Brexit pain warnings for DB schemes

BrexitPension deficits are likely to increase and will be more volatile following the UK’s decision to leave the European Union, experts are warning.

Long-dated gilts are expected to remain low, with asset values likely to fall and inflation likely to increase, pushing up deficits says KPMG pensions partner Stewart Hastie. Hastie warns sponsors may be forced to increase contributions to fill funding gaps.

Hargreaves Lansdown head of pensions policy Tom McPhail says if a recession, or downturn, does take effect as predicted by some analysts, corporate profits would be squeezed, making funding schemes even tougher for employers.

Hastie says: “Now we have the certainty of a Brexit vote, the uncertainty for UK pension deficits begins in earnest. The UK’s 6,000 private sector DB schemes covering £1.6 trillion of pensions obligations will be in for a rough ride hit with the prospect of higher inflation, and an expected fall off in pension asset values over the next couple of years. Long end government bond yields will likely stay stubbornly low keeping pension liability values high and meaning pension deficits are likely to increase and be more volatile. The PPF index at the end of May already showed 4 in every 5 schemes were underfunded with an aggregate deficit of £320 billion near all time highs.
“With some 2,000 schemes due to have a funding review in the next 12 months UK businesses will be under pressure to divert cash to shore up historic pension liabilities.”

Hargreaves Lansdown head of pensions policy Tom McPhail says: “The key question for final salary scheme members, sponsors and trustees is once the music stops, how will their assets and liabilities have moved?

“UK schemes are currently invested around 33 per cent in shares – of which around a quarter are UK shares, 48 per cent in Gilts and fixed interest, with the balance held in ‘other investments’ such as cash, property and hedge funds. On the liability side of the equation, any increase in bond yields would be a good thing though it would be offset to some extent by falling values on the asset side of the balance sheet. A 0.1 per cent rise in Gilt yields would reduce deficits by £23.3 billion.

“If the economy does now start to stall or even contract, as predicted by the doom-mongers on the Remain side of the campaign then corporate profits will be hit and this in turn could lead to further funding issues for employers. The only good news is that a falling exchange rate may help these businesses to export their way back to profitability.”