Market volatility has seen the Universities Superannuation Scheme’s asset portfolio shed more than 13 per cent of its value and its deficit pass £11bn in recent days, triggering concerns, but as yet no action, from trustees.
At March 18, the USS’s assets had fallen to £64.3bn, from £74bn at the start of the month.
As an open defined benefit scheme, its asset portfolio is far less derisked than those of its closed peers. While the scheme does employ leveraged liability-driven investment solutions, its latest publicly available reference portfolio includes an allocation of 60 per cent to equities, leaving it vulnerable to wild market swings in times of crisis.
Our question to the employers, since one of the smaller but stronger covenants, Trinity, left the scheme, has been ‘will you demonstrate that you’re content to put in place a long-term commitment to the scheme by changing the participation terms?’
Bill Galvin, USS
In recent days, the USS’s technical provisions deficit in respect of past service benefits has hit £11bn, up from £3.6bn uncovered by its 2018 valuation.
As predicted earlier in March, the scheme has consistently breached a funding trigger that measures the size of its deficit relative to the payroll of its sponsoring employers.
The trigger forces the scheme’s trustee board to consider changes, including higher contributions and accelerating derisking, but does not require them to take these actions unless they see fit.
Valuation continues
The decision to hold a valuation near the peak of market volatility has raised eyebrows in some corners, but the scheme’s management has argued that holding a frank discussion with employers now helps the trustee not to feel obliged to take steps like selling equities at a potential trough in order to derisk.
The scheme also said it would take advantage of the ability to take account of post-valuation experience and use the 15-month window afforded to it by regulations, as well as heeding guidance from the Pensions Regulator, expected in mid-April.
“We can take a pragmatic approach to how we go about that,” said USS chief executive Bill Galvin, but he added that the time was right to to seek employer views on what the scheme sees as key questions regarding commitment to participation.
The importance of employers’ ability and willingness to stand behind an investment strategy that pursues the equity risk premium has been thrown into stark relief by the volatility experienced by the USS.
Mr Galvin said: “Taking risk requires that you take a long-term view obviously. Our question to the employers, since one of the smaller but stronger covenants, Trinity, left the scheme… has been ‘will you demonstrate that you’re content to put in place a long-term commitment to the scheme by changing the participation terms?’.
“If we are to take a level of investment risk that means that we’ll have asset-liability volatility… again we need commitment that the employers are prepared to assist us in managing that volatility by indicating that there is a level of contribution volatility that they are prepared to take,” he continued, although he stressed that these discussions will be based on long-term assumptions, rather than overreacting to current deficit snapshots.
Covenant under threat
One key assumption underlying the valuation will be the strength of employers’ covenant, which the scheme is reportedly monitoring closely.
While Mr Galvin said there had been no requests by employers to suspend or delay contributions, he said the higher education sector was “not immune” to the covenant stress experienced by the wider business community.
On Monday, Universities UK chief executive Alistair Jarvis told journalists that some institutions could go bust if the government does not step in to bail out the sector and ensure competition does not leave less popular choices with unviable low student intakes.
TPR paves way for three-month DB contribution holiday
The Pensions Regulator has launched new guidance aimed at helping employers freeze their defined benefit obligations for three months in response to the economic fallout from coronavirus.
The difficulty of making any predictions about future employer strength, along with drawing any conclusions about the likelihood and timing of a recovery in asset prices, makes holding a triennial valuation at this stage a bold call, according to Capital Cranfield professional trustee Kevin Wesbroom.
“What information do you realistically think you can get from current markets?” he asked.
“There’s no reason why if you want to go ahead and do a valuation you shouldn’t do it,” he said, but added that trustees would have to back themselves to take long-term views that may differ from current market values.
