Cardano and Lincoln Pensions have today launched The Worry Index. The research brings together funding, covenant and investment risk measures to provide, for the first time, a comprehensive view on the health of FTSE 100 DB schemes.
Increasing risk
The report finds that risk is on the increase for FTSE 100 DB schemes. The level of risk facing FTSE 100 companies’ pension schemes has increased by around 20 per cent over the last three years. Scheme risks are growing faster than their supporting businesses and, in general, FTSE 100 pension schemes have become less secure over that timeframe.
Stress testing
The Worry Index also applied the PPF’s stressed scenario to the schemes to assess how well each would be able to withstand an economic downturn.
The key findings include:
• One if five FTSE 100 schemes would struggle in a recession: In a stressed scenario, around 20 per cent of defined benefit schemes supported by the FTSE 100 would be in the ‘Worry Zone’ – defined as pension risks representing 30 per cent or more of the market value of the company
• In such a stress scenario, the pension deficit of the FTSE 100 would increase by £100bn: This would equate to four years of pre-tax profits, assuming all were directed at plugging the deficit
• Some sectors are struggling more than others: Consumer goods and services in general have seen the largest growth in their Worry Scores. Oil and gas has seen some improvement in 2017 driven by favourable commodity prices.
Kerrin Rosenberg, Chief Executive of Cardano, said: “People examine liabilities, investment strategy or covenant strength – the strength of the corporate sponsor – but never as a whole. The Worry Index is one of the most comprehensive analyses of FTSE 100 defined benefit pension schemes ever conducted. It’s the first time that information on funding, investment strategy and covenant have been brought together. In the past, risk has always been assessed in isolation. It helps members answer a critical question, how safe is my pension?”
Darren Redmayne, Chief Executive of Lincoln Pensions, said: “The Worry Index is our version of a stress test for pension schemes. A pension is only as good as the covenant standing behind it. This has been sadly demonstrated by cases like BHS and Tata, both were members of the FTSE 100 index in the 1980s.
“Companies need to be around for decades to stand behind defined benefit pension promises. Over such timeframes, markets change and economic events - such as experienced in 2008 - can be expected to occur from time to time. Being able to model the impact of these events is a wake-up call for the industry to more fully adopt integrated risk management as required by the Pensions Regulator.”
Cardano and Lincoln Pensions recommend taking the following action to safeguard your scheme:
1. Understand all key risks, beginning with the sponsor covenant that has to stand behind all risks
2. Set an objective – it can be helpful to focus on mid-term, rather than long term, objectives
3. Determine an integrated strategy based on the covenant’s ability to support risk
4. Set policies and implementing them, which acknowledge behavioural biases
5. Agree and monitor the triggers which will require sponsor and investment strategy action
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