Articles - Investment outlook for DB pension schemes 2022

 By Elaine Torry, Co-Head of Trustee DB Investment at Hymans Robertson

 2022 will undoubtedly present its own challenges and opportunities for DB scheme investments. In this short note, I’ve pulled together the three main meeting agenda “must haves” for trustees this year, to ensure they continue to achieve that balance of risk, opportunity and compliance!

 Agenda Item 1: Market headwinds and tailwinds
 There will undoubtedly be market head and tail winds over the coming year that will present risks to manage and opportunities to take advantage of. It won’t come as a surprise that the key market factors that I think need careful consideration are inflation and interest rates.

 We’ve seen the overall level of inflation rise in 2021. The shape of the curve has changed too, with shorterdated inflation rising considerably more than its medium- and long-dated equivalents. While there is still a threat of ongoing supply scarcity and labour shortages, and the full effects of the disruption caused by the pandemic remains with us, inflation continues to be something that should not be ignored.

 And when inflation is something to be carefully considered, so too must interest rates and central banks’ response to the inflation coming through in markets. Indeed, we’ve already seen interest rates rise in 2021, with indications that future rises in rates are to be expected in 2022. The question that I would therefore pose trustees is

 "Do you fully understand how the different potential outcomes for inflation and interest rates could impact your assets and ultimately your funding position?"

 Agenda Item 2: The role of illiquid assets
 At the risk of stating the obvious, one of the considerations when deciding whether to invest in illiquid assets is the lock-up period, that is, the period of time before you get your money back. For most schemes, this hasn’t really been the deciding factor on whether to invest in illiquids as schemes’ investment horizons have typically been longer than the lock-up period.

 However, despite the unprecedented couple of years that we’ve had, funding positions for many DB schemes have improved and at the same time, there has been a reduction in recovery plan timeframes amid the continued maturing of DB scheme liabilities.

 For many, this combination has brought potential end-game targets closer and into sharper focus. Against this backdrop, the role of illiquid assets in a scheme’s investment strategy will need attention, and preferably in advance of it becoming a potential blocker to future strategic decision-making.

 In practice, this means that the potential lock-up period for a particular illiquid opportunity rises up the pecking order of deciding factors. Not because the attractiveness of the illiquid opportunities has diminished, but due to the potential change to the speed at which the future needs of schemes’ investment and funding strategies are changing.

 Agenda Item 3: Tackling climate change
 Climate risk continues to dominate the media headlines and minds of key decision-makers across the world. Pension schemes, with their trillions of pounds of assets, have an important and influential role to play, not least because of the risk climate change poses to scheme members and their pensions. Regulators are continuing to develop and evolve legislation that will compel pension schemes to take certain actions around climate change.

 That said, a lack of good quality data continues to be one commonly used excuse not to consider setting a Net Zero plan. Another is the fear of being measured against the plan and falling short. This is only natural. So, what can you do to work towards a Net Zero plan?

 Consider what Net Zero might look like for you and your scheme-specific circumstances
 Map out the possible routes to getting there, i.e. make a plan, set shorter-term targets and milestones and don’t worry about failure to meet those targets. It’s better to have made steps towards those targets even if you have fallen short.

 Amid this cascade of positive action, are trustees using their full weight as multi-million-pound investors to engage with fund managers and investee companies? What more could be done to drive change?

 With the exception of the very largest schemes, most pension schemes will have delegated engagement activities to their investment managers. However, delegation does not mean abdication, and therefore there is a need to up the ante on stewardship, making it more active – regardless of the extent to which delegation to managers has taken place.

 What can trustees do to be proactive and ensure that engagement activities are making a difference? Basically, how can trustees ensure engagement activities are of the highest quality, being meaningful and having a real world impact? Well, it starts with:

 Being clear on what your current engagement policies are, why they have been implemented, and the expected outcomes
 Considering what could be done to improve the policies, their application, and the expected outcomes
 Identifying red lines that align with your beliefs and risk assessments
 Understanding how to extend engagement to those assets that don’t have voting rights

 And my point is….
 ….threefold and quite simple really 1) identify the areas that really matter to the success of your scheme, 2) look beyond the regulatory requirements, and 3) plan ahead; with a wee bit of careful planning there are opportunities out there to be captured!