It’s often the simple questions that can prove rather tricky to answer. In a DB pensions context, a simple question is: what is the funding position of my scheme? It sounds easy enough. However, in the midst of volatile market conditions with gilt yields and asset valuations bouncing around, is this undoubtedly simple question, in fact, difficult to answer?
Firstly, let’s consider the extent of the recent volatility in the markets.
While market conditions have stabilised somewhat in more recent weeks, for a period back in September and October, market conditions weren’t just changing from day to day, they were changing within a day…. How was anyone supposed to keep up? As an example, let’s consider what happened at the end of September. The yield on a 20 year gilt published by the Bank of England stood at 3.8% at close on 20 September 2022. By close on 27 September 2022 this yield had increased to 5.0%. And then, by the end of the next day on 28 September 2022, after an announcement by the Bank of England that it would intervene in the gilts markets following the government’s “fiscal event”, that same yield fell substantially to 4.1%. In terms of gilt yields, these were mind-boggling movements.
Secondly, what was the impact of these movements on pension schemes?
These gilt yield swings had a huge impact on the valuation of the pension scheme liabilities. For a typical DB scheme the rise in gilt yields between 20 September and 27 September may have seen liabilities fall by around 20%. By the end of next day on 28 September, these same liabilities may have increased by around 15%.
Liabilities are, of course, only one side of the funding-level equation. What about the assets? Schemes which had de-risked their investment strategies and which were fully hedged against interest rate movements likely saw their assets move broadly in tandem with their liabilities (discussion and debate on the issues surrounding LDI are for another day). These schemes did not see so much volatility in their overall funding positions. However, this wasn’t true for all schemes: in general, schemes which remained exposed (not fully hedged) to interest rate risks would have seen improvements in their funding positions. Others, for various different reasons, depending on how they were invested, may have experienced a deterioration.
So, having considered these two points, let’s return to the original question: what is the funding position of my scheme? In a volatile market, is this simple question easy or difficult to answer?
Those schemes where the trustees, sponsors and advisers had access to the best technology and who could track their schemes’ funding positions in real-time, fared much better than those who didn’t. On the whole they were able to approach the volatile situation relatively calmly in the knowledge they were in possession of the facts and could make informed decisions (notwithstanding some LDI issues). Schemes being managed and run on out-of-date, disjointed technology were likely not so fortunate. Those associated with these schemes may still be shaking their heads and trying to work out just what happened to their scheme’s funding position, never mind feeling empowered enough to make important, strategic decisions.
What was my personal experience as an adviser? Well, I can’t say that it was always plain sailing back at the end of September and early October but, ultimately, with effective systems of governance in place, I knew I was in a far better position than many others during that time.