LONDON (22 April 2020) – Aon, a leading global professional services firm providing a broad range of risk, retirement and health solutions, has said that the actuarial valuations of a quarter of UK defined benefit pension schemes are likely to be badly impacted by the recent COVID-19-related disruption to the financial markets.
Using its Risk Analyzer tool, Aon has reviewed the movement in funding levels of 190 pension scheme clients since their last valuations in the spring of 2017. The analysis shows a very diverse range of experiences. While the last month or so has been challenging, overall across the last three years:
- a quarter of schemes are likely to have seen an improvement in funding level,
- half will have seen anything from little or no change to a 6% worsening in funding level
- the remaining quarter of schemes‘ funding levels will have fallen by more than 6% due to market conditions.
For a typical pension scheme with a liability value of £250 million, a 6% worsening of funding level corresponds to deficit increasing by £15 million.
Matthew Arends, head of UK Retirement Policy at Aon, said:
"Actuarial valuations with effective dates on 31 March or 5 April 2020 will be anything but repeats of 2017 valuations, given the impact that COVID-19 has had on pension scheme funding and sponsor covenants. And this is despite, in many cases, significant deficit contributions having been made over the last three years.
“On top of this, the degree of impact of COVID-19 on scheme sponsors has also been very mixed. Some sponsors have seen little impact so far, whereas others are badly affected, restricting the affordability of pension contributions. We believe that the priority for schemes is to understand their specific circumstances - of both the scheme itself and of the scheme sponsor. Only then can they determine the appropriate actions for their particular scheme."
The actions and remedies open to schemes range from gaining clarity over the covenant strength of the scheme sponsor, taking stock of the options available for recovery plans, and reviewing the potential investment options.
Daniel Peters, partner at Aon, said:
"When schemes are looking at their investment policy in these exceptional circumstances, it is crucial that they establish that their investment risk is right-sized for the current situation. We continue to advocate high hedging levels but also recommend schemes to review their cashflow requirements to ensure they continue to be robust in the new environment.
“While the market environment has provided many challenges to investment strategies it is also generating meaningful opportunities. Schemes need to ensure that they have the right governance in place if they want to capitalise on these opportunities.”
Matthew Arends said:
"When it comes to measuring covenant strength for Spring 2020 valuations, relying on the process from 2017 isn’t going to work. Instead, there may be merit in forming a provisional view of covenant strength but waiting for a few months to monitor the actual progress by the sponsor before finalising the view.
"In terms of setting the deficit contribution levels following 2020 valuations and if affordability is a constraint, we recommend making use of all the flexibilities available in structuring recovery plans. This could mean allowing for post valuation experience (if there is a bounce back of asset values), longer and/or back-end loaded recovery plans or using alternative financing options, as required.”
Matthew Arends concluded:
"These are exceptional circumstances, so it will not only be funding plans that are affected – sometimes significantly so – by current events. This is a time to review long-term funding and investment plans too. Schemes’ existing plans may now look overly optimistic and simply not suited to the environment we are experiencing and expect to face in the short to medium term."
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