The defined benefit (DB) pensions sector is likely to be well positioned to handle the recent increase in gilt yields, according to LCP, after the 10-year gilt yield rose to its highest level since 2008.

The 10-year gilt yield rose to above 5 per cent for the first time in 18 years on Monday (23 March), materially higher than during the 2022 gilts crisis sparked by then-Prime Minister, Liz Truss’s, ‘mini Budget’

The two-year gilt yield also rose, up to 4.7 per cent, as markets priced in anticipated interest rate increases by the Bank of England this year.

However, DB schemes are likely to be in a stronger position to handle the latest market shift amid higher hedge ratios.

“For many DB pension schemes, changes in gilt yields aren’t the big events they used to be,” said LCP investment team partner, David Wrigley.

“Most schemes have high hedge ratios, with changes in asset and liability values broadly offsetting each other.

“Hedges are now very well-capitalised in the main, with schemes and liability-driven investment (LDI) funds able to withstand much higher levels of gilt market volatility.”

If the increase in gilt yields was sustained or grew further, Wrigley expected some asset rebalancing into LDI to take place, to top up prudent buffers.

He added that schemes will need to be careful not to be forced sellers of assets that may have recently experience a dip in price, and said that schemes with a well-diversified pool of assets to draw on were likely to fare better.

“The impact for many schemes of rising gilt yields will be muted by rising inflation expectations, with pension schemes grateful for their high inflation-hedge ratios,” Wrigley continued.

“Regardless of how the conflict unfolds in the coming days and weeks, the permanent damage to infrastructure will likely have inflationary effects and likely cause increases to inflation-linked pension payments.

“However, with some of these inflationary increases capped, trustees of DB schemes will be reassessing their inflation hedges to ensure they remain fit for purpose in a higher inflationary environment.

“The likely market reaction will be for some schemes to reduce some of their inflation hedges, helping to keep a lid on the cost of hedging inflation and avoiding any spiral effects.”

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