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28 February 2019

Protecting the promises made to members

Every three years, the Trustee must make judgements about how various expectations and risks will play out over the long-term and the short-term that could influence the scheme’s ability to pay members’ benefits.

It must also review whether recent experience has met with previous expectations, and respond accordingly.

As well as being a legal requirement, this regular review ensures that the promises made to members are protected and that the funding plan remains consistent with the ability of sponsoring employers to recover future deficits - and consistent with their appetite for using future revenue streams to protect against bad outcomes in the pension scheme.

If we are off-track in either case, corrective action can - and will - be taken well before recovery moves beyond reach.

A DB pension is based on a promise of a set level of income in retirement, protected against inflation. So the level of certainty we need to have in the security of members’ benefits must be high.

But the future is inherently uncertain.

In relying on assumptions as to how investments and interest rates could perform over time to fund benefits, the Trustee must also have credible options for dealing with experience being materially worse than expectations if it is to meet the promises made to members in the past as well as those being made today.

This is the primary fiduciary duty of the Trustee.

The funding requirements for both the 2017 and 2018 valuations reflect the current funding position, expectations, and future risks. They sit against a backdrop of experience proving to be detrimentally worse than the prudent expectations of the 2014 valuation.

If our underlying funding assumptions for the 2018 valuation are borne out, we can expect the risks and costs to decrease over time, at subsequent valuations.

However, today the scheme is close to the limit of the level of risk the Trustee can accept in meeting a promise to members.

At more than £20bn away from the funding level that would be required by the Trustee in the absence of the support of employers, the “self-sufficiency” deficit is much higher than the long-term risk appetite of our sponsors (as indicated in our consultations for the 2017 valuation, and in responses to UUK’s consultation following the JEP report).

Our aim is to be within a set value of self-sufficiency in 20 years’ time such that the ability to secure the benefits promised to members at that point is, credibly and demonstrably, within the means of employers to fund.

At the time of the 2014 valuation (when our assumptions against market measures were less optimistic), the distance to self-sufficiency was £14.5bn. At the 2017 valuation it was £22.4bn. At 31 March 2018, it was £20.8bn.

The Trustee believes there is a credible path to the targeted level of reliance on employers, but it depends on favourable developments in interest rates and moderately positive investment returns.

The Trustee believes this is a credible path, but it is not risk-free: we cannot take our assumptions for granted.

The degree of uncertainty faced by the scheme and its employers has also increased since 2014, with the review of tuition fees and the status of Brexit just two factors alongside the current size of the self-sufficiency deficit that are causing the Trustee concern.

Recent market conditions have not helped the situation with asset values falling, reflecting the prevailing uncertainty. Indeed many investors have recently experienced a period of negative equity returns.

To repeat: A DB pension is based on a promise, but it is difficult to know - with certainty - just how these factors will develop.

A suitably robust contingent support arrangement with employers could provide greater confidence in the resilience of the funding path and, in turn, enable the headline contribution rate to be lowered.

Observations on de-risking

The Trustee’s investment strategy envisages a gradual path to reducing the volatility and dependency on uncertain returns to within the risk appetite of the scheme’s sponsors.

Reducing the level of risk in the scheme’s investment portfolio gradually, over time, is an alternative strategy to hedging. It protects against a future worsening of the self-sufficiency deficit but does not insure against the volatility of the journey.

Furthermore, doing this over 20 years means the cost of de-risking would be “time-averaged”, reducing the impact on costs of sudden market changes.


While we can expect the cost of benefits and the risks facing the scheme to reduce over time, we cannot take our assumptions for granted: the future is inherently uncertain and experience has proven to be worse than expectation.

The current funding position, current financial market conditions, and the risks currently faced by the scheme are all reflected in our proposed contribution rate (under the 2018 valuation) of 33.7% for the current package of benefits.

Contingent support from employers could provide greater confidence and enable the headline contribution rate to be lowered.