Some of Europe’s best funded pension funds have been pushed towards long-term deficit as their national regulator has changed the measure of coverage ratios.
The Dutch National Bank (DNB) announced Tuesday that it would move the ultimate forward rate (UFR), which is used by the country’s pension funds as a discount rate for liabilities, from 4.2% to 3.3%. The new measure was put into effect immediately.
“Given the past decade’s history of interest rates, this new UFR method will put downward pressure on coverage ratios for the next 10 years.” —Bernard Walschots, RabobankThe DNB said this number was “more realistic” but despite having signalled its intentions for some time—although not with such specific detail—the move was met with criticism from industry figures.
The Dutch Pension Federation said it was “very disappointed” with the UFR decision, saying it would “lead to higher premiums, a decrease in coverage ratios, and put pressure on the accrual rates”.
“Calculations by the Pension Federation show [the move] will increase the cost-effective contribution to pension funds by an average of 5 percentage points,” the federation said in a statement. “For the average funding ratio of pension funds, the introduction of this new UFR means a gradual reduction of up to 10 to 15 percentage points in 2020 compared to the coverage [they had at] the end of May 2015, depending on the extent to which pension funds have hedged their interest rate risk.”
The federation said the problem would be more acute for pension funds with a younger membership as they have to take account of longer maturities.
Additionally, the organisation questioned the rationale of the DNB, given the backdrop of the ongoing Eurozone crisis, the region’s persistent low interest rates, and recent quantitative easing package.
“The Pension Federation finds it illogical that DNB, precisely at this time, [chooses a method] which focuses more on the market,” the federation said.
PFZW, the country’s second largest pension, announced yesterday that it had already submitted a new recovery plan to the DNB at the start of the month as its previous one had “expired”. The fund set out a range of measures it would have to undertake in its efforts to bring its coverage ratio up, but warned it would probably not reach 110% by the end of the year.
In a column for CIO last year, Rabobank Pension CIO Bernard Walschots outlined the impact such a move would have on funds.
“From 2015, the UFR will be a 120-month moving average of the one-year forward rate of a maturity of 59 years, instead of the fixed rate of 4.2%. In practice this means that liabilities will be calculated using lower interest rates,” said Walschots. “Given the past decade’s history of interest rates, this new UFR method will put downward pressure on coverage ratios for the next 10 years.”
Walschots said this would, in turn, put pressure on the perception of the Netherlands’ pension system as being safe and sustainable.
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