‘Moving parts’ a challenge for calculating pension scheme deficit

Moving partsPension schemes that have hedged their inflation risk to a significant extent will have fared relatively better in August as expectations for long-term inflation rose.

During August, deficits for the FTSE350 companies have increased by £13 billion (€15.5 billion) to £98 billion as asset values fell and expectation for long-term inflation rose.

Ali Tayyebi, head of defined benefit (DB) risk in the UK at consultancy Mercer, says this emphasizes the number of “moving parts” that affect pension scheme deficits.

Mercer, which compiled the data, says the £98 billion deficit corresponds to a funding ratio of assets over liabilities of 85%. This compares to a deficit figure of £85 billion at the end of July, a funding ratio of 87%.

Mercer says asset values fell by £9 billion from £557 billion in July to £548 billion in August. Over the same period, liability values increased by £4 billion to £646 billion. 

During August, the FTSE 100 index lost most of the gains it had made during July, effectively reducing pension scheme values, Mercer says.

Liability values, meanwhile, increased on the back of heightened long-term inflation expectations. This, however, was partially offset by a small increase in corporate bond yields.

“This emphasizes the number of moving parts which affects the calculation of UK pension scheme deficits,” Tayyebi says, adding that there are so many domestic and global economic factors affecting the outlook for equity values, corporate bond yields and inflation. 

He adds: “Pension schemes which have already concluded that this is not desirable and, for example, have already hedged their inflation risk to a significant extent will have fared relatively better over the month.”

Mercer highlights the case of the record £1.5 billion buyout of the EMI Group Pension Fund, which completed in July, and on the £440 million buyout of the InterContinental Hotels UK Pension Plan, completed during August, for which it acted as lead adviser.

The data on funding deficits relates to about 50% of all UK pension scheme liabilities and analyses pension deficits calculated using the approach companies have to adopt for their corporate accounts.

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