Written evidence from AJ Bell LDI0030

About AJ Bell

AJ Bell is a FTSE-listed investment platform, pension provider and investment manager for retail investors. We provide administration services for our consumers in relation to a range of tax-incentivised wrappers including Self Invested Personal Pensions (SIPPs), Small Self-Administered Schemes (SSASs), Individual Savings Accounts (ISAs, LISAs and JISAs) as well as General Investment Accounts. Our platform and investment services are available direct to consumers, as well as through FCA-registered advisers.

AJ Bell’s view on the LDI ‘crisis’ – executive summary

AJ Bell has no direct interest in either Liability Driven Investments (LDI) or defined benefit (DB) pension schemes.

However, we do have a significant interest in ensuring UK pensions and associated markets function properly and do not put at risk people’s trust in saving for retirement. It is from this perspective – maintaining trust and confidence in pensions – that I respond to your well-timed call-for-evidence.

As well as being AJ Bell’s head of retirement policy, I am also the company’s main spokesperson on pensions issues. As a result, I spent a large amount of time in late September and early-October talking to journalists and participating in phone-ins about LDI.

A few fundamental things became clear during that period:

• The communication of issues in relation to LDI was far from perfect, with early headlines and stories – presumably resulting from official briefings – giving the misleading impression that people’s pensions were at risk.
• This fed through to huge worry among members of the public that they were at risk of losing their pensions. This worry appeared to exist regardless of the type of pension people had.
• This chain of events risked causing unnecessary stress to millions of people and potentially pushing some to make unwise decisions about their pensions, such as accessing their fund early or stopping contributions. Over the long-term, this saga will also inevitably have damaged trust in saving for retirement, with the knock-on risk that people will be less likely to save for the future and therefore more likely to fall back on the state in their later years.
• Had those providing the early briefings made clear to journalists that people’s pensions were not at risk, damage to trust in retirement saving could have been significantly reduced.
• As the Work and Pensions Committee reviews evidence of issues in the LDI market, it should also consider whether communication of those issues – and in particular the extent to which they would directly affect people’s pensions – was given adequate consideration.

A history of negative pensions headlines

Seeing pensions leading radio and TV bulletins, and being on the front pages of newspapers and magazine websites, usually doesn’t mean good news.

‘Scandals’ have a habit of permeating the public consciousness when it comes to pensions, from Robert Maxwell and the Daily Mirror, to Equitable Life, BHS/Phillip Green and, more recently, British Steel.

Each of those events to some extent put the hard-earned pensions of those caught up at risk. Maxwell raided the Mirror pension fund and workers lost out. Thousands of Equitable Life members died before receiving compensation.

The BHS pension scheme at least avoided entering the Pension Protection Fund (PPF) – but members still faced cuts in their promised pensions. British Steel is, of course, a transfer scandal yet to be fully resolved.

Maxwell and Equitable Life, in particular, regularly come up whenever I discuss pensions with (non-financial services) people. But each of these events had a profoundly damaging impact on attitudes to retirement saving more generally in the UK – despite only directly affecting a relatively small proportion of savers.

How the LDI issue was communicated to the public and what it really meant for DB and DC savers

When the Bank of England was forced to intervene to prevent a damaging sell-off of UK Government bonds, or ‘gilts’, newspapers and broadcasters variously described what ensued as a pensions ‘crisis’, ‘disaster’ and ‘pandemonium’.

This narrative appeared to be derived from official briefings given to journalists which talked of “insolvency” linked to pension funds exposed to leveraged LDI positions.

This created a highly damaging perception that people’s pensions were fundamentally at risk. However, the truth was – and remains – that it is the solvency of the employer sponsor which determines the strength of a DB promise.

DB schemes often have accounting liabilities that are larger than their assets – but this just means they are in ‘deficit’. It is not clear to me what an ‘insolvency’ event for a DB scheme is, but provided the sponsoring employer remains in good financial health, they have a legal duty to pay out the retirement incomes they have promised.

Even if that DB sponsor goes bust, the Pension Protection Fund (PPF) acts as a valuable lifeboat to ensure members should still get a decent chunk of their promised pension.

If you had a defined contribution (DC) pension, you would only have been hit by falling bond prices if a large proportion of your investments were in UK Government bonds. This will have been the case for some people – specifically those in ‘lifestyling’ investment strategies who were approaching their chosen retirement date – but has nothing at all to do with LDI (although there is a debate to be had about the appropriateness of lifestyling in 2022).

The cashflow issue facing some DB schemes

What some DB schemes with LDI exposure appeared to face was a cashflow issue. It’s useful to revisit the basics of LDI – which have at times been poorly articulated – to understand why.

LDIs are designed to hedge off the risk associated with gilt yield movements for DB schemes. At a simple level, that means when gilt yields fall and the accounting value of liabilities increases, the investment bank running the hedge will pay the scheme money. Conversely, when gilt yields rise – as we saw post-mini-Budget – the scheme has to pay the investment bank.

This didn’t cause any problems during an ultra-low gilt yield environment but became a problem as yields spiked – particularly for those LDI funds that had leveraged positions.

Some of these LDI hedges demanded huge sums of cash which the schemes didn’t have sat in a bank account. As a result, the risk was that they would have to sell off more of their assets to pay the investment bank – namely, Government gilts.

This was the issue the Bank of England intervened to address. It was never about saving people’s pensions, which, provided the sponsoring employer remained in good financial health, should not have been affected.

Public reaction

Unfortunately, most of this nuance appears to have been entirely lost on large swathes of the public. There is little doubt in my mind this is in part due to the headlines they have read, which talked of pensions facing crisis, when actually the crisis was in the gilt market.

Questions on radio phone-ins (two of which I took part in as an ‘expert’) varied from “could I lose my entire pension?” to “why has my pension fund value gone down?” and even “can I freeze my pension?” – the panic was obvious.

Very few of the people I spoke to had been directly impacted at all – but they were still terrified and had clearly little trust in pensions to deliver for them in later life.

As the regulators involved consider lessons learned from LDI, there needs to be a serious reflection of how challenges facing LDI funds was communicated.

What efforts, if any, were made when the problems first surfaced to explain to journalists – and therefore the wider public – that their pensions were not directly at risk? And when stories were initially published pointing to an “insolvency” event, was any attempt made to clarify what this meant? There is little doubt in my mind this period of unnecessary uncertainty had a damaging and entirely avoidable impact on people’s attitude to saving for retirement.

As all parts of the pensions industry learn important lessons from this episode, it is vital the way information is communicated to the public – and risks poor communication posed to trust in saving for retirement - forms a central part of the Committee’s work.

November 2022