Pension schemes that have outsourced their investment decisions are being urged to revisit their arrangements with their fiduciary managers in light of the recent turmoil affecting the gilt market and the requirements contained in the Competition and Markets Authority's (CMA) investment consultancy and fiduciary management market order.

In its latest Investment Briefing report for October 2022, XPS Pensions Group has outlined a number of effects that UK government bond volatility has had on DB schemes, suggesting that they warrant a serious examination of how their fiduciary managers are performing and reporting back to trustees.

XPS says that it is also important to review agreements that were put in place with fiduciary managers due to the CMA Order. One of the order's instructions to trustees requires them to review a fiduciary manager's objectives every three years or "after any significant change in investment policy".

The consequences of the mini-budget induced gilt crisis include a reduction in hedging, an alteration in investment tactics and liquidity issues.

With significant intra-day movements to gilt yields, XPS says changes are being made by fiduciary managers to the level of hedging in place, while also widening the discretion to permit further changes. As a result, greater market volatility, combined with reduced hedging levels have introduced schemes to greater risks.

At the same time, fiduciary managers are seeking more flexibility within their investment decision guidelines as they look to lock-in any potential gains or get back on track. This means schemes' allocation strategies and journey plans will need revisiting.

In addition, as there is now a greater need for liquidity within all LDI portfolios, there is less scope for money to be held in non-LDI assets. This may result in a scheme holding more illiquid assets than is optimal in the short to medium term, particularly as liquid assets have recently been depleted both at fund and/or underlying fund levels.

"Decisions in the past few weeks have needed to be made quickly," wrote the report's authors. "Now the urgency has passed, we think it is necessary to revisit your current financial position, how your portfolio is constructed and ensure that you get the best out of your fiduciary manager looking ahead."

XPS Pensions Group's head of FM oversight, André Kerr, said that there is an assumption that pension schemes that outsource their investment arrangements to a fiduciary manager will have been better placed to manage the current gilts crisis than those schemes using a traditional investment approach. In reality, however, he noted, all pension schemes have been impacted — with the negative effects likely to last for some time to come.

“Our report has found that fiduciary managers have had to make changes to their clients’ investment portfolios and risk profile in response to recent market volatility, and in some cases significant changes," he commented. "In that context, it’s crucial that trustees understand what action their FM has taken and to ensure that the approach that managers are taking aligns fully with the scheme’s goals and risk tolerances.”

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