UK defined benefit schemes have recovered to pre-Covid levels but the ongoing recession could present future funding threats, according to the latest Legal & General Investment Management research.
LGIM’s DB health tracker found the average DB scheme can expect to pay 95.5 per cent of accrued pension benefits, as of 30 September 2020.
This compares to the pre-Covid level of 96.5 per cent from 31 December 2019 and is a marked improvement on the 91.4 per cent figure recorded at the end of March, as global stock markets fell and the UK went into the first national lockdown.
The latest quarterly analysis, which takes into account the risk that a sponsor might default and the impact that would have on scheme members, means that 4.5 per cent of accrued pension benefits would not be paid on average across their scenarios in Q3 2020, compared to 6.5 per cent in June 2020.
The most significant market movements behind the improvement include strong performance of growth assets and a rise in nominal interest rates, whereas inflation expectations remained broadly the same.
LGIM head of solutions research John Southall, says: “It’s great to see things improving once again this quarter.
“As previously, however, we would caveat that these higher ratios may understate the negative impact of Covid since the start of the year, due to a weakening of covenants that many schemes will have endured. The extent of covenant deterioration is not yet clear. Our calculations are based on a typical sponsor rating of around BB. If this were to fall to B, for example, we would anticipate an Expected Proportion of Benefits Met (EPBM) value around 2 per cent lower, wiping out the gain seen this quarter.”
LGIM head of rates and inflation strategy Christopher Jeffery adds: “Since March, global risk assets and nominal yields have been driven higher by anticipation of an economic recovery as the world learns to cope with Covid.
“In recent weeks, those trends have been given an additional fillip by the US election and news of a breakthrough in the search for a vaccine. As a consequence, the gilt market has downgraded the likelihood of negative interest rates from the Bank of England in 2021 and beyond. RPI reform is now around the corner, with an announcement pending in late November, which constitutes the next major event risk for DB schemes to navigate.”
The post Funding of DB schemes improves, but challenges remain ahead: LGIM appeared first on Corporate Adviser.