Company Pensions Are Back In The Black!

Published in Investing on 14 April 2010

After a strong year for shares, company pension schemes are back in surplus.

Here's some rare good news for members of private-sector final-salary pension schemes.

The gold standard of pensions

Final-salary pension schemes, long regarded as the 'gold standard' of pension funds, pay pensions based on length of service and salary at or close to retirement. Because of the income guarantees they provide to members, these defined-benefit plans have become increasingly more expensive to run.

Hence, over the past decade, the majority of private-sector final-salary schemes have been closed to new members, with some shutting down entirely. What's more, as pension deficits (the gap between assets and liabilities) have grown, insolvent schemes have ended up in the embrace of the Pension Protection Fund (PPF).

Great news for members

However, this week saw some good news from the PPF, which since July 2007 has produced a funding position for defined-benefit schemes on the second Tuesday of each month. Within the 7,342 schemes in its eligible universe (known as the PPF 7800 Index), the PPF has reported the first collective surplus since June 2008.

In total, the schemes monitored by the Pension Protection Fund recorded a surplus of £0.3 billion in March, versus a deficit of £15 billion in February. Here's how the deficit has improved over the past year -- a period during which the FTSE 100 has risen by roughly 45%:

The PPF 7800 Index of pension funds

Mar 2010915.4915.00.3
Feb 2010880.8895.9-15.1
Mar 2009748.2990.2242.0

* Differences in the last column are due to rounding

Just as it's said that a week is a long time in politics, a year is a long time in financial markets. 

The risk rally which began in March 2009 has boosted share prices and increased yields on government bonds. The PPF reports that a 7.5% rise in equity markets boosts pension assets by around 4.0%, plus a 0.3% rise in Gilt yields reduces scheme assets by 1% but reduces scheme liabilities by 6%.

As you can see, rising share prices and Gilt (UK government bond) yields have helped to boost pension-fund assets at a faster rate than their liabilities have grown. Also, changes in the calculation of future pension costs have reduced liabilities by about £70 billion over the past year.

Some believe Gilt yields will continue to rise in the next few years, as more and more Gilts are issued to finance our growing national debt. This means scheme liabilities could continue to fall.

But many schemes are still in deficit

While this is good news for those private-sector workers lucky enough to belong to final-salary schemes, there is still a long way to go. Despite their collective surplus, most schemes are still in deficit. 

Indeed, only 2,310 defined-benefit schemes (31.5%) are in surplus. What's more, the aggregate deficit for the remaining 5,032 schemes in deficit is £73 billion, although this is a huge improvement on their £253 billion total deficit recorded in March 2009. 

Thus, there are still some very sickly -- and possibly insolvent -- occupational pension schemes out there.

Therefore, when looking at a company's books, make sure you establish the firm's pension situation. A large, underfunded final-salary pension scheme, whether closed or open, is sure to act as a drag on its sponsor's future profits. At the very least, a scheme with a large shortfall can expect to make major one-off and yearly top-ups in order to restore the scheme to profit over the coming decade.

Likewise, check a company's latest report and accounts to see whether the situation with its pension assets and liabilities has improved. In some cases, particularly pension funds with heavy exposure to equities, the fund is sure to be healthier than a year ago. This improvement may help to tip the value equation in favour of investing in some firms.

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2fast2foolish 14 Apr 2010 , 1:19pm

I understand the PPF itself which has the assets/liabilities of insolvent employers, is still underfunded i.e. from an insurer viewpoint it is insolvent.

There is only so much in contributions it can extract from solvent employers, thus it is operating like a big ponzi scheme requiring more employers to go bust in order to take their pension scheme assets to pay the pensions it owes.

CunningCliff 14 Apr 2010 , 1:31pm

Hi 2fast2foolish,

Also, don't forget the estimated £1 trillion black hole at the heart of public-sector defined-benefit pensions. In effect, these are insolvent and operate as a vast Ponzi scheme worth 2/3rds of the UK's GDP.



bimber 14 Apr 2010 , 2:58pm

I'm sure this is all Gordon's fault somehow. The Tories introduced a tax on pension fund surpluses in 1988, so this good news could be another source of income for them. Those tax cuts for the rich have got to be funded somehow.

blackbaron01 14 Apr 2010 , 4:06pm

Ah pensions awash with cash again eh? Not for long if Mr Brown stays around !!!!!

supasap 14 Apr 2010 , 4:44pm

cunning cliff ....1 trillion.... where do you get your figures from? pity no politicians (key beneficiaries of these pensions) would never have the balls to stop these

bimber 14 Apr 2010 , 4:50pm

blackbaron01, how much money did Brown remove from within pension funds and place in the Treasury? How much did Nigel Lawson?

Brown caused a lot of money not to be removed from the Treasury and placed within pension funds, but the closing of this subsidy could not stop pensions being awash with cash if that is the position they are already in. I think you need to justify your opinion.

BarrenFluffit 14 Apr 2010 , 9:17pm

"black hole at the heart of public-sector defined-benefit pensions". Pension funds exist to reduce the risks of bankrupcy for pensioners. As the govt can't go bust a fund makes little sense.

blackbaron01 16 Apr 2010 , 3:51pm

bimber. Thanks for your comments

Mr Lawson was a bit before my time but it has been about £5 billion a year for Mr Brown, and look at what has happened to private pensions since. Not so rosy now.

Also consider how private and public pensions compare. Public pensions per se are far more generous, as is working for the public sector comparing like for like away from the SE.

Whether the money is in the Treasury or private pensions, it is still the taxpayers' money. And if the Treasury is so clever with money then why does the UK have the third largest GDP debt ratio in the world, behind Greece and Iceland? Follow the argument about bankers to regulators and who set up the regulator framework and you come to the same answer; Mr Brown !!

bimber 17 Apr 2010 , 2:45pm

blackbaron01, it shouldn't need to be said, but money in private pensions is not taxpayer money! When the government taxes me to fund your private pension I get upset.

I wasn't making any claims about the fairness of any pension system or the success of any regulatory regime, I was just drawing your attention to some facts about "tax raids" on pensions, as the media like to distort these issues to make certain politicians look worse than they really are.

The £5bn figure you quote is what has remained as taxpayers' money and not been added to private pension funds by the government. This is described by the right-wing press as a "raid". I'd call it something else. Suppose the government had forced you to give me £5bn/year, and then they stopped forcing you to do that. If I was the Dail Mail, I'd say the government had raided me to the tune of £5bn/year. This is what happened, except that it was you and many others giving money to my and others' pensions, and the act of stopping this transfer of wealth was successfully spun as a "raid on pensions" by the anti-Labour media. Had the government taken money from pensions they'd have had good reason to call it a raid. If you're concerned about misuse of taxpayer funds then you'd thank Brown for doing what he did. Brown did not take money from pensions, Lawson did.

Lawson is slightly before my time too, so I don't know if his raid was accurately described as a raid. Somehow, I doubt it. We never hear about Geoffrey Howe costing the country billions by not selling gold at its peak in 1981, do we? Anyhow, his policy meant that pensions entered a decade-long bear market with less of a surplus than they otherwise would have had. The result is well known. Whether Brown could have prevented the bear market, which occurred in most if not all Western stock markets, or could have implemented a successful regulatory regime (unlike any other country's) without causing the city to lose business and the press to lose their rag, is something we can only guess at. My guess is "No". Whether pension funds would be sufficiently funded if they made better investment decisions over the decade is well known, so if you want to place blame anywhere then look to the fund managers.

3rd largest debt ratio?
Not in the OECD's 2011 forecast or the CIA's 2009 calculation.

UK private debt is much worse, so if you want to use debt ratios to paint a picture of the government as wasteful stewards of our money then you're on a loser, especially considering a big chunk of recent government debt and QE was incurred to bail out private and corporate debtors. Without the bailouts, the economy might have gone into a tailspin, GDP would have collapsed and the debt/GDP ratio would be much higher, even with no extra debt being taken on.

"Individuals owe more than what the whole country produces in a year"

bimber 17 Apr 2010 , 2:49pm

Woops, gold peak was 1980.

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