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Half a trillion pounds of UK defined benefit pension scheme assets could be invested more freely if the pension scheme funding regime changes

The funding status for the 5,000-plus corporate defined benefit (DB) pension schemes in the UK continues to show that schemes are, on average, in a surplus position, according to the PwC Pension Funding Index.

Asset and liability values both increased over November, resulting in a surplus of £20bn based on schemes’ own ongoing funding measures. This means the aggregate funding position has shown a surplus for 10 months.

PwC’s Adjusted Funding Index shows a £200bn surplus. This incorporates strategic changes available for most pension funds, including a move away from low-yielding gilt investments to higher-return, income-generating assets, and a different approach for potential life expectancy changes.

Raj Mody, global head of pensions at PwC, said:

“Pension schemes remain well funded overall based on their own assessments for funding regulation purposes. But this is just one estimate at a point in time, and is closely tied to the value of gilts. This is not necessarily helpful for trustees and sponsors when they are making real-life decisions or working out their best strategy for delivering member benefits in an efficient and secure way. 

“The focus on gilts when calculating pension scheme liability values in the current regime causes all sorts of dysfunctions and inefficiencies in pension scheme management. It inevitably influences decision-making. Some trustees and sponsors over-invest in gilts to try and match how their liability values are assessed for funding regulation purposes, to reduce the chance of nasty surprises - what you measure is what you get.

“When the Pensions Regulator introduces its new approach for pension scheme funding assessments, hopefully it will take the opportunity to bring this more in line with the practical realities of what defined benefit schemes are required to do. This could focus on the cashflows a scheme has to pay out over time, rather than just a single-point gilts-based valuation. A different approach could free up pension schemes to invest more efficiently in a diverse range of income-generating assets.”

Over the last decade pension scheme investment in gilts has more than doubled, from 23% to 50% of their assets. That’s over £900bn of pension scheme assets currently invested in gilts. If the new funding regime is less focused on gilts, pension scheme asset portfolios could be more varied, with investment in gilts falling back to the levels a decade ago. This would release almost half a trillion pounds’ worth of assets to be invested elsewhere.

Laura Treece, pensions actuary at PwC, added:

“Changes in the way pension schemes are assessed could allow more of their assets to be invested in productive UK assets. These assets would help pension schemes ensure they are investing optimally and could generate the positive real returns needed to pay benefits for their members. It would also support long-term economic growth, innovation and opportunities for the UK economy. This in turn is good for the health of the pension scheme and its sponsor - it’s a virtuous circle. Many sectors and stakeholders are keen to remove some of the barriers to pension scheme investment. If the new funding regime allows schemes to focus more on their long-term cashflow requirements, they might have one obstacle out of the way when it comes to building an efficient portfolio.”

The PwC Pension Funding Index and PwC Adjusted Funding Index figures are as follows:

£ billions,

month end

Asset value

Current Funding Index

Adjusted Funding Index

Liability value

Surplus / Deficit

Funding ratio

Liability value

Surplus / Deficit

Funding ratio

November 2021

1,870

1,850

20

101%

1,670

200

112%

October 2021

1,820

1,790

30

102%

1,620

200

112%

September 2021

1,810

1,790

20

101%

1,620

190

112%

August 2021

1,850

1,830

20

101%

1,650

200

112%

July 2021

1,850

1,840

10

101%

1,660

190

111%

June 2021

1,810

1,760

50

103%

1,580

230

115%

May 2021

1,790

1,760

30

102%

1,580

210

113%

April 2021

1,800

1,770

30

102%

1,590

210

113%

March 2021

1,780

1,780

0

100%

1,600

180

111%

February 2021

1,770

1,770

0

100%

1,590

180

111%

January 2021

1,800

1,920

-120

94%

1,730

70

104%

December 2020

1,830

2,020

-190

91%

1,820

10

101%

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Alice Bowdery

Alice Bowdery

Manager, media relations, PwC United Kingdom

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