Sir
Your lead story "Gilts crisis hits pension funds" (January 19) heightens concerns about the size of UK pension funds, stating that the drop in gilt yields has increased the FTSE 350 pensions deficit by £20 billion in one month alone.
In all the past year's discussion of the UK pension fund crisis, covering thousands of pages of print, it is difficult to find a single mention of one crucial fact - which is that any number quoted for the so-called 'deficit', or 'pensions black hole', or whatever, is not in any sense the actual expected outcome for these on-going pension funds. It is the result that occurs if a whole series of considerably pessimistic outcomes actually occur, all at once, for these funds. For most pension funds, the likelihood of that particular occurrence is, according to our research, probably less than 20 per cent. The 50 per cent likelihood event (ie, what we actually expect to happen) is considerably better than this. Many FTSE 350 funds can still expect to be in deficit by the 50 per cent calculation, but not by nearly such a large amount. Other funds, stated by the pessimistic actuarial calculation to be in deficit, can actually expect to have a surplus as their pension fund obligations are paid out.
This situation is exacerbated by the FRS17 regulation, which requires pension funds to calculate their future returns on their existing assets as if their fund was entirely invested in bonds. Of course when bond yields go down, this FRS17 deficit gets worse.
But many of these funds are invested 50 per cent or more in equities, and when bond yields go down, generally equities go up (the rise in the past year of the FTSE is in large part due to the drop in gilt yields). Thus equities form a natural hedge to any drop in gilt yields and are a sensible - some would say crucial - component of any pension fund strategy.
Over the past few years, proponents of 100 per cent bond strategies for pension funds have gained a lot of ink in the papers, leading to a "rush for bonds" by many pension funds - precisely the chief cause of the consequent major decline in bond yields in the illiquid index-linked gilts market that you report. Companies that have moved aggressively into bonds during this period may have considerable cause to regret those decisions once the liquidity flows reverse.
Above all, it is essential that the FRS17 regulation be reconsidered so as to allow inclusion of a healthy proportion of equities in the pension funds' assumed asset mix. Such a ruling would not only much better reflect reality and reduce the pressure on the gilts market, but would also significantly ameliorate general perceptions of the size and type of the "crisis" facing private sector defined-benefit pension schemes in the UK today.
