Recent market turbulence could be a “catalyst for open discussion” within the industry about whether improvements can be made to schemes’ risk management and investment approaches, the Institute and Faculty of Actuaries (IFoA) has said.

The IFoA suggested that these discussions will likely be primarily in relation to governance and amount of leverage used, rather than moving away from liability driven investment (LDI).

The institute also stated that recent volatility in the gilt markets did not materially impact the ability of defined benefit (DB) pension schemes to meet their obligations to members.

This comes after former-Chancellor Kwasi Kwarteng’s mini-Budget prompted a “significant” increase in gilt yields, which saw UK 10-year gilt yields increase to over 4 per cent.

The IFoA explained that the short-term challenge was around operations and liquidity for collateral rather than any risk to members’ pensions, stating that the rising interest rates mean that many schemes are “better funded and closer to being able to secure benefits with an insurance company” now than before the increase in gilt yields.

Whilst the Bank of England previously stated that LDI funds have since built up enough capital to withstand “much larger increases in yields than before”, the IFoA acknowledged that the LDI approach has “come under intense scrutiny” as a result of the recent events.

However, the institute warned that without LDI strategies, schemes would be exposed to the very substantial risks increasing much faster than assets in times of falling assets in times of falling interest rates, requiring significant additional contributions from sponsors or resulting in members’ benefits potentially having to be cut back.

The IFoA stated: “Finding the right balance to manage risk within a pension scheme will always be a challenging task.

"However, we believe the market turbulence can be a catalyst for open discussion within the industry about whether adjustments or improvements can be made to schemes’ approaches to their risk management and investment strategies, while ensuring public confidence and trust is maintained for consumers.

"We expect these discussions to be primarily in relation to governance and amount of leverage used rather than necessarily moving away from LDI."

The institute also stated that they considered whether a risk alert on LDIs should be issued but concluded that it was not necessary at the time, although it will continue to keep the question under review.

However, given its systemic nature, the IFoA confirmed that it has asked the Joint Forum on Actuarial Regulation (JFAR), which comprises many of the regulators who have an interest in or are impacted by recent events in this area, to consider the subject.

Share Story: