A Death Knell for UK Pensions? | Chief Investment Officer

Corporate pensions for the largest companies in the UK face doubling costs in the next three years, according to consultant firm JLT Employee Benefits.

Current annual costs for FTSE 100 company pension funds are roughly £7 billion ($9 billion), JLT said, but this could double to £14 billion by 2019 as plan sponsors struggle to fill widening deficits.

The total deficit for FTSE 100 pensions was estimated at £87 billion at the end of March this year, the consultant said. In addition, 16 companies disclosed liabilities of more than £10 billion.

Costs to employers have already doubled during the last three-year actuarial valuation cycle, from 26% of total employment costs to 52%, JLT said. “Companies that are due to have an actuarial valuation in 2016-17 are particularly at risk of facing demands in the near future for increased contributions to cover higher employee service costs and higher deficits,” the consultant added.

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These spiralling costs are likely to lead to defined benefit (DB) funds closing to all employees if not addressed, JLT said.

Charles Cowling, director at JLT Employee Benefits, said it was “difficult to conceive” that higher costs would not lead to “drastic action… particularly as large pension deficits can have a detrimental impact on the company’s financial health and, therefore, its share price and dividend payments.”

“If a company is in a really bad shape, a large pension deficit could tip it into insolvency,” Cowling added. “We therefore expect employers to be reviewing any remaining ongoing DB pension provision and monitoring their DB pension deficits very closely.”

UK funds have been hit hard by the fallout from the EU referendum in June. Plummeting government bond yields and the Bank of England’s decision to cut the base interest rate to 0.25% have pushed up liabilities and sent aggregate deficits to record levels.

Of all hedge fund investors, funds-of-funds and public pensions have had the most success in securing preferential terms, according to a new study.

Analysis of hedge fund side letters—negotiated agreements that override terms applicable to other investors—showed that hedge funds most often entered into these preferential contracts with funds-of-funds, which made up 30.5% of all side-letter investors.

In close second were government plans, which made up 27.1%, according to law firm Seward & Kissel.

Endowments, meanwhile, made up 15.2% of side letter investors, while family offices and high net worth individuals represented 13.5%.

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The fewest side letters went to corporate pensions (8.5%) and non-profit institutions (5%).

These side letters most often featured ‘most favored nation’ clauses, which appeared in 56% of all side letters included in the study. In addition, 40% of preferential terms agreements offered investors fee discounts.

Wealthy individuals and family offices secured fee discounts in a majority of side letters, with 63% of these agreements offering cheaper terms. Corporate pensions, on the other hand, only negotiated lower fees in 20% of their side letters—and non-profits were not given any discounts at all.

Of investors who did secure cheaper terms, one third had to agree to a longer-lockup in exchange. Only half received discounts on both management fees and performance fees.

Other preferential terms focused on reporting obligations, preferred liquidity, and capacity rights, or the ability to increase investment capital at preferential terms.

Of these, reporting obligations were most prevalent, featured in 21.6% of side letters. These terms focused on improving transparency, either requiring reports on portfolio winners and losers or portfolio exposures, or mandating complete portfolio transparency—at request or on regular basis.