Collective DB funding levels reach 'record high' amid market volatility

Defined benefit (DB) pension scheme trustees are estimated to have sufficient assets to buyout their pension promises with insurance companies, according to analysis from PwC, with the funding status for most pension schemes at a strong level.

This is despite recent unprecedented levels of interest rate volatility presenting operational challenges for pension schemes that employ ‘liability-driven investment’ (LDI) strategies.

The record surplus on an insurance buy-out measure was estimated to be £155bn at the end of September, according to the PwC analysis, with the "unprecedented" funding level attributed to recent increases in long-term interest rates reducing the cost of buyout policies.

It also found that these schemes collectively had a healthy surplus of £295bn, based on a 'low resilience" situation, where they stay attached to the corporate sponsor and invest in low-risk income-generating assets like bonds, which will generate cash flows to meet their benefit payments as they fall due over time.

PwC head of pensions funding and transformation, John Dunn, commented: “The current funding position for UK DB pension schemes highlights that, despite unprecedented economic and market volatility, schemes are actually in good health overall.

"Now the question is whether there’s enough insurance gold to go around or, just like the real thing, is it a scarce resource?

“Seemingly, the insurance market does not have the capacity for all of the schemes who can now afford to buyout, to make this a reality any time soon.

"There could be over £1trn of assets chasing perhaps £50bn of annual capacity in the insurance market - the maths just doesn’t stack up.

“What we are likely to see is more schemes rushing to get ready to join the insurance buyout queue. Others will contemplate running off over the longer term, either as stand-alone schemes or consolidating with others, rather than buying out with insurers.”

PwC global head of pensions, Raj Mody, pointed out that these high funding levels have also generated a lot of discussion about schemes topping up pensioner benefits with discretionary increases.

He continued: “Pension scheme members are understandably concerned, most pension schemes cap inflation increases on benefits to 5 per cent, yet the cost of living is going up faster than that.

"However, in practice, actually applying discretionary increases to pensions remains a minority activity so far.

“Of the few schemes where we are seeing some consideration of discretionary top-ups, there are usually bespoke scheme-specific circumstances at play which would not apply more widely.

"It might be an extremely well-funded scheme; for example, one well in excess of its insurance buy-out cost, with comfortable surplus funds and a strong sponsor.

“It might be because there’s some kind of ‘end-game’ transaction happening, such as a buy-in or buy-out, and there are spare funds to share out between members and the sponsor.

“Sometimes, it might be down to historical legal ambiguities which mean the trustees feel the pressure to exercise their discretion. Although we are seeing several cases under discussion, it's currently a very small number relative to the 5,200 defined benefit schemes in the UK."

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