UK regulatory focus on funding shortfalls 'increases risk'

UK - Pension schemes in the UK are adopting unnecessary risk in an effort to solve funding shortfalls swiftly, Hymans Robertson has warned.

The consultancy also warned that proposed changes to IAS19 would remove the incentive to invest in growth assets, making risk management a more important issue for companies.

As a result of solid returns and a fall in scheme deficits, UK listed companies will look for opportunities to lock-in returns and de-risk, according to Clive Fortes, head of corporate consulting at Hymans Robertson.

"The reduction in pension deficits in 2010 is good news for both schemes and their sponsors," he said.

"However, the regulatory focus on the speed with which deficits are reduced is causing schemes to adopt unnecessary risks and is damaging for pension schemes and sponsors. 

"A more sensible approach would be to reduce deficits over potentially extended periods, but with a much lower risk profile."

The consultancy estimated that scheme deficits across the FTSE 350 fell by £43bn, with almost 60% of the drop due to pension funds adopting the consumer price index (CPI), rather than the retail price index, as the tool for indexation.

John Ball, head of UK pensions at Towers Watson, said the switch would affect companies differently, depending on the makeup of their membership, as well as the scale of legacy pension promises.

He warned that mostly scheme sponsors would stand to gain from the CPI-induced benefit reduction, with the average pension falling by 2.5%.

"The government's policy change has transferred wealth from pension scheme members to sponsoring employers, who are busy quantifying these windfalls on their balance sheets," he said.

"Because statutory increases now follow an index that usually makes inflation look smaller, the balance-sheet gain from stopping future benefit accrual can be bigger than before. 

"This is unlikely to be the main driver of plan design changes, but, for some companies, it could be another reason to pull down the shutters on their final salary scheme."