In the current challenging times on so many fronts, thinking about/writing about actuarial valuations leads me to ask “so what” from time to time and you may well feel the same.
However, if not, then hopefully the following will give some useful reminders / pointers for sponsors and trustees with an actuarial valuation due in the coming weeks and months.
- Unless schemes are already very well-funded and very well protected against interest rate movements and have low levels of growth/equity assets, their funding level will have taken a hit over recent weeks. The degree of the hit will be dictated by the levels of exposure in these areas. My experience is seeing schemes which are broadly unaffected (perhaps still 1%-2% down) to seeing with funding levels falling by 15% or more since around mid-February.
- For open schemes, even those that are well funded, current market conditions will result in higher expected costs of benefit accrual. This is primarily due to lower interest rates / lower long-term rates of expected investment return. For a typical final salary or Career Average Revalued Earnings (CARE) scheme, it could increase costs by 5% of salary or more. Unless other action is taken, this increased cost will fall on company sponsors.
- Given the above, I think it is very important to know where you stand – technology is available now such that all trustees and sponsors should be able to ascertain their funding positions on an up-to-date basis. Peter Drucker’s famous saying of “what gets measured, gets managed” has never been truer than today.
- As legislation stands, actuarial valuation dates must be no more than 3 years apart. So, you will not be able to defer the effective date of your valuation. I assume it is pretty unlikely that schemes will want to bring valuation dates forward to now unless there is a requirement/very good reason to do so.
- So, your results need to be measured at the valuation date. However, crucially, any resulting funding recovery plan does not. A recovery plan (and schedule of contributions) can take account of changing (and hopefully improving) market conditions during the 15-month period in which valuations need to be completed. I have seen this occur several times now e.g. valuations which took place shortly after the credit crunch in late 2007/early 2008 and those which took place shortly after the EU Referendum vote in 2016, showed much better positions by the time they were due to be signed off.
- Reducing risk may mean selling some assets at a price below the peak they reached just a few weeks/months ago. However, if doing so can move you towards your ultimate goal more effectively, then it will be the best thing to do. Over the early 2000s, I saw many trustees miss out on de-risking opportunities while they hung on for market to “return” to pre-crash levels.
Overall, managing a defined benefit pension scheme remains a long-term enterprise. I hope this bump in the road, like several others before, is overcome quickly. My key messages are keep thinking and planning for the long-term, keep up to date with what is happening (with the scheme and your sponsor) and continue to look to reduce risk gradually over time when you can.