Deficits, discount rates and other demons of DB
10 Oct 2016 - Estimated reading time: 2 mins
First a few admissions. I am an actuary. I love sci-fi. And I realise I’m painting a bit of a two-dimensional caricature here but I think it works for the story so I’ll push on…
… It struck me after watching Guardians of the Galaxy for the fourth time or so that there are science fiction parallels in the world of pensions. Here's why.
As with most great sci-fi, at its heart is a battle between good and evil. The good is rooted in realism with an unlikely hero – a loveable rogue with good intentions, but unlikely to turn up on time let alone change the world. The evil is some maniacal, epic scary creature partial to a bit of world domination. One is David, the other Goliath.
And the pensions connection?
I can’t help shake the feeling that deficits and discount rates are the Goliath of DB pensions. They suck all the oxygen out of the room. In the wake of Brexit, and subsequent quantitive easing, deficits have hit an all-time high tipping over £1trn. And UK DB discount rates are as low as they have ever been too (though lower in an international context is not without precedent1).
So what does the future hold for DB? Is the status quo sustainable? How secure are members pensions and how can this be improved? Do these deficits and discount rates really answer these questions?
They don’t answer any of these questions because they don’t measure what matters:
- chances of success (assets outrunning liabilities);
- risk (assets falling short); or,
- security of pensions promised (allowing for long term covenant risk).
Collectively, these are the David of DB pensions.
So if deficits and discount rates don’t guide you to strategies that improve pensions for pensioners why focus on them? Why do they dominate?
A couple of suggestions with inspiration from Daniel Kahneman’s book ‘Thinking Fast and Slow’.
- Too hard. In years gone by questions of success, risk and security have been hard to answer. So as an industry we’ve tended to answer an easier balance sheet question and neglect cashflows.
- Too familiar. We hear them often and familiarity is not easily distinguished from truth.
But it needn’t be like this. Technology has rendered ‘too hard’ (or even too expensive) redundant. So as an industry we have to work hard to build familiarity with the right questions to ask.
In this vein, we’re delighted that Lesley Titcomb, Alan Pickering and John Chilman are joining us for a lunchtime debate on ‘What next for DB?’ in London on 3 November 2016. We’ll be releasing exclusive insights and analysis from our UK DB index – which seeks to address the hard and less familiar, but fundamentally important, questions above. Crucially, we‘ll use the answers to look at how to improve DB pensions for pensioners.
With your help and support, hopefully this marks a turning point in the fortunes of David. DB Pensions will be better for pensioners and the world will be saved. OK perhaps that’s taking it too far, but just to finish on a realistically upbeat note – “The future is already here - it's just not very evenly distributed”. Let’s change that – please join us on the 3rd if you can.
1 Often (though not necessarily) derived with reference to the returns on cash or gilts plus an allowance for outperformance – and the further lurch down for long term bond yields has meant lower future anticipated returns on investments, which points to more cash contributions all other things being equal.