We’ve published new results from the Financial Survey of Pension Schemes (FSPS).
Covering Oct to Dec 2022, this includes membership, income and expenditure, transactions, assets, and liabilities of pension schemes.
➡️ https://t.co/apyUkWp97j pic.twitter.com/nDllINbzQy
— Office for National Statistics (ONS) (@ONS) June 22, 2023
DB scheme funding ‘remarkably robust’ despite market turmoil – Steve Webb
That’s the headline that accompanies the news that in 2022, Corporate DB plans lost very nearly £600bn of their asset base, falling in aggregate value from £1.8bn to £1.2bn. The slightly less bad news was that in Q4 2022 schemes only shed 3% of their assets.
In their session in parliament , Webb debated with Keating and Clacher over what were referred to as “technical” differences in valuations. The ONS figures suggest that not only have schemes lost considerably more in 2022 than previously thought, but they cast doubt on the “remarkably robust” state of our corporate DB pension plans
The ONS numbers show scheme assets having declined to £1,230 billion from a revised £1,269 in September. This is a loss of £39bn on the quarter but £591 billion from the beginning of 2022. In these tables T2021 represents Keating and Clacher’s estimates sent to the Work and Pensions Committee prior to its meeting on 21st June
T2021 is Keating/Clacher pre ONS guess at asset fall in 2022
TPR and PPF have respectively estimates of residual assets at the end of 2022 which are £146 billion and £179 billion higher than those of Keating/Clacher and the ONS. These are the differences between projections and reality.
The latest ONS figures are within Keating and Clacher’s range of expected values, they should be congratulated . Using the ONS asset values (rather than the rosier projections of TPR and PPF), they see the following funding ratios being reported.
These do not show the resilience previously reported, they show a slight improvement in 2022 – but not the “best possible world” scenario claimed by one commentator.
A picture’s worth a thousand words
Put in graphical form the difference between the optimistic forecasts of the PPF and TPR (green and blue) forecasts of asset declines can be compared with the sharply lower ONS numbers (in red). The purple line is Keating and Clacher’s estimates of what has happened to assets in Q1 2023.
It is hard to understand why so many senior people in the DB pension world are so keen to promote funding as “remarkably robust”. Derek Benstead in his evidence was keen to point out that in the real world , pensions are paid from assets and the pension liabilities are actually going up because of inflation. While the “model” that discounts liabilities has drastically reduced the theoretical liabilities, they haven’t reduced the amount pension schemes have to pay.
Con Keating made the point that that a higher discount rate implies a higher return on assets, there is no evidence that assets are any more likely to increase in value than before discount rates shot up. Benstead points out that the actual amount of interest a gilt pays remains constant, no matter what the yield says.
In short – financial common sense tells us that liabilities are in £sd the same as before inflation came along , assets are £600bn lower – a truly frightening number and pension schemes have blown their once in a generation opportunity to make a difference to pensions , blowing a good deal of that £600bn on LDI as the rest of this blog will show.
Here are the findings of the ONS as to what happened to pensions in the final quarter of 2022.
- The movements in private sector defined benefit and hybrid assets, liabilities and derivatives between 30 September and 31 December 2022 suggest schemes deleveraged, likely in response to the increases in gilt yields seen in late September to early October 2022.
- Private sector defined benefit and hybrid scheme total assets excluding derivatives fell by £118 billion (8%) between 30 September and 31 December 2022, continuing from falls in the previous three quarters.
- Partly offsetting the falls in assets, total non-pension entitlement liabilities decreased by £59 billion (26%) and the total negative net derivatives balance reduced (became less negative) by £30 billion between 30 September and 31 December 2022.
- Private sector defined benefit and hybrid liability driven investment (LDI) pooled fund holdings increased by £33 billion (25%) between 30 September and 31 December 2022, partly reflecting an increase in the value of gilts between these dates.
- Estimates from Quarter 4 (Oct to Dec) 2022 may suggest a divergence in liability driven investment (LDI) strategy response between segregated (single pension scheme) LDI and LDI pooled funds.
- Illiquid asset holdings are published for the first time today, showing that private sector defined contribution schemes hold a smaller proportion of illiquid assets than defined benefit and hybrid schemes.
The market value of UK funded occupational pension schemes
Figure 1: The market value of private sector defined benefit and hybrid pension schemes fell by £39 billion (3%) between 30 September 2022 and 31 December 2022
This chart shows that while the assets of DC and public sector schemes rose, assets in corporate DB fell – almost certainly because of the ongoing fallout from LDI.
The ONS suggest that the falls in corporate DB gilt and corporate bond holding over the final quarter of the year was to meet ongoing liquidity calls from LDI
Is this really something to be proud about?
The loss of nearly £600bn in assets means that the capital reservoir within UK pensions is depleted. Where has the money gone? It has gone to banks who are on the other side of LDI trades and it has purchased little in return. Schemes that did not pay to keep hedges in 2022 are now super-strong and at the front of the queue to buy-out. Schemes with depleted assets may have the technical solvency to buy-out but their lack of assets make them less attractive to insurers, something L&G’s Nigel Wilson told the House of Lords regulatory committee when pressed on buy-out annuity pricing.
The really resilient schemes are generally not in the private sector, they are public sector schemes or quasi public sector schemes (as John Ralfe called them) such as USS and Rail Pen.
The hope that UK pensions will be a source of productive capital for the UK economy now rests with these open DB pension schemes
The vast majority of allocation to illiquids is in the public sector defined benefit sector. Though there has been an uptick in private sector DB allocation (probably due to illiquids not being offloaded to meet collateral calls), the DC schemes that have been urged to invest in long term assets have simply not done so.
The ONS paint a picture of an asset base for what we once called Britain’s great economic miracle in sharp decline in 2022 – with little sign of recovery so far in 2023.
It remains to be seen just what will happen with DC assets, but the signs so far are that consolidators are not competing on value but price.
I see little evidence to justify Steve Webb’s claim . The only thing buoying up UK pensions are the high interest rates that look like persisting through 2023 and the hedges still in place. It is hard to sell to the UK population that the security of pensions is now about interest rate hedges, but that is the grim reality. For those with hedges intact, the game’s about keeping a brave face, for those who have no hedges, they can only hope interest rates remain high. That doesn’t look like resilience to me.
What is missing from this initial summary of the ONS 2022 figures is why the investment strategists were not advising pension funds to sell their gilt portfolios at the beginning of 2022, to lock in the value created by their LDI strategy at the turning point in interest rate direction? I could go on but will leave this question out there for the debate that now needs to happen, in the same way the ACO I’d enquirer is starting to look to learn lessons from what happened to manage the response to the pandemic.
ACO is should read “Covid enquirer”
In his critique of our modelling Steve Webb cited analysis of FTSE 100 company reports and asserts that these show rises in surplus of £10 billion to £70 billion. We presume they are capable of reading the IAS 19 valuations in these annual reports and trading statements – we have used many of them in our own empirical analysis -but would note that those reporting December to December years are few in number. Those not reporting are presumably modelled. While the FTSE 100 is interesting it seems not even to be representative of the wider FTSE. Hymans Robertson reported a decline of some £40 billion in surplus in the year to August 2022 for the FTSE 350 – before the gilt crisis even struck. WTW have also reported on the calendar 2022 year for the FTSE 350’s reporting companies. This shows an increase from £32 to £38 billion, a funding ratio improvement from 107% to 111%, just 3.7%. If we consider these two sets of figures to be correct, then the non-FTSE 100 companies in the FTSE 350 would have lost £4 billion in surplus for the year and would have a combined deficit of £32 billion.
I would if this has influenced LCP’s promotion of the PPF as a consolidator for large well-funded schemes.
Yet again only half the UK’s DB pension promises are considered.
The above £600bn is undoubtedly debatable, QE isn’t mentioned, but what about the other ~£500bn past service shortfall (intergenerational transfer) announced on 30th March 2023?
https://www.gov.uk/government/publications/public-service-pension-schemes-scape-discount-rate-methodology-a-gad-technical-bulletin/public-service-pension-schemes-scape-discount-rate-methodology-a-gad-technical-bulletin
Assuming (and guaranteeing) future GDP growth of CPI+1.7% pa with historic promises based on ~CPI+3% pa for £2.1tn of index linked liability (~gilts) implies a past service shortfall admission of ~£500bn. Future tax payers will pick up the tab, if they don’t emigrate or just beat the exchange rate risk and avoid capital controls! An arithmetic challenge includes the words “Ponzi scheme?”.
The future always pays our pensions, whether it’s funded or pay-as-you-go. The terms “Ponzi scheme” has become a meaningless term of abuse.
Regarding the sentence:
“Con Keating made the point that that a higher discount rate implies a higher return on assets, there is no evidence that assets are any more likely to increase in value than before discount rates shot up.”
If a bond is held by the scheme with the intention to hold to maturity and it’s market value drops as a result of interest rate rises, then there would be expected to be a higher return on the asset. This is as the cashflows (interest and redemption) will still be the same but the accounting valuation is starting from a lower base. I note that this is analogous to the point put forward on regarding the cashflows relating to the pensions liabilities that the accounting valuation does not change the amount of cash paid.
(NB In reality it will all be more complicated than this where pensions liabilities are CPI indexed).
How much was lost in the British Steel scandal compared with this £600bn+ episode and who will be responsible for compensation?
Is CDC vulnerable to making similar errors and will new DB rules push gilts even more
Compare action of the regulator in a recent case. Where is the equivalent in DB?
https://www.ftadviser.com/fos/2023/06/20/fos-sides-with-client-over-adviser-s-woodford-recommendation/?xnpe_tifc=4.e.bDVdxd4_xdHD4fn849psafeWaeiWhFWAbMQ6hMHcRui6a_B9afeWaG8.adJS4DhNOkxpbuHJxkh.hFQN4zTT&utm_source=exponea&utm_campaign=FTA%20-%20Editor%27s%20Pick%20-%20Newsletter%20-%2023.06.23&utm_medium=email