I am really pleased to see LCP getting behind the Mansion House reforms. Here’s what Steve Webb has to say in more detail
“Today’s announcement represents a huge leap forward in plans to allow well-funded DB schemes to invest for growth. Provided that member benefits are protected, schemes would be able to build up surplus funds, benefiting existing members, the next generation of pension savers and the sponsoring employer.
Rather than risk ‘wasting’ the potential of over £1 trillion of assets which have been painstakingly built up over decades, this new regime would be a win for members and sponsors alike.
And the announcement of a lower rate of tax on extracted surpluses is a clear sign that the Treasury is serious about these plans.
We look forward to seeing the consultation on the details of how this new regime will work and encourage all well-funded schemes to include the option of running on when deciding on their end game strategy”
Waking up to the reality of buy-out
What does Steve Webb mean by “wasting” assets? He is talking about their “potential” – a negative capability yet to be realised.
If we look back over the past two decades we have seen the primary objective of pension schemes to meet pension promises through liability driven investments. Investing to meet liabilities is the right thing to do , but there are more ways of doing it than through matching the duration of the liabilities to bonds (of any description). There are other ways, including trusting that long term assets will meet long-term return targets.
The reality of buying-out our pension liabilities with insurers is that we risk losing the “potential” and wasting assets that could work productively. Paying insurers to take assets of our hands in exchange for annuities is an expensive business, reckoned to command a premium of up to 20% of the assets. Much of this premium is associated with swapping potential returns from equities for the more certain returns of bonds, held for their full duration.
In 2022, the ONS estimate that £600bn was wiped off the collective balance sheet of UK corporate pensions. Much of this loss was paid to banks to keep hedges in place to protect schemes from interest and inflation rates falling. But much of the hedging was lost in the process and many assets that were sold will not be available to pay pensions in the years to come. The LDI crisis wasted much of the asset base pension schemes had built for the future.
Swapping those assets for annuities cuts off the potential to pay better pensions and reduces the opportunity for pension schemes to invest in gilts and productive finance.
LCP are saying that the remaining assets could work harder , not just to pay pensions for those in DB schemes, but to improve the pensions of workers who aren’t and improve the productivity and employment of thousands of companies whose activities have been cramped by pension regulation.
LCP are now talking about the opportunities from pensions, not the opportunity cost of having a pension scheme. This is a huge “leap forward” indeed. But it can’t be achieved without careful pension management. Pension schemes need consultancies like LCP as much as LCP needs to keep its pension scheme clients.
In addition, freeing up funds for employers and investing for growth would be of benefit to the wider UK economy, including helping to fund goals such as the transition to Net Zero.
China’s “great leap forward”