How Pension Funds Could Boost UK’s Productivity and Investment
In March, Tom Tugendhat, UK Security Minister, and Michael Tory of Ondra Partners met in London to discuss how the pension industry could be reformed. Specifically, they discussed the possibility of merging pension schemes and encouraging them to invest more in the UK. By April, Tugendhat, through the Tony Blair Institute, had turned the idea into a concrete proposal for the UK’s Pension Protection Fund (PPF).
Tugendhat and Tory believe that the pension industry can be more efficient and productive if underperforming schemes were merged and encouraged to invest more in the UK, particularly in equities. The Tony Blair Institute espoused the idea of creating a more efficient superfund that could take more investment risks and achieve better returns.
The proposal takes its cue from Canada’s large-scale public and private projects and echoes similar changes in the Dutch pension market. Both the Chancellor and the shadow Chancellor have supported the PPF’s proposal, hoping it would pave the way for pensioners to invest more in UK businesses, particularly equities.
The UK’s DB pension scheme has drastically reduced its exposure to UK listed equities from 29% to 2% since 2008. This could make it even less attractive for pensioners and trustees to switch to a UK-focused investment.
The UK, however, is at a crossroads in pension reform. According to advisers Lane Clark and Peacock, 2023 is expected to be a record year for acquisitions and acquisitions as rising interest rates reduce expected liabilities. Thus, companies backing DB plans would move risk to insurance companies.
The PPF proposal is seen as a viable solution. As a non-profit organization, the PPF should be able to value acquisitions more attractively to pension funds and corporate sponsors than commercial enterprises. It would also be less likely to sell shares. However, it’s challenging for trustees and retirees to transition from a secured DB environment.
In summary, the PPF idea is a solution to merge underperforming schemes and encourage more investments in the UK to become more efficient and productive. The UK’s DB pension scheme has drastically reduced its exposure to UK-listed equities, making it even less attractive for pensioners and trustees to switch to a UK-focused investment. The UK is at a crossroads in pension reform. According to advisers Lane Clark and Peacock, 2023 is expected to be a record year for acquisitions and acquisitions as rising interest rates reduce expected liabilities.
Pension Reforms: Improving Productivity And Investment
Poor decision-making and design of pension funds have come under increased scrutiny amid the fast-changing and complex environment that demands new every investment decision to be made is scrutinized carefully. The current framework for pension funds requires a more efficient and effective model, which incorporates both DB (defined benefit) and DC (defined contribution) provisions to cut costs.
The Proposal
The Pension Protection Fund (PPF) has proposed turning the fund into more than just a depository for schemes left stranded by failed parent companies. The fund would include “performing” funds and invest more in the UK, particularly in equities. The proposed efficient superfund would allow investment of riskier assets than at present. Its inspiration comes from Canada’s large-scale public and private projects and echoes similar developments in the Dutch pension market.
The Challenge
The UK’s DB pension scheme significantly reduced its exposure to UK-listed equities as diversification, growing importance of other markets, and the introduction of accounting rules required a “snapshot” estimate of long-term liabilities using yields of current bond yields. Thus, pension funds reduced their risk, especially the exposure to equities. Therefore, it became cheaper for corporate sponsors of DB plans to shift the risk of funding them to insurance companies. PPF’s non-profit organization presents a solution to value acquisitions more attractively to pension funds and corporate sponsors. However, it’s difficult for retirees and trustees to transition from a secured DB environment.
The Solution
Pension funds must review accounting rules, avoid government-directed asset allocation, and implement plans to ease investment restrictions. Interest rate rises reduce expected liabilities, leading companies to shift risk to insurance companies. Therefore, it is essential to make pension funds more efficient and effective, enabling both DB and DC provisions to cut costs. Changes must be carefully planned, ensuring the effective and efficient allocation of funds to make investment decisions requires a more agile and flexible approach.
Conclusion
Pension funds require efficient and effective models that include both DB and DC provisions to cut costs. The proposed efficient superfund by the Pension Protection Fund would merge schemes and encourage investments in the UK to be more efficient and productive. All parties should take into account the rise and fall in interest rates and make decisions underpinned by transparency and accountability. From the government to trustees, everybody should ensure that pension funds align with the needs of those they serve.
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In March, 16 of the best minds in the City of London traveled to the Duke’s Hotel in Mayfair to dine with UK Security Minister Tom Tugendhat. The topic of conversation wasn’t sanctions on Russia or the growing cyber risks around the world, but pensions.
Tugendhat has form when it comes to campaigning for pension reform – he once accused then Prime Minister David Cameron for failing to address the large hidden costs of the programmes. On this occasion he focused on another topic, collaborating with his friend Michael Tori, a financier at the boutique consultant Ondra Partners. They argue that the pensions industry could be made more efficient – and more productive – if schemes were merged and encouraged to invest more in the UK, particularly in equities.
By last week, the idea had been distilled, via the Tony Blair Institute, into a concrete proposal for the UK’s Pension Protection Fund, a lifeboat for defined benefit (DB) schemes, which promise payments to members in pension based on the salaries of the members while they are in employment. TBI proposes that the PPF becomes more than a giant depository for schemes that have been left stranded by failed parent companies, but also take on “performing” funds.
It would also be operated more along lines of defined contribution (DC) schemes, where pension payments are based on payments made into funds and investment returns. The proposals, the Institute discussedit would create an efficient superfund, with the ability to take more investment risk and achieve better returns.
The paper draws inspiration from Tory’s native Canada, with its large-scale public and private projects. It also echoes developments in another large pension market, the Netherlands. Politicians there last week voted for a shift of the country’s occupational pension system from a DB model to a DC model.
This is also in line with the thinking of British politicians. Chancellor Jeremy Hunt plans to include the PPF proposal in a series of Ideas for pension reform. Rachel Reeves, the shadow chancellor, he pushed the same way pension reform. Both believe pensioners could invest more in UK businesses, particularly equities.
The pension industry has been divest UK stocks for a long time. Since 2008, according to PPF dataThe UK’s £1.4bn DB pension scheme has drastically reduced its exposure to UK listed equities from 29% to 2%.
There are clear reasons for this. One is diversification. Another is the growing importance of other markets, especially the United States. Most important of all, though, was the introduction of accounting rules which required the corporate lenders of the schemes to calculate a snapshot estimate of their long-term liabilities, using the yields of current bond yields. This recognition has prompted funds to reduce risk, especially exposure to equities.
Divestment is set to increase. As rising interest rates reduce expected liabilities, it has become cheaper for companies backing DB plans to shift the risk of funding them to insurance companies.
According to advisers Lane Clark and Peacock, 2023 should be a record year for acquisitions and acquisitions (a form of partial buyout), with an expected deal volume of up to £60bn, double the average for recent years. Acquired schemes typically do not invest in stocks.
But is the PPF idea the solution? The fund is widely considered a success. Less than 20 years after its creation, it manages around £40bn of assets on behalf of over 5,000 schemes and has delivered strong returns on investment, averaging around 9% a year over 10 years. compared to 6 percent for the smallest average DB schema.
As a non-profit organization, the PPF should be able to value acquisitions more attractively to pension funds and corporate sponsors than commercial enterprises. It would also be less likely to sell shares. But it’s difficult for trustees, and the retirees they represent, to transition from a secured DB environment.
Whatever the pros and cons of the PPF idea, reform of the system is vital. At least three other things need to happen. Accounting rules need to be reviewed. Any reforms must not involve government-directed asset allocation (although tax or other incentives could be effective). And plans to ease some investment restrictions under Solvency II regulations need to be carefully implemented.
Tugendhat’s interest in the subject is significant: portraying it as a national security issue might be a stretch, but reform should certainly be a priority for reasons of economic efficiency.
patrick.jenkins@ft.com
https://www.ft.com/content/9b130652-b4df-4bbd-8caf-75c2233eebcd
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