UK pension schemes are increasingly adopting or considering cashflow-driven financing strategies in order to combat negative cashflows, according to research.
Mercer’s latest European asset allocation survey found 42% of UK schemes are currently cashflow-negative – up from 37% in 2015 – and many more believe they will become so in the near future.
It revealed that among schemes currently cashflow positive, 44% thought they would become cashflow negative in less than five years, 34% between five and 10 years, 12% between 10 and 15 years and 11% in more than 15 years’ time.
Mercer said this would drive an increase in cashflow-driven approaches, such as income investing, whereby the asset portfolio is tailored to meet the projected liability cashflows while ensuring funding-level stability.
The report also noted on average smaller UK pension plans are more exposed to market volatility associated with the upcoming EU referendum because of their higher allocation to UK assets.
It found domestic markets occupy 30% of smaller plan equity portfolios versus 16% for larger plans, as well as lower levels of currency hedging (the average hedge ratio is 39% for smaller plans versus 45% for larger plans), and a less dynamic investment strategy (trigger-based hedging strategies are less commonly used).
It added although the impact of the referendum on capital markets remains unclear, the combination of these factors suggested the “average” smaller plan may be more exposed to volatility associated with the referendum.
Mercer principal Nathan Baker explained: “Although it’s not possible to know now with any certainty how the referendum will impact portfolios, a typical small UK plan is more UK-centric, more exposed to movements in sterling versus other currencies, and is managed in a less dynamic fashion. On balance, they would appear more exposed to any associated volatility, and less well positioned to take advantage of it.”
He added: “Many markets are suffering from reduced liquidity which creates volatility; investors should be alert to and set up to capitalise on opportunities that market volatility may create.”
Mercer’s European Asset Allocation Survey gathers investment information from nearly 1,100 institutional investors across 14 European countries, reflecting total assets of around €930bn.
