Is the Pressure to Buyout Putting Members' Benefits at Risk?

(October 15, 2013) — Concerns are rising about a controversial piece of pension legislation which is leading to undue pressure being put on actuaries to sign off on compulsory pension increase exchanges (PIEs).

PIEs started to gain traction in 2009 as a way of simplifying benefits. They work by replacing the existing pension arrangements, including any underpins for inflation increases, with an alternative arrangement.

The exercises were particularly popular with employers who had acquired multiple pension schemes with different benefits structures as a way of simplifying their benefits package across the whole of the work force.

A secondary benefit was to make it easier for insurers to price their pension book for a buyout or a buy-in, and it is this particular advantage that employers are now pushing actuaries to consider compulsory PIEs for.

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Several actuaries from different companies have told aiCIO they are concerned about how Section 67 of the Pensions Act is being used by employers. Under the legislation, employers can make PIEs compulsory for their pension beneficiaries, provided an actuary signs off to say that the deal is “fair value”.

In 2010, the Department for Work and Pensions (DWP) after pensions minister Steve Webb announced he would be cracking down on cash-enhanced transfer valuations and other exercises to encourage members to leave their existing pension arrangement for another workplace pension. PIEs also came under the industry spotlight.

Then, as now, there are concerns about whether the member is getting the best deal. The biggest problem revolves around how to calculate what a “fair value” deal is, according to several actuaries aiCIO spoke to.

There are no standardised calculations for defining a fair value deal, as Hugh Nolan, a regional director at JLT Employee Benefits, explained.

“It’s difficult to standardise “fair value” as there are several options for calculating it. Some look at the buyout costs, others look at the lowest common denominator or transfer values without any guarantees, but there’s little consensus between actuaries,” he said.

“There is an accepted wisdom in the Incentive Code that says you should use the transfer value basis, and that as long as it’s more than 100% of the scheme value you don’t need to offer financial advice.”

Richard Murphy, partner at actuary LCP, told aiCIO he had been involved with a compulsory PIE, although he stressed he did so without undue pressure from his client employer.

In that instance, the trustees and the company sought to simplify pension increases across the board. It wasn’t about saving the employer any money, but about preparing the pension scheme for a buyout.

“I can see how people would be put under pressure from sponsors,” he said. “The key thing for the client is it has to be a ‘fair value’ PIE for the actuary to sign off on it.

“With some schemes a compulsory PIE can be helpful, for example, where there have been takeovers or acquisitions, and there are underpins on individual members’ benefits, some of which have underpins on underpins—those underpins can make it difficult to move towards a buyout.”

In Murphy’s case, the trustees found it difficult to agree to a compulsory PIE, so they decided to give their members the option to convert back to the old system, which some of them did.

There is another example where compulsory PIEs could be an effective tool, Murphy continued: guaranteed minimum pensions (GMP) equalisation.

Legislation to be introduced next year will require pension funds to equalise any unfair improvements members may receive to their benefits derived from their sex.

Administratively, updating pension funds to reflect this change will be extremely challenging. Murphy believes the simpler answer would be for compulsory PIEs to be adopted, and for DWP to publicly support their use for this purpose.

“I understand there is a lot going on in the background at DWP, particularly as it hadn’t realised that to convert GMPs was so painful,” he said.

“There is a stigma around PIEs, although now there is a code of practice with a path people can go through which gives a choice over whether they keep existing benefits or choose the PIE.”

But there would still need to be something done to deal with any undue pressure from the employer, Murphy concluded, as well as more definite terms on how to calculate “fair value”.

Patrick Bloomfield, partner at Hymans Robertson, also warned that no matter how well-intentioned compulsory PIEs and Section 67 as a method of simplifying benefits may be, they would be judged in hindsight.

“Offsetting GMP equalisation with compulsory PIEs and Section 67 carries substantial risks that two wrongs won’t make a right for members,” he warned.

“In my experience, trustees want to comply with the law and sponsors want to deal with the funding consequences with as little cost and interruption as possible. Nobody is happy about the impending mess of GMP equalisation, but we need to find ways of dealing with it as pragmatically and cost effectively as possible.”

In response to an aiCIO request, DWP said that it was worth remembering that for PIEs, only non-statutory indexation can be exchanged for a higher starting pension.

It added that it would not be appropriate for DWP to prescribe further rules on actuarial equivalence or fair value as “it is for the scheme sponsor to agree with the trustees, supported as necessary by the actuary”.

The spokesman added: “DWP is working with stakeholders to develop GMP conversion guidance, including guidance in respect of equalisation for the effect of the GMP. The issues being considered are complex, and we continue to work towards a resolution.”

(October 15, 2013) — Banks and pension funds are investing $314 billion in companies that produce, maintain, and modernise the nuclear weapons of France, India, the UK, and US, according to a report from the Netherlands.

The Don’t Bank on the Bomb report, produced by peace movement IKV Pax Christi, the International Campaign to Abolish Nuclear Weapons, and economic consultancy Profundo, has produced a list of the 298 investors that invest in these companies, labelling them as members of a “Hall of Shame”.

Among those investors are some of the world’s biggest pension funds, including Ontario Teachers’ Pension Plan and the Netherlands’ ABP and PFZW. More than 200 asset managers are also on this list.

A spokesman for ABP told aiCIO that it does not invest in companies which are involved in the manufacture of landmines, cluster bombs, chemical, or biological weapons, or nuclear weapons made in violation of the Non-Proliferation Treaty. ABP also does not invest in government bonds by countries subject to an arms embargo by the UN Security Council.

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However, companies that manufacture nuclear weapons or parts of those—such as Boeing which is a producer of aircrafts but is also involved with the production of nuclear weapons—in accordance with the Non-Proliferation Treaty, are not excluded by ABP.

“This corresponds with the position of the Dutch government on nuclear weapons. ABP uses Dutch and international law to decide in what it can and in what it cannot invest,” the spokesman said. “ABP closely monitors nuclear disarmament developments in Dutch and international politics. If the Dutch government changes its position, ABP will reconsider its policy.”

PFZW and Ontario Teachers could not be reached for comment at the time of writing.

The 27 producers of nuclear weapon maintainers, producers, or modernisers are predominantly from the US, and include big name brands such as BAE, Babcock International, Boeing, Lockheed Martin, Serco, and EADS.

Among fund managers, the biggest investors in those 27 companies in the US are State Street ($20.4 billion), Capital Group of Companies ($19.5 billion), and Blackrock ($19.2 billion).

In Europe, the biggest investors are: Royal Bank of Scotland, which invests $5.6 billion; BNP Paribas which invests $5.4 billion; and Deutsche Bank which invests $4.8 billion.

The report also named 12 investors in its “Hall of Fame”. The accolade was awarded to those investors that publish their policy and/or a summary of it; exclude investments in nuclear weapon companies; and those that have an “all-in” comprehensive scope which allowed for no exceptions for any types of nuclear weapon companies, or any activities by said companies.

There were 12 pension funds in that group, including the Luxembourg-based Fonds de Compensation, the New Zealand Superannuation Fund, the Dutch Philips Pension Fund, a Dutch railway pension fund (Spoorwegpensioenfonds), and Sweden’s local authority pension fund the KPA.

In response to its placement, the Philips Pension Fund said in a statement that while it had a fiduciary duty to its members, it also had a duty to its participants to align with the integration of environmental, social and governance issues in its investment policy.

The Don’t Bank on the Bomb report noted that divestment from the 27 listed companies had increased in the past 10 years, and argued that exclusions by financial institutions had a stigmatising effect and could “convince directors to decide to reduce reliance on nuclear weapons contracts and expand into other areas”.

The authors claim their report could have a lasting impact on the nuclear weapon industry. Last year’s report apparently contributed to a revised Swiss War Materials Act entering into force in February this year, and financing nuclear producers is now illegal in Switzerland. Implementation is currently being discussed with the Swiss Bankers Association.

The full report can be found here.