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On the radar

A perfect storm

A perfect storm

Charlotte Moore
Tuesday 23rd January 2018

The impact that lower economic growth forecasts and the implications of Brexit could have on employer covenants is making some trustees nervous. Charlotte Moore looks at what steps they can take to shore up their defences.

“Trustees are right to be worried as many schemes have a one in 10 chance of default over a decade.”

Richard Butcher, Pitmans Trustees

Almost a quarter of trustees are concerned by employer covenant risk, according to a recent survey by Pitmans Trustees. The survey also put the investment-implications of Brexit as the third-highest non-scheme related risk among those appointed to protect the interests of savers and pensioners.

These concerns reflect trustees’ nervousness about the outlook for the economy under Brexit. Trustees are right to be worried: the average scheme sponsor has a BB+ credit rating, according to Legal & General Investment Management.

Not only is a significant minority of the trustees surveyed perturbed about employer covenant risk but those concerns have rapidly peaked. In the previous quarter, only 14% were worried about covenant risk: now it is 24% of trustees.

Pitmans Trustees managing director Richard Butcher says: “Trustees are right to be worried as many schemes have a one in 10 chance of default over a decade.”

According to Moody’s, a BB+ rated company has a roughly 1:10 chance of default over ten years. Only around 6% of companies have a credit rating better than 1:10.

“Thus a vast majority of sponsors will default on a 10-year recovery plan and only slightly fewer on an eight-year plan,” Butcher adds.

The average length of a recovery plan for a fund to match its technical provisions is eight years.

Butcher says. “This implies that the majority of sponsors to pension schemes will default on their last payment.” And that’s just to get to technical provisions – this is not full security.


The reaction of financial markets to Brexit has already changed the shape of the relationship of the scheme and covenant sponsor.

Willis Towers Watson senior consultant Adrian Bourne says: “Trustees had put plans in place to decrease the size of pension liabilities but Brexit scuppered some of these plans.”

As economic prospects weakened and interest-rate rises became less likely, government bonds attracted investors and yields fell sharply.

Aon Hewitt head of asset allocation Tapan Datta says: “This has been partially compensated by the fall in sterling and the resultant strong performance in international equities.”

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