Posts Tagged ‘Interest Rates’

Angela Burns

There have been huge increases in the numbers of individuals taking transfer values from their defined benefit pension schemes over recent years. This has been driven by numerous factors, one of which being all time low interest rates, giving us record high transfer values. Individuals have been seeing multiples upwards of 30 times pension in many cases, which when added to the increased flexibility now available, is proving a mixture all too difficult to resist.

With the Bank of England raising interest rates for only the second time in a decade (up 0.25% p.a. from 0.50% p.a. to 0.75% p.a.), having been stuck at 0.5% for over nine years, this change is likely to have an negative impact.

Gilt yields rising results in liabilities falling, all other things being equal, so we are likely to see a reduction in transfer values. At this stage the impact is likely to be relatively modest with a 0.25% p.a. increase in gilt yields reducing a £150,000 transfer for a 45 year old by about £10,000 and for a 60 year old by about £5,000.

Such a change means that the amount transferred needs to return a lot more to be able to match, or improve on the benefits offered by the scheme. This change is likely to see the investment return needed to match or improve on the benefits increase by around 0.5% p.a. for the 45 year old and by 1.0% p.a. for the 60 year old.

The investment return required in the period until retirement (also knows as the critical yield or in recent parlance ‘personalised discount rate’) is often seen as a benchmark which needs to be reached before an adviser can even consider if a wider discussion on transferring benefits is even possible. So lower transfer values, which result in higher critical yields, is likely to mean that fewer people reach the threshold and so many more stay with their existing scheme.

For employers incentivising staff to transfer through the use of enhanced transfer values, lower transfer values will mean that higher top-ups are required to reach an attractive level, placing a greater cash requirement on the employer and therefore making exercises less attractive. Alternatively, retaining the same top-up value may result in a lower take-up.

As the transfer value basis in some schemes may not react immediately to changes in gilt yields this may provide individuals with a short window of time before any changes are made. In addition, individuals who are currently within their transfer guarantee period may be keener to have their transfer value processed within the guarantee window, to ensure they take advantage of a higher value than would be likely to be available post the guarantee, given the gilt yields rise.

Further rate rises may be on the horizon. We don’t have a crystal ball to see what will happen in the future, however, current perceived wisdom seems to be that rates will slowly rise over time on the basis that they can’t possibly stay this low. However, this has been the general belief since around 2009! Some think we have entered a ‘new norm’ where rates are unlikely to rise materially.

Individuals and sponsors should take care when considering transfer values or transfer exercises as gilt yield increases can materially affect the ‘real’ monetary value of any transfer, with timing now increasingly important.

Andrew Kerrin

Christmas presents? Fine. Out of season clothes? Sure. Those trainers you bought two years ago that you’ve worn once but you’re definitely going to go running with again? Absolutely, chuck them out. How about your retirement savings? Under the bed!? Surely not.

As the Brexit splash continues to ripple through the economy, we are now facing the very real possibility of the UK joining the growing club of major states with negative base interest rates. In terms of pension schemes themselves, this won’t be a significant shock – they have been feeling the pain on their funding levels for a number of years with the low interest rate environment. Putting a ‘–‘ in front of the base rate isn’t going to shock schemes who have been seeing the number behind the ‘–‘ in their funding results growing year on year. Their pain will continue, but it’d hardly be a game-changer in the current environment.

The group that could truly be shocked are savers, and in particular, pensioners. To finally make some sense of my opening, Ros Altmann reacted to the news that Natwest had warned corporate customers that they may have to charge interest on accounts in credit, should the Bank of England dip the interest rate into the sub-zero waters. Should that happen, many will anxiously wait to see if those charges seep across to personal savings accounts too. If that levee were to break, the outgoing Pensions Minister said “the danger is many people will just think, “I’m going to put the money under the mattress.””

In truth, pensioners have been feeling the pain of low interest rates for some time now, right across Europe. Despite showing real patience – or perhaps acquiescence – with little to no returns, surely those same people would jump into action if their savings actually started to shrink. For many, it could be the watershed moment and see them rescue their savings and bring them closer to home. After all, if it’s good enough for the Commerzbank in Germany (who are reportedly considering shifting billions of euros to their vaults, rather than pay for the ECB to hold it under its negative rates) why isn’t it good enough for Joe Bloggs Snr.

While it may be reasonable to follow the actions of a big bank with its hundreds of financial advisors, Mr Bloggs Snr is different – he doesn’t have a vault. Should pensioners take such action, there have to be real security fears for their savings, as well as their own health and safety. Beyond the concerns of large amounts of cash being under beds, there is also the real possibility that these concerned pensioners may be more susceptible to pension/investment scams, offering a safe haven with fantastic (aka. positive) returns on their savings, just like they used to have. Should negative interest rates come our way, the industry should be alive to these risks arising.

Some may sneer and feel this is an overreaction. Some may say that it will never come to that. Well, we live in a world where Brexit is happening, Donald Trump is 270 electoral college votes from the White House and Leicester City are preparing to defend their Premier League title. Stranger things have happened…

Baroness Altmann (or perhaps her successor) may yet have to fetch Workie out from under the bed.

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