Posts Tagged ‘Investment’

Angela Burns

Markets have been extremely volatile in recent weeks primarily due to Covid-19.  Many countries are in lock down and a sharp eurozone recession could be on the horizon.

Many employers will be approaching their year-end with accounting figures to be produced at 31 March 2020 and will be worried about what recent market movements can mean for accounting figures.  Markets are fluctuating daily, but current conditions could actually see an improvement in the accounting position for many schemes.

The table below sets out how various economic indicators have changed since 31 March 2019

  31 March 2019 18 March 2020
iBoxx >15 Corporate Bond Index 2.35% p.a. 3.00% p.a.
Bank of England 20-year Implied inflation3.65% p.a. 3.00% p.a.*
Bank of England 20-year nominal spot yield1.60% p.a. 1.30% p.a.*
FTSE All Share Total Return Index 7235.16 5213.67

*estimate based on gilt yield movements

Gilts yields have fallen since 31 March 2019 from 1.60% p.a. to around 1.30% p.a. (although the figure was as low as 0.5% p.a. only a week or so ago).

However, credit spreads have increased dramatically, and the result is that corporate bond yields (on which accounting valuations are based) have increased by around 0.65% p.a. (and have effectively doubled over the last week or so)

Inflation has decreased by 0.65% p.a. and has been much more stable than the gilt or corporate bond yields.

Overall, for schemes with inflation linked benefits, accounting liabilities as at 31 March 2020 (if market conditions are unchanged from now) will have reduced, all other things being equal.

The overall funding position will also depend on how assets have performed.  Schemes with high equity exposure will have seen a significant drop in asset values with the FTSE All Share Total Return Index falling by almost 30%. 

Schemes with Liability Driven Investment (LDI) are likely to see an increase in asset values due to the significant falls in gilt yields (albeit these returns are very volatile).  Well hedged schemes (against gilt yield movements) may therefore see a material improvement in their position.

The table below sets out our broad estimated position for a sample scheme assuming different investment strategies.

31 March 2019 Accounting Position

Assets:                 £30m

Liabilities:            £35m (50% linked to inflation movements)

Deficit:                 £5m      

Investment strategy 1:   30% LDI, 20% Corporate Bonds, 25% equity, 25% diversified growth

Investment strategy 2:   75% equity, 15% corporate bonds, 15% gilts

Estimated position at 16 March 2020

  31 March 2019 Actual 31 March 2020 Estimated Investment Strategy 1 31 March 2020 Estimated Investment Strategy 2
Assets £30m £27m £24m
Liabilities £35m £29m £29m
Deficit (£5m) (£2m) (£5m)

As you can see from the table, we expect that schemes with a high proportion of hedging and a more conservative investment strategy will have an improved accounting position based on current market conditions.  Schemes with a high-risk strategy and lower proportion of hedging may still be in a similar position to last year despite huge falls in asset values.

Please speak to your usual Spence contact if you have any queries or would like some preliminary figures in advance of your year end.

Brendan McLean

Coronavirus and volatility

Stock markets reached all-time highs at the beginning of 2020; then came Coronavirus which caused panic selling in most asset classes due to the adverse impact it could have on businesses and the global economy.

The following week the panic seemed to be over, with some major equity markets rallying. This was particularly evident in the US which posted record highs again, driven by strong quarterly earnings and growth projections from the world’s largest companies, in addition to strong US job creation.

It is impossible to predict the full affect Coronavirus may have on the world economy. The World Health Organization has declared the epidemic a public health emergency, so Coronavirus could still cause markets to decline. The future outcome is unknown.

Highs and lows

What I find most interesting is the volatility it has caused. One example is Tesla, the electric vehicle manufacturer, which saw its shares increase by around 115% in 2020 only to fall by 15% in one day – its worst day ever. The sudden decline was driven by reports that Coronavirus would impact production and deliveries at its factory in China. This highlights the increasingly volatile market.

For bond issuers, 2020 also started off well, with the highest issuance of US high yield debt in a decade at $37bn – until Coronavirus fears saw investors pull $2.9bn out of high yield funds. One high profile US high yield ETF saw its asset base shrink by 7% in a single day – a rapid increase in volatility.

One to watch

The recent bout of volatility may be a sign of things to come for 2020. Trustees need to avoid making decisions based on short-term events and focus instead on their long-term investment strategy.

Brendan McLean

2019 reflections

The year began negatively with many commentators predicting poor returns. This was mainly because 2018 was a particularly poor year for assets. Deutsche Bank said 93% of assets were down in 2018 – worse than during the Great Depression – and December 2018 was the lowest performing month since the 2008 financial crisis for global equities. In Q4 2018, Brent crude oil fell by 35% due to rising crude inventories and increased production, in addition to fears that global growth may be slowing.

The main causes of the large declines in 2018 were: US central bank increasing interest rates, a slowdown in Eurozone business confidence, tightening global liquidity due to the withdrawal of quantitative easing, and weaker Chinese growth.  There were also rising geopolitical concerns including Brexit, Italian politics, US political gridlock, and the ongoing trade conflict between the US and China.

Key features from 2019 were the liquidity issues affecting Neil Woodford’s flagship fund, the Woodford Equity Income Fund, H2O Asset Management and the M&G property fund. As investors continue to hunt in riskier, illiquid parts of the investment universe (due to the decreasing yields available), I would not be surprised if similar events occurred this year.

Environmental, social and governance issues (ESG) became more important in 2019 as trustees faced new requirements to document the way in which they take account of ESG issues in their Statement of Investment Principles (SIPs). This resulted in a frantic push from asset managers to make their funds meet the relevant standards. Suddenly every fund became an ESG focused fund, which going forward is likely to result in a degree of ‘greenwashing’. There will be additional ESG requirements in place from October 2020 so trustees should prepare to spend more time on this area.

2020 predictions

2020 has certainly begun differently to 2019, mainly because 2019 was a fantastic year for assets. It would have been hard to lose money with equities and bonds both going up. Global equities increased by 22% – even a 60:40 equity bond fund would have increased by 20%. Commentators have been claiming that 2020 will be a good year, but I wonder how influenced they are by the joy of 2019.

Nevertheless, there are reasons to be optimistic about 2020. Due to the large Conservative majority in the House of Commons, progress on Brexit will hopefully be made and years of uncertainly should come to an end. There has also been progress on the US/China trade war. In the USA strong real wage growth, low debt levels and rising house prices means the US consumer, the key driver of the economy, is more likely to keep spending, which could prolong the economic cycle and be supportive for assets.

However, bonds and some equity markets do appear expensive by historical standards. There is a high level of global debt and the increased tension between the USA and Iran could very quickly escalate. This means that asset values are susceptible to any type of global shock.

To reduce the effects of such a shock, investors should aim to be highly diversified, allocating not only to the traditional asset classes of bonds and equities, but also alternative asset classes such as infrastructure, commodities, emerging market debt, structured finance, and currency.

Brendan McLean

All major equity markets gave a positive return over the quarter. This was mainly driven by the Federal Reserve (Fed) confirming it would not increase interest rates (as previously indicated) due to declining economic growth and easing of concerns over the China/US trade dispute.

UK equities rallied over the quarter in line with global equities. Investor sentiment improved as it became clear that there was no majority in the House of Commons for a ‘no-deal’ Brexit. A number of domestically-focused equities increased following the delay to Brexit beyond March 2019 as hopes that a disorderly exit from the EU could be avoided. Sterling increased versus the Euro and US dollar. UK long-term inflation expectations were unchanged over the quarter.

US equities were the best performing region as investors responded positively to the Fed stating it will not increase interest rates. Emerging markets equities performed well over the quarter led by China. The US administration’s decision to suspended tariff hikes on $200 billion of Chinese goods, together with ongoing government support for the Chinese domestic economy, was all supportive.

The price of Brent crude oil increased by 27% over the quarter as OPEC followed through on promises to cut production.

Corporate bonds performed well due to the Fed signalling it will not raise interest rates and that quantitative tightening will end in September.

UK gilt yields decreased over the quarter as investors flocked to safety due to fears of slowing growth. All else being equal, this acts to increase the value placed on pension schemes liabilities.

Brendan McLean

The UK property market is one of the most developed and stable in the world. For investors, that means greater potential for stable income and capital growth over the long-term. We believe this potential still exists despite market concerns over Brexit and high street store closures.

Since Brexit, UK property has performed well and has seen a surprise surge in transaction volumes, particularly from overseas investors; this can be partly attributed to sterling weakness. There is the possibility that some international companies may choose to locate themselves outside of London post-Brexit, which could negatively impact central London offices – however outside of the capital other segments should prove more resilient. A broad portfolio, well-diversified across sectors and locations, should help weather any headwinds.

The high street retail sector continues to underperform due to the shift towards online shopping; high profile casualties such as Toys R Us, Maplin, New Look and Carpetright have decreased high street rental demand.  However the shift to online shopping has benefited distribution warehouses that store online purchases, these will continue to grow for the next few years as more people shop online.

The property market is not without its challenges, both from Brexit and from consumers choosing to shop online rather than in-store. Nevertheless, there is still room for capital appreciation and secure income. We are confident that diverse UK property allocation continues to have a place in portfolios.

We particularly like property for its ability to produce a steady income stream that is potentially inflation linked.  This income stream can be used by pension schemes to meet their cashflow profile.  Investors are also being paid a premium to invest in an asset class which is illiquid in nature – more below.  An Investment in property should be a serious consideration for a pension scheme.

A downside to investing in property is the significant transaction costs to enter and leave this asset – sometimes you might not even be able to enter or leave!  However, for most pension schemes with a long term time horizon and other liquid assets this should not be too much of an issue.

Brendan McLean

Autumn for me represents two things: colder, darker days, and a new budget. I wait excitedly for the budget in the hope of fewer taxes, but it seldom happens – however this year, something else exciting happened. Philip Hammond, Chancellor of the Exchequer, declared the Government wants to see pension funds invest in patient capital as a way of financing growth in innovative firms as part of his mission to unlock over £20bn of new investment over the next 10 years, ensuring the UK economy is fit for the future.

This move follows a government consultation that closed in September 2017 which discussed lowering barriers to patient capital investment, such as long-term illiquid investments in start-up companies, for defined benefit (DB) and defined contribution (DC) schemes.

This change won’t take place overnight – The Pensions Regulator will still need to provide guidance on how trustees can increase patient capital investment, which both the regulator and HM Treasury has not yet provided a timescale on. However the Treasury has said they will establish a working group consisting of institutional investors and fund managers with the goal of increasing access to patient capital for innovative firms, and removing barriers to investment for DC members.

Investment-Pension-Budget-2017

In this current low yielding environment with various asset classes valued at record highs the thought of allocating to alternative long-term investments such infrastructure and venture capital which are less correlated to traditional asset classes offers a hope of a higher level of future returns for DB schemes. This could help decrease funding deficits. I believe over time illiquid long-term assets which are currently more accessible for larger schemes will become available for smaller schemes, as previously occurred for LDI.

Investment in long-term patient capital represents an opportunity to encourage younger DC members to get involved with investing in their pension.  As they are unlikely to retire for decades the benefits of long-term patient capital will be more visible to them. However most DC pensions’ assets are currently daily priced and normally offer daily liquidity. These two factors make it extremely difficult to make illiquid assets available to DC investors.  On a technical point, DC funds are offered in life assurance wrappers and the rules around those wrappers typically prohibit investment in illiquid asset classes.

Removing barriers to entry can only be a positive thing as it will help investors allocate capital more appropriately. These new changes will benefit DC members as they currently have a greater challenge accessing long-term illiquid investments. DB schemes will also benefit as they will have a greater opportunity to allocate to diversified less correlated assets.

For more information or to discuss the content of the blog please get in touch.

Brendan McLean
t:/ 020 3794 0193
e:/ Brendan_McLean@spenceandpartners.co.uk

Richard Smith

Yes, it’s that time of year again. The start of a new quarter and, once again, the pace of change in the pensions world continues unabated. Your team at Spence has pored over the various legislative changes, reviewed in detail the consultations and kept their fingers on the pulse of current issues in order to bring you a condensed summary of the highlights from the first three months of 2017.

As such, you can see at a glance the key issues you need to be aware of from the last quarter, and we’ve even put together a handy summary of what topics and dates to keep a look out for in the next quarter.

Topics covered in this quarter’s update include:

  • News from the PPF;
  • Consultation on the future of defined benefit pensions;
  • Highlights from the investment markets;
  • The ever-increasing value of scheme liabilities;
  • with many other highlights besides.

So what are you waiting for?… Click here to download your copy of the Spence Quarterly Update!

Hugh Nolan

With ever more people falling into the “Just About Managing” category as inflation increases faster than many pay packets, pension saving is likely to feel the pinch. Employees and employers both need clear and simple guidance on the choices to get the best outcomes.

In the infamous Jam Experiment (the psychological study rather than the jazz quintet of the same name), ten times as many customers bought some jam when offered a choice of six flavours rather than 24. Similarly, sales of Head & Shoulders went up 10% when the brand range reduced from 26 to 15 varieties. What on earth was Mr Heinz thinking when he decided to advertise a whopping 57 varieties? He could have taken over the whole world if he’d stuck to plain old baked beans in tomato sauce!

One of the authors of the Jam Experiment (lyengar) turned her hand to pensions later, finding that US plans offering just two investment options had a 75% take up rate – falling to 61% where they had 59 choices, which is even more than Mr Heinz. Back in 1999, Baber and Odean found that the least active traders got an 18.5% return compared to 11.4% for the most active traders. The average investor who switched stocks lost out by 3% over the following 12 months. Nowadays few people would object to a return of 11.4% but we’d all definitely want to get a little bit extra if it’s available given the current low expectations of future returns. Read more »

Richard Smith

If nothing else, 2016 has shown us that predicting the outcome of future events is a mug’s game. If we can learn one thing from the likes of Brexit, Donald Trump, and Leicester City, it is to expect the unexpected. As such, it was with some trepidation I accepted the challenge to pen a short blog on what I expect to see from the Chancellor’s Autumn Statement next week.

Due to the proximity of the “Autumn” Statement to the festive season, I’m going to take some artistic licence and predict a visit from Aladdin’s Genie of the Lamp, who will offer me three wishes for what I would like to see in Mr Hammond’s first Statement. Bear with me, it doesn’t sound as unlikely as certain other events that have happened! What would I wish for….??

1. No tinkering with the pensions tax system. As attractive as it might be as a target for raising some much-needed revenue for the Exchequer, now is not the time for tinkering. Pensions are already far too complicated, and any changes will just add unwelcome complexity to a tax system that is already creaking and few people understand. As a nation, we need to be encouraging saving and shifting the goalposts just doesn’t help.

2. Do something to help (those members of pension schemes run by) distressed employers. There is a growing clamour in the industry about the impending problem of distressed employers – those 1000 companies who are sitting on schemes they have no realistic chance of funding. Do we just sit and wait for these companies to fail and their pension schemes to fall into the PPF, with benefit cuts for members and job losses for employees, or can something be done to help both the members and the sponsors? This is a very difficult problem to resolve, and not one for which there is a magic bullet, but a number of ideas have been floated over recent months. The Government is there to make difficult decisions – there is a danger that if something isn’t done soon they may run out of time on this one.

3. Improve the investment opportunities on offer. Providing more investment in income-generating infrastructure projects, as well as providing a government guarantee for the early years of such investments (which are traditionally the riskiest period). Allow mayors to issue “city bonds” so that pension schemes can invest in local projects. Issue more long dated index linked bonds – there is huge demand and at current yields what’s not to like for the Government?

So there you have it. I’m sure that come Wednesday Mr Hammond will have some very different policies to the above. It might be too late to put the genie back in the bottle for defined benefit pension schemes, but there’s plenty that can be done to improve the UK’s long term savings arena.

Alan Collins

Spence & Partners, the UK actuaries and consultants, today announced their appointment by The LS Starrett Company Limited Retirement Benefits Scheme for their award-winning, fully-integrated approach to DB scheme management – ‘The Spence Approach’. Services to the 475 member, £25 million Scheme will include actuarial, investment and pension scheme administration.

Alan Collins, Head of Trustee Advisory Services at Spence commented: “In a post-Brexit environment trustees are looking for greater scheme transparency and a more joined-up approach to funding, investment and governance. Our Mantle® system allows schemes to make informed decisions around their funding at any point in time, based upon the live administration and investment data – what we see they see. Trustees are no longer looking in the rearview mirror; instead they can be fully responsive to funding opportunities that will benefit the scheme. Ultimately, we are giving trustees and sponsors of all schemes levels of analysis and advice that is usually reserved for schemes with much larger budgets. We are very pleased to be working with LS Starrett and the Trustees.” Read more »

Page 1 of 41234