Tag Archives: fixed-income

Why ‘Defined Benefit’ should become ‘Pre-Defined Benefit Re-Defined in Light of Changing Conditions’

4 Sep


A recent well-intentioned but technically inaccurate FT article laid out the pitfalls of employers continuing to offer Defined Benefit (DB) schemes, in light of the recent bout of QE and interest rate revisions. Briefly, in a separate article it reported that consultancy Hymans Robertson had conducted research analysis which hypothesised the BOE’s announcement of a £70bn QE programme would lead directly to another £70bn DB shortfall.

The BOE also announced it would cut interest rates by 0.25%, which will hit all fixed-income returns by reducing the value of gilts and ‘safe haven’ government securities, and correspondingly increase the demand for, and price of, riskier fixed-income products. Pension trustees had better make some shrewd investment choices.

The writer argued that in order to solve the deficit overhang, the government needed further legislation to prevent the proliferation and even the continuation of DB schemes. He stopped just short of saying they should be outright banned.

A Lighter Touch

What the government has done, under the 2014 Pensions Act, is more of a soft-touch approach which controls market incentives to withdraw money from schemes, and window-shop continually for better ones. This provides more security for scheme managers, in terms of the available capital for investment.

To issue a ban on Defined Benefit schemes would be a hostile move, which might be resisted by certain interest groups and create a conflict both sides are surely keen to avoid. When a legislator has a choice between prohibition measures and providing incentives for industry participants to behave a certain way, a collaborative approach is usually more effective.

Though that is not to say that the government hasn’t laid down some firm rules on scheme governance and providing Value for Money.

Can Members Leave a Scheme if they Want to?

Although members are technically free to leave the scheme at any time, there are a number of barriers which impede them from doing so. Many funds impose exit fees, to try and keep investments safely enclosed in the fund and prevent a deficit from occurring.

Another barrier is that administrative provisions for transfer of their pension pot might be insufficient or incomplete. Scheme member data storage and integrity has recently been the subject of widespread audits and reforms, because so much information was missing or compromised. For example, employees would be classed as ‘absent’ from the scheme and hence the records, when in fact they had a Personal Pension Plan that the employer made regular contributions to.

Pre-existing pension legislation held that if you had been in the scheme less than 2 years, and the scheme rules permitted it, you were entitled to a refund of the contributions already made. Though having received the refund you would not be entitled to any benefits for the period to which the refund relates. However, the Pensions Act 2014 made it harder to leave or withdraw money from a scheme in several new ways, one of which was the abolition of these ‘short service’ refunds, for people who leave a money purchase occupational pension scheme after the mandatory 30-day period, and within 2 years of entering the scheme.

Mandatory Disclosure

Money purchase schemes are simply Defined Contribution (DC) by another name, where an employee contributes an agreed percentage of their salary at set intervals, with no guaranteed level of return. Targets and benchmarks are shared with scheme members, and indeed it is a legal requirement that trustees provide members with an annual statutory money purchase illustration (SMP), which states the likely pension at retirement based on in-house assumptions about market conditions including inflation. Also with details of contributions credited (before deductions) to the member in the preceding scheme year.

So a major advantage of DC schemes is that the governing directors’ expectations and projections of expected returns are continually revised. In the current fixed-income investment climate, with the BOE still steering interest rates on a tight rein particularly in the uncertainty surrounding Brexit, to make the kind of gold-plated promise to employees which Defined Benefit schemes make does not seem… prudent.

This enhanced level of disclosure was also introduced in the recent reforms governing trustee accountability. Not that I’m biased, but the now fairly stringent requirements on trustees of money purchase schemes seem to make them the better option. Among the other provisions are that:

–              Investments made with each contribution should be documented, recording the date of each. Best practice is that every new contribution be invested within five working days; where a member’s contributions are invested in more than one fund, and “the total amount contributed in a period is recorded explicitly”, verify the sum of the individual transactions elements equals the total contribution.

–              To this end, there should be a record of every investment sold, date sold and amount realised. This does not have to be recorded separately for each contributor, but must be categorised by investment fund.

Reasons not to Shop Around

The 2014 Pensions Act contained a number of other measures relating to private pensions, many of which strengthen existing legislation. Many seem calculated to try and ring-fence the contributions to existing schemes. They include provision for:

  • a new power to make regulations to prohibit the offering of incentives to transfer pension scheme rights
  • the introduction of a new statutory objective for the Pensions Regulator, to minimise any adverse impact on the sustainable growth of sponsoring employers when exercising its functions relating to scheme funding
  • measures to restructure the Pension Protection Fund compensation cap to better protect long serving scheme members
  • an amendment to the Public Service Pensions Act 2013 to allow smaller public body pension schemes to transfer accrued rights into one of the larger public service schemes

So in conclusion, measures have been taken to make DB schemes vastly less attractive. But to outright ban them would itself be infringing on the rights of those existing DB scheme-holders whose right not to have their scheme fold due to insufficient funds these lobbyists are defending in the first place.

The important thing is for DB scheme managers to have the freedom to adjust their expectations and projected returns to a level which is compatible with their income stream and all their liabilities. Which I suppose would mean they were no longer ‘Defined Benefit’ but ‘Pre-Defined Benefit Re-Defined in Light of Changing Conditions’. If only someone would outline the circumstances in which this decision would be permissible.



Former military and naval commanders brought out of retirement to battle Somali pirates.

7 Jan

The new private navy Typhon will use armoured patrol boats, manned with 240 former marines and soldiers, who will be armed with both short-range firearms and sniper rifles. They will patrol the east African coast, acting as escorts for oil tankers, freight ships and private yachts.

Its directors claim existing defence measures are insufficient. Despite the creation last year of the multilateral venture Combined Task Force 150, whose specific mandate was to fight piracy off of the coast of Somalia, with the assistance of forces from France, Canada, Germany, Pakistan, Australia, Denmark and the United States. Not to mention Russia, China, India, and the UK’s Royal Navy.by establishing a Maritime Security Patrol Area (MSPA) within the Gulf of Aden

“They can’t do the job because they haven’t got the budget and deploying a billion-pound warship against six guys [pirates] with $500 of kit is not a very good use of the asset,” Anthony Sharp, chief executive of Typhon, the company behind the venture, told the Times.

The Typhon fleet will retain the right to carry weapons, even into harbour, because it is formed of non-civilian personnel and will fly under the British flag. Patrol boats are to report back to a floating military base in the form of a 10,000 ton ship, and under overall command of a former Royal Navy commodore.

Founding members include former commander in chief of the Allied Forces in Europe, General Jack Deverell; Britain’s former chief of general staff, Lord Dannatt; former commander of the US Naval force in Europe, Admiral Henry Ulrich; and millionaire businessman and adventurer Simon Murray.

Typhon’s defence team will begin their first escort mission in March or April, though with the International Marine Bureau reporting pirate attacks at a six-year low, it may be some time before they see action.

As of 31st December 2012, pirates were holding four large ships and an estimated 114 hostages.Image


More Shipping News

Two groups which respectively represent 140 members from the UK maritime sector, and over 80 percent of the world’s shipowners and operators, have offset £40m of pension liabilities to British insurer Pension Insurance Corporation (PIC).

The UK Chamber of Shipping and the International Chamber of Shipping have taken out an indemnity policy on all the funds in the current pot, for members of both trade organisations.

Fixed-income products, particularly government bonds, are becoming increasingly expensive as inflation rises; yield rarely improves to an extent sufficient to offset this price rise. FixedIncomeInvestor.co.uk states that standard UK gilts expiring in 12 years 2 months are priced at £128.24, with a yield of 2.321%.

However, an indication of the level of inflation and volatility is the equivalent figures for UK 11-year 6 month, index-linked gilts, which have a -0.399% yield and are priced at £332.325. At current market conditions, fixed-income products linked to the FTSE or to interest rates give negative yields if the product is held to maturity.