The impact of September’s mini-budget on pensions

In the latest issue of Pensions News, Chair of the Trustee Board Steve Delo gave an overview of the effects of that September’s mini-budget had on the Fund. Here, we look in more depth at why the investment markets reacted dramatically to the mini-budget, why this affected pensions in UK, and what impact that volatility had on the Fund.

Overview

In September 2022, the then-Chancellor Kwasi Kwarteng announced a mini-budget that led to significant turbulence in investment markets.

Not only did the value of the pound fall, but borrowing – including Government borrowing in the form of gilts – also became more expensive. This had an impact on pension funds around the UK.

Sharp rise in cost of Government borrowing

DB pension schemes invest in gilts as they usually offer stable returns – or yields. They’re essentially IOUs from the Government, which sells them so it can raise money for public spending or to fund tax cuts. The unfunded tax cuts laid out in the mini-budget spooked the markets because investors lost confidence that the Government would be able to repay them on time. So, they started demanding higher rates of interest, which means investors’ yields went up – it’s a bit like giving the Government a bad credit score and so it becomes more expensive for the Government to borrow.

DB pensions and gilts

Gilts can also be used as part of a pension scheme’s risk-management strategy because they can use them to match changes in the value of their liabilities (the amount of money the scheme needs to pay out in benefits both now and in the future).

Under this strategy (called a Liability Driven Investment – or LDI – strategy), pension funds enter into contracts with financial institutions, typically banks. As the cost of Government borrowing increased, and the value of Government bonds fell, these institutions required extra payments – called a collateral call – from schemes under the terms of the LDI arrangements.

After the mini-budget, the cost of Government borrowing increased quickly and sharply and to an extent that was unprecedented. DB schemes were forced to sell gilts to meet these extra payments, or collateral calls. The more they sold, the more the value of gilts fell. The more the value of gilts fell, the higher the payments that schemes needed to make – and so on. The Bank of England stepped in briefly to buy up large numbers of gilts, which helped to stop their value falling further. In turn, this meant schemes were no longer forced to sell theirs to meet these calls for collateral.

The Fund remains in good health

Like other pension schemes, the Fund had to sell gilts in order to meet collateral calls from financial institutions. While this did cause the value of the Fund’s assets to fall, our investment strategy is designed so that the value of the Fund’s assets broadly mirrors the value of its long-term liabilities.

Because of this strategy, the funding position of the Fund remains relatively unchanged (it’s still fully funded on a low-risk basis), and it also still has enough assets to be able to pay pensions now and all benefits payable in the future.

Investment markets and DC pensions

If you have a DC Fund Account, you may also have seen a decrease in its value following market reaction to the mini-budget. We understand that this may be unsettling but please remember that, while we expect a certain amount of volatility in the short term, it’s the longer term that usually matters more where pensions are concerned. It’s important to remain calm and not to make any hasty investment decisions.

If you’re in the Lifetime Pathway

The Fund’s default DC investment strategy – the Lifetime Pathway – is specifically designed to help protect you from market fluctuations by moving your investments away from funds that are considered to be riskier the closer you get to your Target Retirement Age (TRA) – this is the age you’ve told us you’d like to retire at. If you haven’t chosen a target retirement age, we assume you want to retire at your normal pension age. For most people, this is your state pension age, which may change in line with government legislation in future.

If you’re within five years of your TRA, your DC Account will automatically have started to move into cash – this will have protected your account to a certain extent from the recent volatility in investment markets.

If you’re further away from retirement, the Lifetime pathway aims to grow your DC Account over the long term.

Do I need to do anything?

It’s always a good idea to review your pension planning from time to time – especially once you start to get closer to the age you want to retire. So, you might want to check you’re still on track to get the retirement income you’re aiming for. If you’re currently saving into a DC Fund Account, you can log in to your online account and use the retirement calculator to see how much income you might need in retirement.

You could also review your TRA or check whether your investments are still right for you.

As with most financial decisions, it’s a good idea to discuss them with an independent financial adviser before you take any action. You can find one at Unbiased.

Find out more about the Lifetime Pathway.

If you’re in Self-select

If you have designed your own investment strategy using any of the Fund’s self-select funds, it’s up to you to decide how much risk you want to expose your investments to and how to manage your investments as you approach retirement.

Find out more about self-select funds.

Monitoring DC fund performance

As the Trustees who look after the Fund, we are confident that we have a robust structure in place that carefully monitors the performance of our DC funds. We review this every three months with the support of our investment advisers.

Find out more about how the Fund is run.