifts fund is just a small story, but there are billions of pounds of pension money that could and should be directed to benefit Britain.
“By offering new investment ideas and long term growth projects for new companies, or desperately needed social housing and infrastructure, pension funds could enhance returns.”
Earlier this week, The Telegraph reported that thousands of poorly-performing pension funds were causing savers to miss out on nearly £70,000 in lost investment returns.
There is growing concern that pension funds are increasingly pulling back from stocks and investing instead in safer but less lucrative assets such as bonds, in a growing problem known as de-equitisation.
Mr Griffith said:
“De-equitisation is a long-standing feature of the market and it’s been a concern for some time, it’s not new. People have alighted on it more recently but in policy circles and in the Treasury, this has been a concern.
“It’s fully one of the things we are focused on when we think about the reforms to the financial services sector generally and pools of trapped capital whether they be in peoples’ private savings, in institutional capital such as the work we’ve done on Solvency 2 and to pension funds themselves.
“It’s a combination of changing the culture of risk, removing some of the frictions at pace… and bringing forward new vehicles for investment in equities or high growth sectors such as Lifts.”
OK – not all of this is right. Rachel Reeves didn’t rule out mandating investment in venture capital but that’s along way from adopting the idea.
Tony Blair’s estimate that the PPF could increase tenfold in size to £400bn is a number plucked fr0m thin air. By creating a benchmark for DB schemes , the PPF can do what Nest is doing and raise standards. Most importantly, it can recreate an investment culture within DB schemes – rather than the cruel parody of corporate finance – that the funding of DB schemes has become.
The PPF would have to compete for business as Nest competes and there’s the rub, like Nest, it would likely get low value business , but as with Nest – this doesn’t really matter. It is unlikely that the PPF would create a false market and for every scheme taken on, another employer would be released to get on with doing the day job,
The new Funding Regulations and DB Code must now be dead. With all of this chatter about enhanced roles for the PPF, the motivation for that legislation has gone in the stroke of a pen. It was that there is harm to scheme members arising from the reduced benefits payable by the PPF. Amazingly the PPF have never analysed just how large that loss was for the members of schemes which entered the PPF. This was always the central fault with those proposed Regulations and Code. Consultants’ estimates of the degree of replacement vary from 80% to 95% of the sponsor promise. The more mature the scheme, the smaller the loss suffered by members. Our survey put the difference between PPF benefits at end 2021 and the technical provisions at 12.3%. The current loss to the existing members of the PPF will be smaller than this as its book of ‘business’ is more mature than the market broadly. Schemes within it have been in runoff for as long as 17 years. It is well within the existing surplus of the PPF.
It means that the low dependency, low risk portfolios required under that approach, which would of course be entirely inimical to any growth or productivity agenda, are history. It also means that schemes will not have to meet the administrative costs of that regime, no small sum in itself, and that sponsors will not be called upon to meet the increased funding costs of that regime. These have been estimated to lie in the range £100 – £200 billion – funds which will now be available for investment in the sponsor business. Of course, whether they will be used for that purpose rather than the payment of dividends and share repurchases is another matter.
We cannot ever underestimate the damage that TPR deathstar has inflicted to our economy, systematically stripping our pension schemes of an investment mindset and responsibility, and the costs will be borne for some generations.
And the key word here is ‘responsibility’ – each demographics sector (and as a proxy lets assume DB schemes represent the economic interest of the non-working aged) has a responsibility to support and nurture the others. With improved longevity, the pensioner sector is just too large to freeload expecting a risk-free age-wage. All wages – whether working or age-related – need an invested functioning growing economy, in which all can share in the risks and the rewards.
Because of an utter and complete lack of oversight and/or understanding across successive governments, none of them really noticed or challenged the continual and corrosive powergrab of the TPR, and relied upon the actuarial experts. Actuarial experts can bring skills in complex maths and in hindsight analysis. Not about investing.
TPR only produced data that supported their narrow minded funding approaches, and despite the very very considerable power it wielded over Trustees and the professions, and hence over the investment direction and outcomes of c£1.5 – £2trn of Scheme assets, it operated without any remit or consideration to the broader economic impact. They will say, they were only doing their job.
We all know the dangers of the State seeking to choose winners in innovation and technology, but hitherto we have suffered under the worst possible regime – an unelected deathstar of a quango actively sucking all energy out of the economy. Of course until it is extinguished the deathstar will continue to look to blame others for not understanding including targeting trustees for not being “professional” enough to understand the maths modelling, or not having enough buffers to cover the known unknowns induced by TPR’s unique approach to investing.
TPR must step out of trying to offer Trustees investment guidance. Single solution mandated approaches (statism) doesn’t work. Let the market find and invest in the innovation and to deliver the growth we all need. Trustee board need to be filled with business people, not maths modellers doing the bidding of TPR.