Covid-19 impact 'evident' in scheme valuation activity

The average funding levels for tranche 15 schemes with valuation dates between September 2019 and June 2020 were higher than for any previous tranche, although the impact of Covid-19 on schemes was "evident", research from Aon has found.

The firm's report, Pension scheme funding - an analysis of complete valuations, revealed that the average funding level for valuations in tranche 15 was 93 per cent, with 37 per cent fully funded on a technical provisions basis.

However, it clarified that these figures “mask significant differences between the funding positions of schemes at valuation dates before and after the onset of the Covid-19 pandemic, because of the considerable impact this had on financial markets".

The pandemic also impacted scheme’s recovery periods as, for schemes in deficit, the average recovery period of 5.1 years was 0.7 years shorter than three years ago, when many schemes’ previous valuations were undertaken.

“This is a smaller reduction than might have been expected over three years, and reflects the fact that many tranche 15 valuations had effective dates during the onset of the Covid-19 pandemic,” Aon stated.

Looking ahead for valuations in tranche 16, those with a valuation date between September 2020 and 2021, funding positions have improved "significantly" since the initial financial impact of the pandemic in March 2020, with most returning to pre-pandemic levels.

The number of schemes using a long-term funding target (LTFT), in addition to technical provisions, was also higher amongst tranche 15 schemes than tranche 14 schemes, those with a valuation date from September 2018 to September 2019, at 67 per cent compared to 64 per cent.

Of these, 80 per cent were on a measure of self-sufficiency, while the other 20 per cent were on a buyout basis.

Furthermore, of those funds with a long-term objective, 77 per cent had a journey plan that aims to achieve the target by the time the scheme is significantly mature.

In terms of timescale, most schemes (55 per cent) with LTFTs were expecting to reach their target in under 10 years, whilst 44 per cent expected this to take longer than 10 years, but no more than 15, with a large majority (91 per cent) planning to rely on asset outperformance, at least in part, to help reach their target.

The report also showed that over three quarters (78 per cent) of schemes had taken an integrated approach to risk management that included consideration of downside scenarios and contingency planning,

This represents an increase on previous tranches, with 67 per cent of trustees taking an integrated approach amongst tranche 12 schemes, those with a valuation date between September 2016 and 2017, while only 11 per cent of tranche 15 schemes have not yet considered integrated risk management.

It revealed that 81 per cent of trustees used a third party or specialist assessment of employer covenant, in line with The Pensions Regulator’s call for an integrated approach, with only 5 per cent using no information beyond that which was publicly available.

In addition to this, 74 per cent of schemes hedged at least 70 per cent of their interest rate risk, and the same percentage hedged at least 70 per cent of their inflation risk.

Average discount rates in excess of gilt yields were also found to be similar to those used last year and those of three years ago – although gilt yields had reduced, significantly, over both period.

Additionally, the average difference between Retail Price Index (RPI) and Consumer Price Index assumptions fell to 0.64 per cent p.a., reflecting the consultation on the future of RPI, which was undertaken during this period.

Nearly half (41 per cent) of schemes also confirmed that they either carried out a data cleaning exercise prior to their valuation, while a further 21 per cent planned to carry out a data cleaning exercise.

“These measures allow for more accurate calculations of technical provisions. They also allow for the provision of the more accurate and complete data required for trustee transactions such as pensioner buy-ins, and for liability management exercises such as pension increase exchange exercises,” Aon noted.

“Data cleaning exercises, and wider data collection exercises, are also likely to be required in preparation for guaranteed minimum pension (GMP) equalisation projects.”

The report also found that, in tranche 15, where deficit recovery contributions were being paid under the recovery plan, 48 per cent of employers were not currently paying dividends, while 30 per cent were paying dividends of less than twice the level of the deficit recovery contributions agreed, and 22 per cent were paying dividends above this level.

This follows concerns that increased powers for The Pensions Regulator could cause the dividend bubble to "burst" in a matter of weeks, with the pace of recovery in dividends expected to slow as a result of the new powers.

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