Key findings from Hymans Robertson’s second annual Trustee Barometer*:
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Showing that their approach to funding is fully integrated and risk based is seen as the biggest challenge for trustees of UK private sector Defined Benefit (DB) schemes
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This is in the context of a myriad of issues preoccupying trustees
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Over two thirds highlighted that managing scheme risk and knowing when to de-risk is a big challenge
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Dealing with freedom and choice in pensions, member communications and regulatory change were all highlighted as other issues
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Over half believe that interest rates staying lower for longer is the biggest risk to schemes’ health in next 5 years
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When asked about objectives, 81% said self-sufficiency was the end goal for their scheme. Even in the very long term, only 15% are targeting buyout
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In terms of timescales, a quarter say they’re targeting 10 years for meeting objectives; 1 in 10 have a 15 year timeframe and 40% don’t know or have no specific timeframe for achieving their objectives
Commenting Calum Cooper, Partner and Head of Trustee DB at Hymans Robertson, said:
“Trustees are telling us their biggest challenge is showing that their approach to funding is fully integrated and risk based. This comes off the back of the Pension Regulator’s (tPR’s) annual statement this year which delivered a strong message to trustees about the value of an integrated risk-based approach. However, demonstrating that your approach is integrated isn’t enough – it’s important to ensure that it actually is.”
“With £25bn pensioner value leakage at stake** it’s reassuring to hear that Trustees recognise that this is their biggest challenge. We have long been advocates of a risk-based approach that genuinely integrates the three important funding dimensions that influence the likelihood of scheme members’ benefits being paid in full – contributions, investment and the strength of sponsor covenant.
“This approach, as opposed to traditional methods that overlook the value of risk reduction, brings a more complete understanding of scheme’s risks and their interdependencies, which helps trustees make better decisions to manage and
mitigate risk.
“The fact that over half of trustees are worried about showing that their approach is integrated and risk based underscores that many won’t have a real grasp of the risk of not being able to pay the benefits promised to members. An important first step is to understand the impact that long-term default risk of the sponsor can have on the optimum investment and funding strategy.
“The whole point of an integrated approach, such as our 3DFunding, is to balance the risks. For example, is it better to take less asset risk alongside a longer term cash commitment and be exposed to covenant risk for longer? Our FTSE350 research of 2014 suggested that this sort of strategy could materially increase the security of pensions promised by £25bn – but simply wouldn’t be explored with a traditional ‘clear deficits quickly’ focus to funding.
Commenting on the benefits of taking less risk for longer, he added:
“Conventional wisdom says that longer recovery periods mean more risk. This is not the case if risk is reduced in other ways - for example, reducing allocations to growth assets and instead focusing on ensuring you have income to meet your outgoings, and putting in place higher liability protection levels. Securing cash contributions for longer timeframes, even at lower levels where affordability requires it, is undoubtedly one of the easiest ways to finance reduced asset risk.
“This research shows that 40% don’t know what timescales they’re working towards to meet their objectives. Those who do know tend to be in more of a rush to get to full funding than they need to be. A quarter say they’re targeting 10 years for meeting objectives, 1 in 10 have a 15 year timeframe. The Pensions Regulator’s Purple Book showed that the average scheme is rushing towards full funding in 8 to 9 years. Pushing timescales and cash commitments out to 20 years, for example, could enable significant asset risk reduction for the majority - unless the sponsor has a weak covenant.
Commenting on what trustees view as the biggest risk to schemes’ health in next 5 years, he added:
“Over half of trustees have told us that they view interest rates staying lower for longer as the biggest risk to schemes’ health in next 5 years. In that context trustees should ask themselves these questions: does the view that rates can only rise from here make sense now – particularly as most see interest rates staying lower for longer as the biggest risk to their scheme? Are you taking risks in the right places – for example, to what extent do you currently rely on rate rises to finance deficit reductions (and run the risk of persistently low rates increasing deficits further)? Where trustees have set triggers to increase their hedging ratios, yield triggers have to be realistic and take into account the lower level of future expected rates.”
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