With AA corporate bond yields at historic lows and the prospect of future inflation rising, pension scheme accounting deficits look set to soar at the critical 31 March Company accounting date, according to analysis by Buck Consultants, the global employee benefits firm. The aggregate 31 March 2013 deficit will be in excess of £100bn across all UK pension schemes.
With some AA corporate bond indices yielding below 4%, the current pensions accounting standards will force companies to recognise higher pension scheme deficits on their balance sheets. Over half of all UK companies use 31 March as their year end and so will be required to use market conditions at that date.
The current AA corporate bond yield is near its lowest ever level and is considerably lower than it has been at a key accounting date since the introduction of the current pensions accounting regime. The pensions accounting standards prescribe that future pension payments are discounted at AA corporate bond yields regardless of how the Scheme invests its actual assets.
The current economic markets are perceived by some to be distorted and many economists are expecting yields to rise quicker than the market is currently pricing. As an example, a 0.5% rise in AA corporate bond yields would eliminate the deficit altogether if schemes were completely unhedged against interest rates, whereas a 1% rise would eliminate the deficit if schemes were 50% liability hedged.
Marcus Hurd, Principal and Senior Consulting Actuary at Buck Consultants commented: ?During difficult economic times, actuaries and finance directors need to use common sense. Whilst the funding regime allows them to be pragmatic, current accounting standards do not permit common sense. Many companies will be feeling the pain of following strict accounting rules at 31 March.
?We will undoubtedly see many companies using the limited flexibilities available in current accounting standards to ease the pain as much as possible. It would be a travesty if Company managers make decisions based on these annual numbers, which are inflated by difficult economic circumstances.?
Steven White, Managing Director, Buck Global Investment Advisors said: ?Schemes need to take steps now to ensure they can capture improvements as they arise. Gradually improving global economic conditions and current yield curves support the view that increases to long-dated yields are approaching. Small changes in long dated yields can have a dramatic impact on scheme funding levels and many schemes are looking to capture those improvements once they materialise.?
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