The combined deficit of the UK’s defined benefit (DB) pension schemes increased by almost £30bn in December, the Pension Protection Fund (PPF) has revealed.
The shortfall climbed to £223.9bn from £194.7bn at the end of November, according to the 7800 Index, which measures the deficits of the 5,794 schemes eligible for the PPF’s protection if an employer goes bust.
This follows three months of improved funding thanks to rising gilt yields, which culminated in liabilities shrinking by £81bn in November.
Higher gilt and equity prices in the final month of 2016 have been blamed. Indeed, the yield on 15-year gilts fell 17 basis points in December, while the return on index-linked government debt ended the month 13 basis points lower. The FTSE All-Share Index improved by 4.9% during the same period.
This pricing also hit the 1,455 schemes covered by the index that were in surplus at the end of 2016. The combined surplus among these schemes decreased to £66.4bn from November’s £68.9bn. Yet this is almost 40% higher than the £47.5bn recorded at the end of 2015.
Blackrock head of UK strategic clients, Andy Tunningley, described the aggregate funding fall in December as a “familiar story”. “Positive performance in equity markets was not enough to offset rising liability values given falling yields, and so overall funding levels worsened.
“For all the recent talk of rising yields, in 2016 UK real rates fell around 100 basis points, and remain significantly below pre-Brexit levels,” he added. “Looking ahead, we believe long-term structural forces will continue exerting downward pressure on real yields.”
The 4,339 schemes in deficit during December recorded an aggregate shortfall of £290.2bn, up from £263.6bn at the end of November. This saw the funding ratio – assets as a percentage of s179 liabilities – come under pressure forcing it down to 86.8% from 88.1% in November.
Despite a turbulent 2016 with the vote for Brexit and the US election result, the deficit recorded by the 7800 index was flat year-on-year at £223.9bn compared to £222.4bn at the end of 2015.
“For UK pension schemes, 2016 was like a marathon on a treadmill,” Tunningley said. “Energy was spent, pain incurred, but the finish line looked upsettingly similar to the starting post.
“The PPF 7800’s aggregate funding ratio yo-yoed all year – at the mercy of wildly fluctuating bond yields – and ended back near where it started,” he added. “One step forward, one step backward was the story of pension fund deficits in 2016. The only schemes that avoided playing deficit hopscotch were those that had implemented LDI.”
Tunningley warned that pension schemes could be hit by the market pricing of liabilities and by declining corporate health as the UK economy faces an uncertain future. “This is why we believe many schemes should be hedging more, and expect continued pension de-risking activity to drive appetite for UK LDI strategies in 2017.
“Risk management alone is not enough, however,” he added. “Deficits exist and need to be clawed back. Liability sympathetic secure income assets, that produce cashflows at higher yields than corporate bonds or gilts, allow pension schemes to both control funding level volatility and outperform their liabilities.
“Though no silver bullets exist to eradicate the pensions problem, we believe many pension funds can make more of these assets to improve their outcomes.”
PwC painted a beaker picture than the PPF. Its Skyval Index, which is based on the Skyval platform used by pension funds, revealed DB funds had a £560bn deficit at the end of 2016. This was £90bn higher than at the end of 2015, and expanded by £80bn the day after the EU referendum.
