The difference between gilts and swap prices and what it can mean to your pension

Posted on September 3, 2025 by henry tapper

I was pulled up by Con Keating in a comment on a recent article on bulk annuities. Con reprimanded me after I’d said that annuities were priced against gilts (what I was told to say when I was selling “lifestyle” DC defaults (going into annuities)

I believe that BPA insurers actually price transactions against interest rate swaps rather than gilts – not that this technically makes much difference – 30 year swap this morning 5.03% versus gilt of 5.69%.

Bloomberg pointed out in a newsletter this morning that relative to governments, corporate borrowers are getting a pretty good deal.

The spread — the premium over government bond yields — that US high-grade issuers need to pay shrank last month to a 27-year low. While spreads have widened a bit they’re still far below their average over the past two decades.
I had thought all this a little “technical” , meaning not important to the man (or woman) in the street, but I am wrong, The very good Andy Smith who works on the wrong side of the street (risk management) has his heart on the side of consumers and he can see where these mismatches between schemes in gilts and annuities that are priced against swaps – matter.
View Andy Smith’s graphic link

When considering a bulk annuity transaction, it’s not just the headline price that matters, it’s how that price moves. The insurer’s price-movement mechanism determines how the price changes between the initial quote and settlement. I’ve been looking at what impact a mismatch in underlying instrument (swaps versus gilts) could have, and thought the results were worth sharing.

The distribution of outcomes is shown on the charts.  Taking a typical £50m scheme that’s invested in gilts, but the insurer’s price-movement mechanism is swap-based, then over the last 6.5 years:

➖ In around 8 out of 10 cases the scheme’s funding position would have changed by less than 1% either way – so not moving the dial significantly.

➖ On 22 occasions, the Scheme’s funding could have fallen by more than 3% – that type of swing could easily flip a transaction from affordable to unaffordable.

➖ In around 2 out of 10 cases, there would have been a funding loss of over 1%, which for a typical scheme would equate to a loss of £0.5m or more.

The opposite would be true if invested in swaps, but the price-movement mechanism were gilt-based. In that scenario, there would have been a gain of 1% or more in 2 out of 10 cases and a loss of more than 1% in less than 1 out of 10 cases.

So even small mismatches between the scheme assets and price-movement mechanism can carry real risks. When affordability is on a knife edge, those risks increase and could easily derail a transaction. The best way to mitigate this is close alignment between the assets and the price-movement mechanism, not only in terms of interest rates and inflation sensitivity, but also the underlying instrument.

 

About henry tapper

Founder of the Pension PlayPen,, partner of Stella, father of Olly . I am the Pension Plowman
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4 Responses to The difference between gilts and swap prices and what it can mean to your pension

  1. John Mather says:
    September 3, 2025 at 7.32

    It would be helpful if at the end of these obstervations, there could be a call for action . I ran Andrew Smithers article through a few AI engines and asked for action points. This is an example of where acting on the intelegnce can move matters forward.

    Looking at this economic analysis, I can identify several key opportunities and actionable policy recommendations:
    Primary Opportunities
    1. Growth-Based Solution to Twin Deficits

    Opportunity: Use capital inflows productively to accelerate growth rather than viewing trade deficits as purely problematic
    Key insight: Growth can make fiscal deficits sustainable by expanding the tax base faster than debt service costs

    2. Tax Policy Reform for Investment

    Opportunity: Shift incentives from intellectual property to tangible capital investment
    Evidence: R&D credits increased IP investment from 3% to 9% of output since 1981, but tangible investment fell from 19% to 13%

    3. Capital Allocation Efficiency

    Opportunity: Address aging capital stock (average age now 20 years, up 5 percentage points since 1980)
    Potential: Higher returns available from “mundane” tangible investments being neglected

    Specific Action Points
    Tax Policy Changes

    Implement targeted investment subsidies for tangible capital rather than cutting headline corporate tax rates
    Rebalance R&D credits toward physical production capabilities, not just intellectual property
    Structure incentives so they can only be used for investment, not dividends or buybacks
    Ensure revenue neutrality by raising other taxes to offset corporate tax cuts

    International Coordination

    Address surplus countries’ reluctance to reduce trade surpluses through diplomatic pressure
    Develop mechanisms to discourage persistent current account surpluses (building on Keynes’s original insight)
    Rebuild trust damaged by tariff threats and proposed “revenge taxes”

    Investment Framework

    Channel capital inflows toward business investment rather than consumption
    Focus on equity over debt financing for international capital flows
    Create incentives for companies to upgrade aging equipment and technology

    Policy Measurement

    Use Net Domestic Product (NDP) rather than GDP for measuring fiscal sustainability
    Track effective corporate tax rates including all subsidies and credits
    Monitor the split between tangible and intangible investment

    Strategic Priorities
    Short-term: Implement investment-targeted tax reforms to boost tangible capital formation
    Medium-term: Coordinate internationally to address global savings-investment imbalances
    Long-term: Build a framework where capital flows finance productive investment rather than consumption
    The author argues this approach could resolve the “structural liquidity trap” affecting developed economies since the early 2000s, making it a more sustainable solution than either trade wars or unsustainable fiscal expansion.

    Reply
  2. henry tapper says:
    September 3, 2025 at 7.32

    I don’t have any calls for action on this one John, a little lamentation I’m afraid!

    Reply
    • John Mather says:
      September 3, 2025 at 7.32

      Suggestd consideration:
      with RPI at 4%+ and interest rates heading north maybe covering basics with an annuity for joint lives and 100% for spouse, increasing with RPI would be a good time to buy. USing PLA with the tax free cash would be even better

      Reply

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