UK’s pensions black hole balloons 30% in a MONTH: Total deficit of final salary schemes soars £90bn to £384bn as Brexit hits funds
- Total deficit of eligible schemes hits £383.6billion, rescue body says
- £89billion added to deficit of eligible schemes in one month
- Fears over impact of Brexit on private ‘gold plated’ pensions continues
The potential black hole faced by the UK’s final salary pensions schemes has soared a massive 30 per cent in one month to reach a dizzying £384billion, figures showed today.
Put together, the deficits of all schemes eligible to join Britain’s pensions lifeboat in the event a company goes bust increased from May’s £294.6billion by a staggering £89billion, as Brexit fears have hammered the schemes’ investments in Government bonds.
Data from the Pension Protection Fund, which dishes out compensation to staff in certain circumstances, revealed the total deficit of all eligible schemes £383.6billion by the end of June, from £209.6billion at the same point a year earlier – an annual increase of 83 per cent.
Going up: The total deficit value of schemes eligible to join the pensions lifeboat in the event a company goes bust has increased by around 30 per cent in a year, the Pension Protection Fund said
With fears swirling over the potential impact of Brexit on the UK’s ‘gold plated’ private sector schemes, of the 5,945 eligible schemes, 4,995 are in deficit, with total liabilities standing at £1,747billion – the highest level since the PPF’s records started in March 2006.
The figures relate to defined benefit pension schemes, such as final salary schemes, which have become increasingly rare as many firms opt to run cheaper options.
A spokeswoman at the PPF said: ‘While the deficit has worsened significantly, it is important to remember that pension liabilities are long-term and these numbers need to be looked at in this context. As such, one month’s deficit numbers are not a cause for alarm.’
Companies with defined salary pension schemes build up pots to ensure that they can continue to pay retired employees for the rest of their lives.
The pots are invested so that they grow over time. However one of the predominant investments tends to be government bonds, known as gilts.
These are seen as a good option because they are not very risky – it is very unlikely that the government will default on its debt and the gilts lose their value. However, the interest paid on gilts are at a record low so the returns pension funds are receiving are very low.
This is due in part to the uncertainty created around Brexit – at times of economic shock investors tend to opt for the least risky options – and gilts and gold come top of the list. The more popular they are, the more expensive they are to buy and the less they pay out in interest.
However pension funds do not have to pay out their full liabilities all at once – money is paid monthly to those who are already retired, and is not yet paid at all to those still in work.
So while a deficit is an issue if it is prolonged or becomes unsustainable, it is not necessarily a huge cause for concern in the short-term: funds may still have time to make up the shortfall when conditions are more favourable.
Sebastian Schulze, a Director at Redington, said: ‘The drastic rise in deficits is largely down to dramatic movements in the gilt markets.
‘Yields on long-term gilts (the most relevant asset for valuing pension schemes’ liabilities) fell by as much as 0.4 per cent to 0.5 per cent after the vote.
WHAT ARE BOND YIELDS
Bond ‘yields’ are a measure of the annual return to investors who buy government debt. Bond ‘prices’ are the cost, or what these investors pay to buy the debt.
Bond yields and their prices move in opposite directions. When yields move up, prices fall.
But yields on both government and corporate bonds have been at very low levels for years – meaning they have rarely been so expensive. See the box below.
‘This resulted in a significant increase in the value of liabilities and deteriorating funding positions for those schemes which have failed to hedge interest rate risk.
‘The average UK pension scheme probably saw liabilities rise by as much as 10 per cent.
‘Meanwhile, generally, equity markets have not fared too badly. The FTSE 100 recovered quickly after the vote and since then has risen 10 per cent. From this, we can see the diminished funding position is not down to an underperformance of assets, but from a failure to take action on liability risk’.
He added: ‘In this environment, schemes need to think carefully about the risks they are taking. The impact of the referendum is a painful example of why pension schemes continue to play catch-up with liabilities. For too many schemes, unhedged interest rate exposure has cancelled out any positive impact they have seen from asset performance.’
DEFINED BENEFIT PENSIONS
Staff enrolled to a defined benefit pension scheme are promised a certain level of guaranteed income in retirement.
Such schemes are becoming increasingly uncommon as employers look to run cheaper pension schemes.
Meanwhile, Tom McPhail, head of retirement policy at Hargreaves Lansdown, said: ‘The UK’s gold-plated pension system is starting to look tarnished. Deficits are soaring, employers are reneging on their promises and still more money is needed.
‘Companies are having to divert profits into schemes to make good on their promises, which means less investment capital to help businesses grow and less money available to invest in the pensions of younger workers.’
Debt or surplus? Eligible pension schemes in deficit and running at a surplus, according to the PPF
The demise of BHS has plunged the world of pensions into the spotlight, after it was revealed the stricken retailer has a pension deficit of around £571million.
BHS fell into administration in April this year, just 15 months after being sold by the retail tycoon for £1 to three-times bankrupt Dominic Chappell.