Over the next decade, the majority of private sector DB pension schemes were closed to new members and defined contribution schemes introduced – here your employer makes contributions into your pension pot, but assumes no long-term responsibility for your pension payments.
The change in risk appetite
Secondly, when topping up existing DB schemes, finance directors seemed to make it clear that they preferred that this money was invested ‘safely’. This was generally interpreted by actuaries as their wanting to buy more gilts and fewer equities.
Most famously, in 2001, the very large Boots pension scheme sold all their equities and invested 100 per cent in bonds. As this was announced against the background of a falling equity market – the so-called ‘TMT bubble’ had burst in 2001 – many other schemes followed suit.
The compound return on UK gilts since 2001 roughly doubles your money in nominal terms, which is just ahead of inflation, so the actuaries will feel justified. However, global equities over the same period have risen in value by two and a half times that amount, so the Boots pensioners may not feel so well served.
The regulations that reduced investment in equities by DB schemes could be reversed or reviewed by the new Labour government. In the case of local authority pension schemes, most public sector pension schemes are still open to new employees and their sponsors so these funds could easily change their asset allocation.
However, for the closed DB schemes managed by Aviva, Phoenix and Legal & General, these funds are often in complex liability-driven structures. You will recall that, during the brief period Kwasi Kwarteng was chancellor, DB pension schemes were the root of the turmoil in the gilt market.
Changes in interest rates expose the lack of flexibility of the underlying structures, their use of gearing and derivatives. It is these same funds that are now arguing that they should invest 5 per cent in private equity – an illiquid asset class. That can hardly reduce risk in the financial system.
Lastly, regarding the insurance industry, Lloyds of London and our house and motor insurers have been arguing that they would like to own more equities, but to date arguments with the Prudential Regulation Authority over Solvency II regulations have not been resolved.
Why have UK equity allocations fallen even faster than overall equity allocations?
On to the second item: why UK pensions reduced their allocation to the UK within their reduced allocation to equities. Here there seem to be two factors.
The woeful performance of UK equities compared to other global equities seems to be the greatest factor; £100 invested in the FTSE 100 index 25 years ago would now be worth £310, but in the MSCI All World it would be worth £537.
