Evercore Pan Asset

Several UK companies are now large pension funds with businesses attached. The future of BA and the Royal Mail, to name but two, are dependent on how the pension fund issue is tackled.

We are living through another round of pension fund closure, wind up and reduction of benefits. Any company which still has a fund open to new members is thinking of stopping that. Companies with funds closed to new members are asking whether they should now close their funds to new contributions from existing members. Some companies are in negotiation with members over possible reductions to benefits. Most funds are having to take some action to cut deficits.

The total deficits of the main listed companies stand at £300 billion. Why have the deficits risen so much?

Part of the reason is the poor investment performance of many funds which we described in Friday’s comment. Heavy reliance on UK and US equities to match or beat wage inflation has left the funds with disappointing investment returns.

Part is the growing tendency for people to live longer, now reflected in more prudent actuarial tables, requiring more money to be put away to pay more pension to the same people.

Part results from some pessimism about future price and wage inflation rates, which will also boost the cost to schemes.

Members’ representatives and their advisers usually come up with one answer. The company should increase its contributions into the fund, and put in a lump sum to make up some of the shortfall. The company will argue back, saying that there is one thing more important than a well funded pension fund for members, and that is a solvent company capable of paying future contributions. A negotiation ensues to find a compromise which allows the company to meet all its commitments and tackle the deficit in the fund.

The one thing all Trustees, members and advisers should be able to agree on is that better investment returns would help most of all. A company needs to rely on its pension fund earning similar returns to the returns it can earn on its business, otherwise diverting more money to the pension plan is counter productive. If the advisers insist on putting ever more in government bonds yielding 3% or 4% they are unlikely to achieve the future returns needed. Far from making the pension fund safer, it makes it weaker, and forces the company to put more and more money into a low return.

There needs to be some commonsense around the table. Low yielding fixed income securities will not match growing pension liabilities. Nor have western equities at a time of stress in western economies done the job. It is going to take more intelligent asset allocation to get out of the deficit mire. The funds have to do some of the heavy lift. The companies need to keep some of their money to enhance their businesses. They cannot afford to fill all the pension black holes.