Pension transfer values increase on back of gilt yield fall

According to Ron Walker, managing director of Clarion Wealth Planning, clients’ pensions, like their other assets, are invested in line with their risk profiles.

“The longest time horizons will generally hold an equity-heavy portfolio with significant international exposure, while those who are either already living on withdrawals or within sight of doing so, will have much smaller equity holdings, biased towards UK-based income-generating stocks.”

While Mr Walker sees no reason for this to change materially post-vote, he adds: “The main European Union exit risk we foresee relates to bonds - especially longer-dated gilts - which have looked overvalued for some time.

“We believe in the medium term there is a significant risk of a market correction, which could hit the capital of investors who believe they are holding low-risk assets.

Annuity rates may move further in response to changing interest rates. Danny Cox

“To counter this threat, we have been shifting clients’ sovereign bond allocations into shorter-duration bonds, which appear to be less fully valued.”

Gilts

Mr Walker’s concerns over gilts has not been unfounded.

Gilt yields fell on the announcement the bank base rate - at 0.5 per cent since March 2009 - might fall further over the coming months, perhaps even into negative territory.

This has pushed pension schemes further into deficit, as figures from the latest Pension Protection Fund 7800 index has shown.

Data from the PPF for July shows:

■ The aggregate deficit of the 5,945 schemes in the PPF 7800 index is estimated to have increased over the month to £383.6bn at the end of June 2016, from a deficit of £294.6bn at the end of May 2016.

■ The funding ratio worsened from 81.5 per cent to 78.0 per cent.

■ Total assets were £1,363.4bn and total liabilities were £1,747bn.

■ There were 4,995 schemes in deficit and 950 schemes in surplus.

For people invested in so-called gold-plated defined benefit (DB) pension schemes, this will come as a significant blow, as according to the PPF, even a 0.1 per cent reduction in gilt yields raises aggregate scheme liabilities by 2 per cent and raises aggregate scheme assets by 0.5 per cent.

UK schemes, the PPF says, have 48 per cent invested in gilts and fixed interest.

Tom McPhail, head of retirement policy for Bristol-based Hargreaves Lansdown, comments: “Plunging gilt yields following the unexpected referendum result have caused pension scheme liabilities to soar.

“The UK’s gold-plated pension system is starting to look tarnished. Deficits are soaring, employers are reneging on their promises and still more money is needed.

“Accrued pension rights have to be respected and investors have to be able to trust the system, however there is also a growing argument for the government to look at finding a more balanced approach to the retirement funding needs of UK workforce.”

Annuities

The gilt yield drop has also affected annuities, which have seen falling rates for a long time. The graph from Hargreaves Lansdown details the downward trend in annuity rates since the heights of the UK market in 2007.

The index tracks the top rate on Hargreaves Lansdown’s panel for a single life, level annuity, paid monthly in advance, guaranteed for five years, £100,000 purchase price, no postcode.

Mr McPhail said: “The declining gilt yield of the past year has fed through into declining annuity rates. A 65-year-old today is getting a lower rate than a 60-year-old would have done just six months ago.

“We’re into uncharted territory now so it is hard to predict whether annuity rates have further to fall or how much lower they might go.”

Danny Cox, chartered financial planner for Hargreaves Lansdown, adds: “Annuity rates may move further in response to changing interest rates.

“Also, international and domestic demand for gilts and sterling-denominated investment grade bonds will influence annuity rates, as will expectations of inflation and, to a lesser degree, short-term interest rate movements.”

Transfer rates

Perhaps a bright spot for advisers qualified to do pension transfers, Brexit has benefited those holding defined benefit pensions who wish to transfer.

According to data from Xafinity, the UK’s decision to leave the EU pushed defined benefit transfer values to record highs.

Although the UK 10-year gilt yields fell below 1 per cent for the first time ever, increasing the cost for DB schemes to meet their liabilities, this automatically increased the value of DB transfers, which are calculated according to the cost of meeting liabilities.

As reported at the time in FTAdviser, Xafinity calculated on 30 June, a 64-year-old with a DB pension worth £10,000 a year could expect to receive a cash sum of £223,000 if they transferred.

Defined contribution schemes

Long-term pension investors may have seen the value of their pensions fall along with global stockmarkets, but advisers responding to this guide have said the main message is to do nothing unless clients have to, especially if clients have many years to go before retirement.

Martin Bamford, chartered financial planner for Informed Choice, says: “Our clients approaching retirement have well diversified portfolios and have been gradually shifting into less risky assets over time.”

Those older clients with high fixed interest weightings may be reassured the end of the bull market in bonds has probably been given a stay of execution Michael Lally

Hargreaves Lansdown’s Mr Cox agrees: “For long-term pension investors who may be seeing the value of their retirement savings falling, the key message is to do nothing unless you have to.

“If you are close to retirement, try to avoid selling funds and shares right now. And if you are in retirement and drawing an income from your investments, then a good default stratefy is to draw the natural yield (dividends from equities, for example), as this means you are not cashing in the capital value of your investment at a time when they are falling in value.”

State pensions

Hargreaves Lansdown’s Mr McPhail adds: “During the referendum campaign the former prime minister David Cameron warned a Leave vote could mean the end of the triple lock on state pensions.

“This assertion was made on the basis the economy would take a downturn and public spending might not be able to sustain the expense of this policy.”

The triple lock, created in 2010 by the then coalition government, is made up of annual increases of the greater of CPI, earnings growth and 2.5 per cent.

However, there have been no comments so far from the new cabinet under prime minister Theresa May that the axing of the triple lock may be on the cards.

Expatriates

According to Michael Lally, director of Thesis Asset Management, some of those likely to be hit hardest in their pension pots may be expatriate clients.

He comments: “The fall in sterling will have had an immediate effect on our expatriate clients although it is too early to judge the longer-term effect.

“Those older clients with high fixed interest weightings may be reassured the end of the bull market in bonds has probably now been given a stay of execution.

“Irrespective of age, any portfolio needs to be suitable and take propert account of risk, and the client’s time horizon will of course play an important role in their appetite and their capacity to weather market turmoil.”

Moreover, Nigel Green, chief executive of the deVere Group, believes Brexit will be a trigger for more people to move their British pensions out of the UK.

He explains: “As the reality of what a leave result in the EU referendum means for personal finances sinks in, people will now be reassessing their retirement planning strategy.

“We can fully expect demand for HMRC-recognised overseas pension transfers to be further boosted thanks to the UK’s decision to leave the European Union.”