The people I hang out with are bifurcated between the DC people (consumer facing) and those who deal (institutionally) with funding. Put Richard Smith among the consumerists and you get Jo Cumbo writing for him, put Con Keating at the head of the “institutionalists” and you get Toby Nangle feeding ideas.
I sit in the middle, I’m as interested in drawdown as I am gilt consumption , but expert in neither. I guess that most DC people know that gilts and DB pensions are linked and that gilts spill into DC pensions because actuaries are everywhere , but when they read a headline about gilts and pensions they flick the page, they are consumerists.
Dare I try my Sunday morning’s readers with “gilts”, I think Toby is trying to help, here goes.
Do I want to go deeper, knowing already that I am close to being out of my depth? Can I wade so deep into the sea that I end up swimming?
What I want to know is why savers into DC pots should be holding as much (or should I say as little?) as DB schemes do institutionally. In short,why does the Office for Budget Responsibility think that open DC and open DB schemes will match each other for gilt holdings? Oh and why has demand from closed DB schemes and insurers? Though that’s like asking a gay couple why they don’t expect to breed children?
But if DC pension schemes are serious about providing pensions – rather than just pots – something institutional people believe (though I’m not sure most retail advisers do) then the current holding of 7% in gilts by DC schemes suggests a collective world that doesn’t include much liability matching. Here’s me playing with the FT’s clever modeller. The gilts in the dark blue are dominant for closed DB scheme, fall away as the OBR look at annuities and open DB pension schemes but collapse when they look at DC pensions and that’s today!
So take away support from the two big blocks of dark blue on the left and you can see why the gimme that Governments have had for fifty years that pensions will take up the requirements to borrow over the long term (these gilts are “long-dated” because the liabilities are “long-dated”- or were) and you see why Rachel Reeves and Hunt and chancellors before, are trying to get a wake up call to the country, pensions will not finance the Treasury for much longer.
Toby grabs the issue as it matters to Government (and to tax), collapsing his fancy chart into a single number – 19% being what he thinks the reduction in demand for gilts will be as “pensions” walk away from what we know today as “pensions”. When DC takes over and doesn’t provide guaranteed pensions…
I started this article trying to bridge the thinking of institutionalists who look at a 19% hole in Government borrowing as bad news and consumerists who mouth through gritted teeth – WTF (that’s rude for not giving a damn – well clothed readers).
Actually, I think that what consumerists are waking up to , is that the big consumer base is wanting three things that they aren’t getting
- A retirement income for as long as they live
- Value for money
- Something done about now
Which is why the consumerists may need to start thinking about whether the DC world needs to step up and do more matching to pay pensions (buying a lot more gilts) or whether it can manage the payment of retirement income with value for money about now without buying a lot of gilts but with all the new money that is coming into “decumulation”.
There are three options as I see it. The Plowman view is a choice of three default routes
The first is a massive purchase of annuities as we revert to a pre 2014 world where annuities are the default (preceded by drawdown from balanced funds DC run for oldies today)
The second is a world where CDC does a job with best endeavours to manage growth assets through CDC. This means no guarantees, but limited gilt matching and a lot of growth assets looking for infrastructure through private equity investment.
The third is that DC schemes start running DB sections that pay pensions with the security of annuities but with investment based on open pension schemes (less gilts but still some to meet guarantees).
I suspect a lot of the DB people have given up on DC as a lost cause but that should not be the case. The requirements of the Pension Schemes Bill make all three options possible though a return to some kind of open DB provision is only being argued by me and Peter Cameron Brown and a few other covert pension people!
My guess is that sooner or later we will have to reinvent DC as a pension rather than a “pot” system and at that point we will start asking whether DC could in the end bridge the gap.
As I have written before, it means that we have to think beyond simply collapsing the DC system into deferred annuities and for consumerists to start understanding that is not what DB pensions set to do up to 75 years ago.
I will return to the chart that I use to remind myself why we need open DB and CDC to make pensions work and why annuities are no more than an admission of defeat for collective pensions.
But therein is another story. As the OBR explain, and as I see from the initial reaction to the future from master trusts, the future for Britain’s borrowing looks pretty rocky without a return to gilts purchasing and there doesn’t seem to be a route from pensions into doing that.
But as the Government is calling out for, there is a possibility that much of the funding of Government spending, which is still done through pensions purchasing long-dated gilts, could switch to long-dated equities (CDC) or pick up where DB left off.
We will of course not get DC pensions of that kind funded by employers, but there is some demand to back pension from banks and other lending sources and capital backed DB pensions have a chance to work with collective unguaranteed DC pensions to return us to a pension rather than a pots and annuity system.