Rethinking the DB endgame

Defined benefit pension scheme surpluses increased in aggregate to £446.9bn at the end of September 2023, from a surplus of £441.1bn at the end of August 2023.

The funding ratio rose from 146.2% at the end of August 2023 to 147.5% at the end of September 2023.

Jaime Norman, senior actuarial director at consultancy Broadstone commented: “The funding environment for defined benefit schemes appears to have stabilised after significant increases over the past couple of years.

“Pension schemes remain in a healthy position and the solidity in funding positions will provide further encouragement to pursue de-risking opportunities as quickly as possible. With intense competition it means that schemes must work hard to put themselves in the strongest position to first attract the attention of insurers, and second to convert that interest into engagement.”

The right choice?

Many well-funded DB schemes will seek to complete insurance transactions, which are still considered to be the “gold standard” for schemes with strong funding levels, said Matt Richards, senior business development manager at Standard Life, part of Phoenix Group.

However, fiduciary manager Van Lanschot Kempen Investment Management questioned whether they are the right decision.

A £1bn DB scheme could lose up to £200m over the next decade by exiting to an insurance buy-out, according to research by the fiduciary manager. De-risking towards buy-out could cost such a scheme an additional £50m in missed investment returns over the same period.

Now that many DB schemes are in surplus, they should look at alternatives to insurance transactions, said Andre Keijsers, Van Lanschot Kempen’s head of UK and head of institutional client management & origination: “Allowing schemes to run on enables them to protect and lock in value rather than this being lost in the transfer to the insurance world.

“Surpluses can then be generated and distributed to offer defined benefit members better inflation-proofing or give defined contribution members a better chance of a living pension with contribution top-ups – a solution which should also appeal to trustees.

“Reductions in sponsor contributions can feed through directly into improved company cashflow, which can additionally be recycled for the benefit of employees or retained in the business to improve shareholder value. This capital could also be invested in line with the government’s Mansion House reforms to stimulate the UK economy and promote wider societal benefits.”

Iain Brown, Van Lanschot Kempen’s head of strategic clients added: “Insurance transactions have long been considered the gold standard for pension schemes, however, in transferring assets, schemes have also transferred significant value to insurers and often lost out substantially in the process.

“This value loss has gone largely unchallenged for many years, and while the tide is slowly beginning to turn, the pension industry needs to act, and encourage sponsors and trustees to seriously consider running on their pension schemes.”