Yes, I know that Pension Scheme liabilities are projected to be lower by more than £626,000,000,000, but you can’t eat projections.
The money that was lost by UK DB pensions last year is gone. It has been collected by those on the other side of the derivative contracts that underpinned LDI , it is lost to pension schemes whose gilt portfolios are today worth a fraction of what they were in late 2021.
As Nigel Wilson , L&G CEO told the Lords Regulatory Committee, what matters to insurers when they buy-out pensions is the money they can make on the assets, the smaller the asset base , the less the deal. Though insurers look like they’ll get to eat most of the pie, the pie is a lot smaller and less digestible than it was.
And as for schemes that have lost their hedges, they are left with serious problems when the high interest rate tide recedes.
Yes, most pension schemes hold assets that match the actuarial valuation of the liabilities they have taken on, but the nominal liabilities are the same. At some point people will wake up to the simple advice given by Edi Truell to the market 7 years ago.
LGPS pension funds did listen and they invested in real assets, we should be grateful that they did.
The irony is that the “liquidity” of gilts turned out to be a mirage. There was no liquidity when the LDI market crashed, debts had to be repaid – often by selling gilts at exactly the wrong time. Liquidity had to be pumped into the market by the Bank of England for those gilts to be sold.
People know the value of money and though it’s hard to envision what £626,000,000,000 actually looks like, it is possible. Think 626,000 of these.
One Million Pounds Sterling
The argument is that were interest rates to fall, the value of the gilts held because pension schemes held on to their hedges, would rise. But that £626 bn is not going to resurface like a block of ice held below the waterline. That money has melted away into the global financial system and is lost to pension schemes forever.
And that is because it only ever represented an abstract notion- the value of Government debt. It was not invested in the sources of the wealth of this nation or any other nation but in financial instruments of dubious value.
Patrick Tooher is right. We put the value of something at what it can do for us, the utility it brings. The utility of £626 bn lost to pensions is very real, it is enough money to restore the standard of living for many of us, which we have lost over the cost of living crisis. That would bring current and lasting happiness to millions of people in Britain.
But financial economists say that losing that real value from pensions was worth it, simply to say that pension schemes are currently notionally in surplus. Those of us with DC plans that similarly de-risked, know that the value of our plans, like the DB plans we read about, has fallen -by as much as a third. That is real money and it’s not coming back just because interest rates fall (either).
We should have listened to Edi Truell in 2016 and we should listen to him today. Successful funding of pensions is based on investments into long-term assets, not promissory notes issued by Government.
Actually, by PPF estimates liabilities declined by £608 billion, by TPR estimates £601 billion – losses by the ONS survey were £626 gross and £577 billion net. This is over the 15 months to March 2023. Using TPR’s estimate of liabilities and the ONS figures schemes overall had a funding ratio of 99.5%. This is up from 98.6% in December 2021. The overall improvement, which is hyped so much, is a figment of the PPF and TPR’s imagination.
There is also a denominator effect to be considered. Consider a scheme which had liabilities of one hundred pounds which subsequently fell to fifty and then consider a scheme which was £10 overfunded (or £10 underfunded) – The table below shows this.
Liabilities Assets Funding Liabilities Assets Liabilities
110 110% 60 120%
100 100 100% 50 50 100%
90 90% 40 80%
The lower level of liabilities results is a far more diverse range of outcomes. The well funded scheme has £10 more than liabilities in both cases (100 & 50) but the funding ratio improves from 110% to 120%
Per Nigel Wilson – “what matters to insurers when they buy-out pensions is the money they can make on the assets, the smaller the asset base , the less the deal. Though insurers look like they’ll get to eat most of the pie, the pie is a lot smaller and less digestible than it was.”
I don’t know how quickly insurers sell the gilt assets transferred on a buy-out / buy-in contract. If they haven’t quickly converted them to their long term income earning assets, with subsequent rises in gilt yields they will have a pie that has shrunk further and need to obtain even higher returns from their target income earning assets. Risk premiums (particularly in asset classes desirable to insurers) over UK Gilts appear to have shrunk.
Three random questions occur to me:
1. How long will insurers continue to price contracts purely against Gilts?
2. Are buy-in contracts held by pension schemes protected by the FSCS?
3. Are Trustees considering buy-out or buy-in contracts doing sufficient due diligence on the chosen insurer to fulfil their requirement to protect the pension benefits of the members over their lifetime?
Glad I did 153 DB transfers our of 300 DB transfer analysis. In hindsight I should have done a few more.
Some may think they were unsuitable but all my clients have now a funs that will buy the same DB pension with proper RPI link (no cap, no CPI etc) and still have good money left.
Even the steelworkers ended up fine, even if the FOS deems the transfer unsuitable, the redress calculation will give them nothing, because funds are higher than needed to buy the benefits from an insurer.
To answer the question: are buy-ins protected by the FSCS – the answer is yes they are.
I think the answer to the third question is no. Due diligence would among other things have to look closely at how much of the insurer’s capital was derived from the ‘matching adjustment’ – having asked a few trustees who have done buy-ins, only one could tell me.
Is that right Con? The FSCS would be expected to step in (or procure a transfer to another insurer), and has done so in the past, but I’m not sure it has a statutory obligation (per PPF) that it must do. Is there a danger sone of these insurers will become ‘too big to fail’, but it’s becoming a leap of faith that Govt wouldn’t let one of them fail to learn the (Lehman’s ) lesson ?
I think it has a statutory obligation but the ability to actually pay is dependent upon its ability to collect levies from the institutions covered by it. It has no meaningful resources of its own. To my mind it is perfectly possible that it could fail.
It’s such a mind blowing staggering loss of value as a direct consequence of Regulatory overreach (for which LGPS is the ideal counter-factual) combined with an utter utter lack of Ministerial oversight (reaching back to the Coalition) that none of those culpable (IMO TPR, DWP, the Consultancies, and PLSA) dare not tell Mum they’ve dropped the treasured vase playing ball with it.
The consequences of this for the UK will be profound and long felt.
The only winners from this seem to be the insurers (and ‘professional’ trustees) – what was their book of business in 2004/5 compared to now and in 2 years time ?
TPR – of insurers, for insurers.
Should be, to maximise retirement incomes, supported by a growing economy.