Nolan is, however, not convinced that there were necessarily mistakes made in these schemes, except when judged unfairly with the benefit of hindsight. He uses the example of the previous trustees of the BHS scheme investing heavily in growth assets such as equities. The asset class had a bad run and the trustees could not realistically have planned for the credit crunch or avoided the company failure to meet the Amazon challenge.
“Many schemes were de-risking their investment strategies at the time but many others still believed that equities would provide the best long-term returns,” he adds.
“Even in the Carillion scheme where the trustees could have pushed even harder for extra contributions instead of dividends, they would have risked triggering insolvency sooner by doing so and couldn’t reasonably have made a big dent in the buy-out deficit anyway. Very few schemes are fully funded on a buy-out basis but then very few need to be. It would be foolish to force UK plc to fund all schemes to a buy-out target just because of a few difficult cases.”
Lundbergh adds that there has been, for some time, a pensions funding situation where the covenant is thought to be strong and so schemes are persuaded by sponsors that they don’t need funding and should take investment risk instead.
“But just how strong is that same sponsor covenant when the general economy is doing poorly and the investment portfolio is not delivering returns in accordance with expectations?”
For Scott, the key mistake by employers over the years has been to press trustees to accept lower contributions and take investment risk at a level that supports those lower contributions. “This may put off the time when they have to make difficult decisions but, if the employer’s fortunes have declined in the meantime, the pension scheme may never be fully funded.”
Old problems; new laws
Some experts want to extend black box thinking to legislators and regulators, including Bob Scott who says: “The statute books are littered with well-meaning legislation that has, cumulatively, had a significantly negative impact on pension schemes and the employers who sponsor them.
“Look at the mess that contracting out of SERPS has made of any pension scheme with a guaranteed minimum pension,” he adds. “Think of how much more manageable defined benefit pension schemes would be if revaluation of deferred benefits and indexation of pensions in payment was not compulsory.
“Think of how much better funded DB pension schemes would be today if the government hadn’t decided in the 1980s that surpluses were “excessive” and introduced legislation that encouraged companies to promise improved benefits and take contribution holidays. And then there is the minimum funding requirement, which acted to drive down funding levels overall. But politicians don’t learn from these past mistakes, they just think they know best!”
Not surprisingly, trustees generally want the employer’s business to succeed and perhaps some trustees have been too willing in the past to accommodate employers’ wishes but what mistakes are being made by trustee boards today?
There is, of course, the curse of short-termism, where trustees let scaremongering over occasional corporate failures drive out reasonable risk taking that will damage members, employees and the economy, as one adviser warned portfolio institutional. Similarly, if a pension scheme pushes so hard that it kills off the business that supports it then everyone loses. But a simple improvement step that everyone can implement today is to discuss their challenges with trustees of other schemes. This is an efficient way of testing ideas and learning from peers.
Although each DB scheme is different, many of the challenges are the same across the schemes. A knee jerk reaction to Carillion and BHS will not help.
Easing some pressure on stressed schemes by effectively dialling down the intensity of the past legislation that made revaluation and indexation compulsory and making it easier for companies to fund pension promises securely would be useful, Scott says.
Perhaps the threat of prosecution for those putting retirement schemes at risk, as outlined in March’s DB white paper, could be the saviour of the hard pressed 6,000 remaining DB pension schemes.
