Con Keating and Iain Clacher's TPR testimonyTestimony Review

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A Commentary on the oral evidence of the Pensions Regulator to Work and Pensions Committee
Iain Clacher & Con Keating
In the commentary which follows, we show the Committee questions in bold, PPF responses in italics
and our analysis of these in red. We have deleted the introductory remarks from the official record,
and in the interest of brevity, we have deleted responses to questions where we feel that we have little
to add and where there are several questions in a row, we have shortened these to the first and last
questions of the section where we have no comment with “[…]” in between.
In the further interest of brevity, in several places where our concerns are held in common between
the evidence of TPR and Pension Protection Fund (PPF), we make reference to our earlier review of
the evidence previously offered to the committee by the PPF. We also consider the PPF responses to
questions from the committee, where these relate to questions also asked of TPR.
That earlier review is available here:
https://henrytapper.com/2023/11/27/ppf-considered-actuarial-with-the-truth-keating-clacher/
Introduction
It is evident from the tone and substance of responses that little has really changed in the approach of
TPR to the regulation of DB schemes. While there is now some acknowledgement of the government’s
‘productive investment’ agenda, both the emphasis and action remain on higher funding of schemes.
Little, if any, attention appears to have been paid to the role and finances of scheme sponsors.
Great emphasis in placed on the revised but as yet unseen DB funding code.
The statistics quoted and published, and the degree of improvement in scheme funding seem to
overstate reality.
Examination of witnesses
Witnesses: Nausicaa Delfas, Louise Davey and Neil Bull.
Q215 Chair: Thank you. Can I put the first question to you, Nausicaa? After the LDI debacle of last
year, the Prudential Regulation Authority said that you should take account of financial stability
considerations in the work that you do. What additional resources do you think you need to do that?
Given your background at the FCA, with its rather greater powers in a number of respects, do you
think that TPR needs greater powers as well for that task or for other tasks that you are undertaking?
Nausicaa Delfas: I would quite like to set the scene and then answer your question. Over the last six
months, since I was appointed in April, I have been speaking to stakeholders and staff and I have been
thinking about the role of The Pensions Regulator and how it might need to evolve in light of changes,
including the LDI incident last year.
What is very clear to me is that the pensions landscape is changing. With the success of automatic
enrolment, most people are now in defined contribution schemes. Schemes are consolidating. There

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are technological advances. We are very committed to moving towards a landscape of fewer, larger,
well-run schemes that deliver good outcomes for savers and are able to invest in diverse assets, have
greater efficiency in administration, and so forth.
There is much about this statement that seems to be a continuation of the developments that were in
track prior to the change of leadership at TPR. Consolidation has been a central theme of TPR’s
pronouncements for some time. TPR do not appear to distinguish between DC and DB arrangements
in this regard. There has been a trend for smaller schemes to consolidate in the DC space. This is
sensible as economies of scope and scale are directly relevant for the outcomes for DC savers.
However, it would be difficult to describe the little consolidation seen in DB schemes as a trend.
It should be recognised that the expenses of a DB scheme do not affect member outcomes. Member
benefits are defined by the terms of service and award under the scheme rules and are unaffected by
scheme expenses or fund performance. The expenses of a scheme are rightly a concern for the sponsor
employer.
In our conversations with smaller schemes and their sponsors, the most common complaint has been
as to the costs of compliance with TPR regulations and guidelines. When combined with inappropriate
and misleading accounting standards, these costs have led to the widespread closure of DB schemes
to new members. To get a sense of the burden of compliance in the world of DB we would suggest
looking at the excellent work of Robin Ellison on this.
It appears that the desire of TPR to see small DB schemes consolidate is a matter of TPR’s convenience
given their large number, while there are perhaps good financial and economic rationales for smaller
DB schemes consolidating, TPR have yet to articulate one.
One of the things that I have been talking about is my vision for The Pensions Regulator, which is also
relevant to the financial stability point. I think that The Pensions Regulator is here for three key reasons.
One is to protect savers’ money and make sure that employers and schemes comply with their duties.
Secondly, it is to help to enhance the pension system with effective market oversight and controls.
Thirdly, it is to support innovation in the interests of savers.
Looking at the financial stability question that you asked, the market oversight requirement from my
perspective for TPR is key here. This is a shift for TPR moving from being quite compliance-focused to
taking a broader view of the market. Indeed, in DWP’s recent report back to you on LDI, it said that TPR
should incorporate financial stability considerations in its decision making and balance them with its
objectives as a pensions regulator. This is what we are doing.
This is the last reference to LDI from the CEO of TPR in her evidence. We find this surprising in that the
government response to WPSC’s recommendations on LDI relies heavily on a report on LDI to be
delivered by TPR before year end.
Since last year and since I joined, I have been working with the team to make sure that we have the
right resources and that we have the right data. One of the other changes that I think is fundamental
to TPR is moving to be more data and digitally enabled. That is key.
Data is a recurrent issue for TPR, to which we will return later. The history of government-sponsored
IT projects in the UK does not inspire confidence. There is a relevant cautionary principle from
Mordecai Kurz of Stanford University in this regard,
“Contrary to the longstanding conventional wisdom, the monopoly power conferred by new
technologies is neither short-lived nor is it a small price to pay for the associated benefits. Rising market

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power leads to all kinds of economic, social, and political problems – many of which have become all
too visible in America today.”
We have been working with the Bank of England and the FCA. It is very important to work with our
regulatory partners to have the right data to cover oversight of schemes’ liquidity, resilience and
governance. We have put these frameworks in place and have ensured that we have the right
capabilities in TPR and that we are supplementing and boosting those capabilities. We have been
increasing our investment team and we will also be looking at appointing some more resource to bring
that external insight into TPR.
In answer to your question, we are focused on this issue. We have done a lot of work to address it and
we have built up our resources to address it as well.
The most common piece of advice offered to schemes preparing for a bulk annuity transaction has
been to ensure the accuracy and completeness of their member data. This has proved a stumbling
block for many. Given the centrality of the accuracy and completeness of their member data to the
effective operation of a scheme, including member outcomes, this should have also occupied a central
role in TPR oversight of schemes, but it has not.
Q216 Chair: You are reasonably confident that you now have the resources to take on that additional
brief, is that right?
Nausicaa Delfas: Yes, that is right. We have the resources. We are also hiring some further external
capability, either through a panel or some supplementary macroeconomist resource. We have
identified that.
Given the growth in both headcount and costs since the inception of TPR, we wonder how long it will
take for further funding to be called for, bearing in mind that the number of DB schemes that TPR now
has to regulate has declined by over 2000 in number since 2005.
You did also ask about powers, and I am happy to talk about powers as well.
Q217 Chair: Yes. I would be interested to know whether, in the time that you have been there, you
have come up with thoughts about additional powers that you might need.
Nausicaa Delfas: Yes. You mentioned also the comparison with the FCA. When I joined TPR I found many
similarities in the sense of wanting to become more digitally and data-enabled and working with
regulatory partners and the industry to achieve our outcomes.
I did notice on the powers side that the powers at TPR are relatively more constrained and specific—
specific around particular types of schemes. There are some restrictions around the information and
data we can gather, and this was also picked up in the public bodies review that Mary Starks conducted.
That aspect is very important to us because we want to become data and digitally enabled, so we need
to have the flexibility to be able to ask for the information we need. That is an area of focus for us, and
we will be discussing this further with DWP and so forth as we go.
It is interesting that there are no specific instances cited where TPR is prohibited from requesting
information.
I think there is some scope for TPR’s powers to be evolved to make it more flexible.
Q218 David Linden: Good morning. The Pension Protection Fund now has £12 billion in reserves.
Indeed, I think it was Lesley Titcomb, the former CEO of The Pensions Regulator, who said that the
success of the PPF funding strategy and improvements in the scheme funding had led to a "risk that

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the PPF may find itself with more money than it ultimately needs in future." Is it, therefore, time to
remove the regulator's statutory objective to protect the PPF?
Nausicaa Delfas:Thank you for thatquestion. I should start,firstof all, by saying thatfromThe Pensions
Regulator perspective, whether we have that objective or not our focus is on protecting savers'
interests. We work hard to ensure those interests, and in most cases savers' best interests are in
continuing in a well-funded scheme with a strong employer covenant.
Note the sequencing here; the emphasis is on scheme funding before sponsor employer covenant.
This is a case of putting the cart before the horse. In the absence of sponsor insolvency there is no risk
to the PPF regardless of the state of scheme funding. There are some 90,000 German DB schemes
which are entirely unfunded, which are insured by the Pensions-Sicherungs-Verein (the German
equivalent of the PPF) as the emphasis in Germany is on sponsor covenant and not excessive funding
to mitigate the event of sponsor failure.
This funding first approach is grossly inefficient. It has led to massive misallocation of productive
resources in the private sector. Since the inception of TPR and the PPF, some £300 billion of additional
contributions have been extracted from sponsor employers (£242 billion of Deficit Repair
Contributions and approximately £50 billion of top-ups to new award contributions). To put this in
context, in 2005 the net capital resources of private sector non-financial companies (PNFCs) were
approximately £750 billion and reached some £2,250 billion at the beginning of 2022. To add further
context, in the preceding 12 years (the period for which ONS data is available), these contributions
amounted only to £31.5 billion1
.
In 2006, in its first 7800 index release, the PPF reported schemes having liabilities of £792 billion and
assets of £768 billion for a deficit of £22.7 billion. As a measure of the reliability of this index, it should
be noted that it has had its actuarial assumptions revised on eight occasions and in only two of these
revisions were the prior liability values increased. The total of these upward liability revaluations was
£51.2 billion while the total of the lowered valuations was £262 billion. The index has had a
pronounced and material cautious bias within it.
This funding first approach has contributed greatly to the scale and speed of scheme closures to new
members. A generation has been denied the possibility of DB pension provision; this is hardly
compatible with TPR’s earlier stated objective of “enhancing the pension system”.
However, the PPF is there for good reason because there are instances of insolvency. It is also important
to support our moral hazard powers that that objective is there. It was created and our objective was
put in to make sure that unscrupulous employers did not leave their pension schemes. We do have
powers to claw back contribution notices and so forth.
As we have noted on many occasions, including in our previously referenced review, there is no moral
hazard present. If we take the expression as shorthand for TPR’s ability to intervene in sponsor affairs,
we will simply note that they have only used them on very rare occasions, and despite having the
powers to intervene, TPR have not done so in some very obvious and high-profile cases e.g., BHS. The
actions of TPR in this regard may be viewed as too little, too late.
In my view, the objective is helpful but, regardless of it, our focus is on protecting savers’ interests.
There is no clear reason why this objective is helpful to TPR. It appears to most observers that this has
been the motivation for TPR’s flawed modus operandi of “funding trumps covenant”. While the new
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Source: ONS MQ5

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sentiment of protecting savers is a very welcome shift in the leadership of TPR, it has simply not
featured in the past 18 years of TPR’s actions and behaviours. TPR has protected accrued benefits, not
savers.
Q219 David Linden: Would you support an objective to promote good quality future service benefits
and, if so, what would that look like in practice?
Nausicaa Delfas: We have been looking carefully at this issue and I don’t think it is necessary for an
objective on future accrual because our revised DB funding code provides for future accrual as well.
This means that it allows schemes to account for future accrual with longer journey plans and the
ability to hold risk for longer. We think that it is not necessary to have another objective on that. We
are integrating it into our regulatory approach.
The proposed funding code does nothing to increase the provision of new future DB provision. We
have not seen the final draft of the proposed code or for that matter the new regulations. We have
been informed that:
“We expect the code to be laid in Parliament in time to come into force for September 2024, but before
that we will be socialising it with stakeholders as we finalise the drafting. In terms of an impact
assessment, there is unlikely to be separate assessment for the code alone, but for the code and
regulations combined we expect an impact assessment to be published.”
The absence of any meaningful impact assessment after so long a period of consultations is a serious
failing. As the central element of this is that schemes which are “significantly mature” will need to
operate on the basis of low dependency on their sponsor, this Is simply the old funding formula on
steroids. It would, by our estimate, require a further £100 - £200 billion of funding. We would also note
that higher interest rates have had a deleterious effect on sponsor finances, and many scheme
sponsors are now much less able to meet such funding demands than they were when rates were
under 1%. As a measure of sponsor stress, we would note that since late 2001, total corporate
insolvencies have almost trebled, from an annual rate of a little over 2,000 to a little over 6,000.2
This low dependency objective would also, if achieved, make the PPF redundant for these schemes.
While there has been some discussion of some accommodations for open schemes, we await the
revised text of the regulations and funding code for the detail of this.
Q220 Nigel Mills: It almost looks like you have taken over the organisation at the easiest possible
time, doesn’t it? Nearly every defined benefit scheme is now so flush with funds that all the
problems your predecessors have wrestled with for 20 years have all gone away, haven’t they? Isn’t
it time to celebrate a job well done and move on to something else for us all now?
Nausicaa Delfas: I am happy to bring in my colleagues, who are very much over the funds and our DB
code. (sic) You are right that DB pension schemes are very well funded. We think that over 80% are in
surplus and this is the strongest position that there has been for the past 15 years.
Our work on scheme funding levels as well as the ONS Financial Survey of Pension Schemes put this
80% figure much lower, somewhere in the region of 55% to 60%. There is a significant discrepancy
between the ONS and the TPR/PPF estimates of the total value of assets held by schemes of some
£196 billion as of March 2023. This also means that the PPF’s figure of £2.2 billion as the estimated
total deficit of schemes in deficit would be around £100 billion if the ONS asset values were applied.
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Source: Insolvency Service.

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However, as I have explained, there are a number of challenges. First, that position can change. We
know from experience that that could happen.
It is interesting that while the effect of interest rate increases has improved the apparent level of
scheme funding there is no recognition that it has hurt companies’ commercial prospects. In their
recent publication ‘Business Demography UK: 2022’, the ONS reports that the number of new
companies formed was lower than the number winding up for the first time since 2010. This is a strong
indicator of corporate sentiment. If that is a guide to the current prospects of PPF, it would see the
number of insolvencies experienced by firms in the PPF universe lying in the range 90 – 100 rather
than the 14 -17 of recent years.
DB schemes are not the only area that The Pensions Regulator regulates, and we have quite a number
of challenges on the defined contribution side as well to make sure that we enhance the system to
make it as effective as possible for DC savers, on whose shoulders rests the risk of their retirement.
On the defined benefit side, we are putting in place a new DB funding code, which will allow clarity on
how DB schemes can operate going forward. I am happy to talk about that further if you are interested.
It is clear that the as-yet-unseen proposed new funding code is intended to be central to TPR’s future
approach to the regulation and management of DB schemes. The earlier drafts are funding-centric and
would greatly restrict the ability of sponsors to pursue the ‘productive investment’ agenda as well as
limiting the ability of the schemes themselves to invest in this manner.
Q221 Nigel Mills: I am sure we will get to that. It is just a fact, isn't it? We see from the news nearly
every day a more schemes that are rushing for the exit door and have gotten themselves bought
out, bought in or whatever.
Is that a good thing? Is that what we expect to see? Are we going to see a rush in the next couple of
years for as many schemes to get off the rollercoaster as they can in case it dips down again at some
point or something?
It appears, from several consultant surveys3
, that just 16% -20% of schemes are funded at or above
buy-out levels, that is around 800 - 1000 of the 5,100 universe of DB schemes that TPR regulates. It is
sufficiently large though to provide an ongoing stream of bulk annuity activity and press commentary.
Nausicaa Delfas: You are right but buy-out is not the only option for schemes. As I explained in my
introduction, we are very supportive of consolidation in schemes.
It is notable that TPR has been silent on the effects on sponsor companies of schemes paying the price
of consolidation, that is realising the costs over their accounting valuations. We are aware of some
sponsors who have determined that they will run on rather than realise these costs.
Across both the DB and the DC landscape, we believe that consolidation is important and that larger,
well-run schemes deliver better outcomes for savers.
Whether DB consolidation will benefit DB scheme members in general is an open question. If these
consolidation vehicles are of superior credit standing to the sponsors of schemes, some scheme
members, although probably only a small minority may benefit from not experiencing sponsor
insolvency and the lower benefits paid by the PPF.
3
There are studies by LCP, Mercer, Willis Towers and most recently Cardano.

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Therefore, there are a number of alternatives to buy-out, including superfunds. We have been pleased
to see that the first superfund has transacted recently—Clara with Sears—and there are other
initiatives as well. There is a landscape there building up for consolidation on the defined benefit side
as well as the defined contribution side.
It is positive news that Clara has undertaken its first transaction as the market has been waiting for
some movement on this for a long time. However, we have to note that the business model of Clara is
a “bridge to buyout” and so the end-game is still insurance. The market for consolidations needs other
business models such as Pensions Super Fund to make sure there is an effective market, and to date,
TPR has not allowed genuine innovation in this space, but it is something that we would like to think
the new leadership at TPR will engage with more positively as the risk transfer market is simply not big
enough for the apparent demand.
Q222 Nigel Mills: Do you think that the current actuarial position is real and stable and that
effectively for a lot of schemes now everything is fine? Or do you think there is some risk that this
might go wrong again and if interest rates do something whacky, up or down, this position might
reverse and that probably the best thing to do while schemes have got themselves in that position
is to get the buy-out done now and not risk that in future? Or is it safe just to keep the scheme
running on and pay out the pensions that they were originally there to do?
Nausicaa Delfas: On your last point about whether they should run on or buy out, that is a question for
the trustees and the employers.
The regulatory environment and the demands of TPR have for a very long time been the determinant
is such decisions and so there is a need for there to be a genuine shift in the regulatory environment
for this to be a more open question for trustees and scheme sponsors.
Of course, with defined benefit schemes the employers are on the hook for the liability of the pension
scheme. It is for the employers and the trustees to decide with the scheme rules whether they think it
is appropriate to run on or to buy out or buy in.
The decision to run on rather than buy-out or use some other mechanism is a decision for the sponsor
and trustees. It is important to realise that a scheme funded only to the level of prudent technical
provisions can be expected to throw up a surplus as it is run down for the sponsor. Buying out will
require the sponsor employer to recognise a loss relative to the best estimate of scheme liabilities; this
is the value being given up by the sponsor employer and it can be as large as the best estimate itself.
On your question as to whether it is real, I will bring in my colleague Neil Bull on the funding position if
that is what you were after.
Neil Bull: I will try my best to answer that. I think it is a good challenge to say that although pension
schemes are in a good position now—and just to give you one number, the funding position at the end
of September 2023 from our numbers is a surplus of £295 billion, so echoing the comments made that
that is a good funding position.
The £295 billion surplus figure is surprising. In March 2023, TPR reported a surplus of £180 billion and
at which time the ONS survey reported a surplus of £1 billion. At that time, the PPF reported a surplus
of £359 billion which had risen to £446 billion in September 2023, an increase of £87 billion. TPR’s
increase reported here is £115 billion – a material discrepancy. The ONS estimate for September 2023
will not be published until March 2024.

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However, part of our job is to look at the situations that might challenge that funding. In fact, that is a
reason why many pension schemes over time have increased their allocation to bonds. They do that
because the payments that are received from bonds mirror the payments out in pensions in payment.
Providing that protection of matching assets with liabilities creates an all-weather situation so that if
bond yields go up or if bond yields go down, then the funding position is broadly protected.
That leads on, I guess, to some of the discussions about LDI and hedging, which I know the Committee
has looked at in depth in the past.
The evidence for matching is often mentioned but never provided within the pensions industry.
Conventional bonds are actually a poor match for pension outgoes which increase both in deferral and
in payment by inflation-linked amounts. Index linked gilts (ILGs) also do not hedge such inflation
related payments other than when held to maturity. Long dated ILGs lost over 80% of their value in
the course of 2022, while pension payments rose substantially due to the high levels of inflation
prevailing. The mismatch is not something that we expect to be resolved given the prices that many of
these ILGs were bought at by schemes.
There are also some significant and persistent disjunctions between the prices and yields of index-
linked gilts, their conventional equivalents and inflation swaps, and much of it is due to pension fund
activity (as in LDI-P quoted below).
The Bank of England Staff Working Paper No. 1,034 by Rodrigo Barria and Gabor Pinter for example
states:
“Our empirical analysis yields five main results: (i) there is persistent inflation mispricing over the 2018–
22 period, with nominal gilts on average 135 basis points more expensive (per £100 notional) than
their synthetic counterparts constructed from inflation swaps and inflation-linked bonds; (ii) hedge
funds respond to changes in mispricing but their response does not constitute arbitrage – they adjust
their bond portfolios appropriately, but do not hedge these trades in the inflation swap market; (iii)
inflation markets are largely segmented with liability-driven investors and pension funds (LDI-P)
dominating the inflation swap market, and many clients that are active in bond markets are absent in
the inflation swap market; (iv) LDI-P activity is a key driver of inflation mispricing – the sector’s order
flows in inflation-linked bonds and (to lesser extent) nominal bonds and inflation swaps contribute
significantly to day-to-day variations in mispricing; (v) the generally weak link between market-based
measures of inflation expectations and survey-based measures is strengthened once we clean market
prices from the effect of LDI-P trading activity.”
This aspect which appears to have passed unnoticed by TPR is likely to prove problematic in the context
of TPR’s expanded financial stability role.
The main objective with hedging is to protect your funding position from a change in interest rates and
bond yields. Many schemes do that and obviously if bond yields fall you would expect to see those
liabilities go up in value. You want to get to a position where your assets also go up in value. Recently,
we have seen the opposite of that. The whole aim of the approach to hedging is to protect the funding
position of pension schemes.
This is only true when the liability discount rate is linked to gilt yields, and that is a convention. When
linked to the expected return on scheme assets, no such dependency need exist. Of course, under that
convention, if bonds were the scheme’s only assets, then the expected return on them would be the
appropriate discount rate.

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We illustrated some of the simple mathematics of LDI in Appendix B of our earlier commentary on the
PPF evidence to WPSC.
This also omits to consider the position of the sponsor employer. Many have short variable rate
borrowings, which some of them hedge at least in part – see Appendix B. The losses arising from
declines in rates which accrue to pension schemes are the opposite of the gains which accrue to
sponsors when rates decline. They are a natural hedge. When the present value of scheme liabilities
declines due to rising rates, sponsors are faced with rising and imminent rises in borrowing costs. It is
one thing to demand additional funding when sponsors’ operating costs are low but quite another
when they are high.
Q223 Nigel Mills: We will wander back around old debates, but the risk to pension schemes is
inflation pushing up their future outgoings, not interest rates, isn’t it? What you are really trying to
hedge is inflation, not interest rates, and an accounting proxy gets you that outcome, doesn’t it? I
guess if you can get index-linked gilts, then you have hedged your inflation. That is a slightly different
assumption, isn’t it?
In fact, ILGs are a very poor hedge of inflation other than when held to maturity. Their volatility is
considerably higher than the volatility of conventional gilts.
Neil Bull: Yes. In terms of how this works in practice—prior to this job I worked for a multinational
looking at LDI programmes—generally there are two things that people look to hedge.
One is the nominal exposure with the movement of bond yields as it relates to fixed payments and then,
to your point, the real exposure, the change of real bond yields. You can think of that as the nominal
and the inflation side. It is both pieces you want to be able to protect against, and that is what a good
hedging programme should do.
There is no indication here of the complexities involved. A recent survey of 227 schemes conducted
for Cardano offers some insight into the experience of schemes in 2022. We reproduce below Figure 1
from that publication.
This is very far from the overall and dramatic improvement claimed by TPR and the PPF.

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Q224 Nigel Mills: Finally, Nausicaa, is it not slightly mischievous just to say that this is up to trustees?
We have had years of the regulator tightening the screw on trustee discretion. We hear from lots of
trustees who feel a bit constrained. Is it really up to them to decide on buy-out or are they effectively
being pressured to say, “The only real way to secure the benefits long term is to do buy-out, and
that is what we tell you that you have to do. Therefore, we are almost telling you that you have to
do buyout but we are using three sentences rather than one”?
Nausicaa Delfas: I can bring in Louise Davey here on trustees and the funding code but, as I explained,
regarding the position here on decisions about members’ interests, the trustees have a fiduciary duty
to consider members’ interests. The purpose of the pension scheme is to pay promised benefits to
people when they retire and that is their primary concern. There is a question also of the employer’s
role, who is on the hook. Louise, do you want to come in on the trustees?
Louise Davey: Yes. I would say that the objective for the trustees is to ensure that the benefits that are
provided under the rules of the scheme are paid out when they fall due. Buy-out over time is one of the
options that trustees can take in order to secure that over the long term, but it is not the only option.
TPR does not instruct trustees to buy out. We are very clear that there are a range of options, including
more recently using consolidators such as superfunds, but running the scheme on is also a perfectly
valid option. We are very supportive of that where there is an employer covenant that has the strength
to support the investment strategies that the trustees choose to take. There is a range of options there.
This is simply a re-statement of long-standing TPR statements but not their actual practice. However,
the approach precludes investment for productive growth by weaker schemes. Put another way, the
approach penalises the weak by requiring extra and more conservative funding.
There has always been a good deal of flexibility in the scheme funding system. We are making changes
now and the changes that we intend to bring in with the new regulations and the DB funding code are
intended to embed a lot of the good practice that we have already seen trustees exercising, but equally
to protect abuse of the flexibilities in the system.
The proposed new Code will have to be radically different from earlier versions for this to be the case.
When the Pension Schemes Act 2021 was introduced, one of the drivers for it that the Government set
out in their White Paper was that there were ambiguities and lack of clarity around some of the key
principles as to what constitutes an appropriate recovery plan or prudent technical provisions, which
are the areas that are set out in legislation. What our code intends to do is to provide a lot more clarity
in those areas, which will allow trustees to plan for the longer term much more effectively and make it
very clear what strategies will be available to them, depending on the strength of the employer
covenant that underlies it.
Again, sponsor covenant is seen as the determinant of permitted asset allocations. Firms with low
credit standing have high costs of borrowing and rather than allow them to pursue strategies which
reflect this, schemes are required to invest conservatively. In all too many cases, schemes have been
funded at the expense of their sponsor, where these funds would have enhanced the security of
member pensions more substantially and effectively.
Q225 Nigel Mills: Are you not tempted, though, for schemes that could nearly afford a buy-out but
are not quite there, to say that the best thing the trustees could do is go to the sponsor and say,
“Just tip a few quid in and you can get to buy-out and it is all secure”? This might be a once-in-a -
generation chance to do that for a relatively small amount. Does it not feel that that might be the
right thing for a lot of trustees to do in this situation?

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Louise Davey: It could well be the right thing for trustees to do in their situation, but the key is that it is
a decision for the trustee and that will also be in consultation with the employer. As Nausicaa said, the
employer is ultimately on the hook for the pension liabilities so that may be the decision that is reached.
However, it is not the only option that is available. We are seeing now other options coming to the
market, such as superfunds and capital-backed journey plans, which provide a range of options that
can be taken that would also help to secure those benefits in the longer term.
It should be noted that there are important accounting consequences for a scheme sponsor, that can
be a concern far larger than the small final contributions paid. For example, if the sponsor has
recognised the scheme surplus relative to the accounting standard’s best estimate valuation, then it is
the full value of this which passes through the profit and loss account, rather than other
comprehensive income. The precise details of the sponsor, scheme, and transaction will of course
determine the magnitude of the accounting effects. We are aware of schemes with US sponsors which
have decided to run on rather than buy-out precisely because of these accounting effects, even though
they are sufficiently well-funded to buy-out.
Q226 Nigel Mills: Should all trustees be looking at this? Would a competent trustee be looking at all
these options quite seriously at the moment?
Louise Davey: We would say that trustees would be looking at these options at the moment, yes.
Q227 Sir Desmond Swayne: The Pension Protection Fund has made a very different assessment of
asset values. Who is right and why does it matter?
Nausicaa Delfas: I will bring in Neil here.
Neil Bull: Thank you for the question. I am not sure if your question was about the Pension Protection
Fund or the ONS, but I will cover both in my answer.
Sir Desmond Swayne: Sorry, yes.
Neil Bull: We have very similar numbers to the PPF. Let’s deal with that one first. That is not surprising
because they come from the same source of data ultimately, from the data of scheme return that we
share with them.
The estimates of assets should be broadly similar as they have the same source. Bought in insurance
policies are worth more to the PPF as these pay members’ full benefits rather than the reduced
benefits of the PPF. The liability estimates are materially different reflecting the lower benefits payable
by the PPF relative to the scheme’s commitments.
Where there is a difference is the ONS numbers. Let me just explain why there is a difference there.
First of all, they are used for different purposes.
The value of scheme assets is a fact, it should be an objective number that we all agree on, and it can
then be used for any purpose we wish whether that is by TPR, the PPF, or the ONS. These asset
numbers (PPF, TPR, and ONS) were also very close until March 2022. It is source of the huge divergence
that has been observed since that should be of concern.
We note a high degree of similarity between the PPF’s assertions and those being made here.
The ONS uses a sample of schemes, around 10% to 15%. It tends to focus on the larger schemes, and it
will look at the funding levels and the level of assets over recent periods. It will then use that data to
effectively scale for the smaller pension schemes. It does not hold the data on the smaller pension
schemes. We hold the data on all the pension schemes. That is why our numbers differ.

12
The sample size for ONS is 614 schemes (around 12% of schemes), but it captures some 70% - 75% of
scheme assets. To attribute a difference of 14% in total values to differences in sampling techniques as
applied to 25% - 30% of the overall universe values seems highly unlikely.
Until December 2021, the values being reported by TPR, the PPF and the ONS differed only by small
amounts and could fairly be attributed to sampling errors. The large difference we now observe has
grown steadily since then. Between the ONS and PPF, the amount was £196 billion at March 2023 and
with TPR £180 billion. The difference between PPF and TPR figures can be attributed to the valuation
of insurance policies. (Incidentally, we believe that valuation to be somewhat low.)
One of the potential sources of discrepancy is that the data collected by TPR is done in tranches and
so much of that is stale, based on valuations which are on average more than a year old. This means
that it will take some two to three years for the TPR numbers to fully reflect the LDI crisis effects on
asset values.
It also means that last year’s Purple Book (2022) fails to capture any of the rise in bond yields and this
year’s (2023) Purple Book captures only a small part of 2022’s tumultuous events.
The PPF acknowledges that there some issues with their asset estimates. With their 7800 index
releases, they offer the caution:
“We have produced this update using our standard methodology, which is summarised in Note 4 on
page 7 of this document. In particular, while the approach will capture the liability impacts of
government bond yield movements, the impact on assets will often be less accurate. This is because
we do not hold sufficient data to capture the impact of any structural changes to asset allocations nor
to accurately capture changes in any leveraged LDI portfolios.”
As we have said elsewhere and in evidence given to the Work and Pensions Select Committee in its
first hearings as part of these investigations, over the period from January 2022 onwards both
structural changes to asset allocation and leverage have been extremely significant. Indeed, one
possible interpretation of this difference is that it is the cost to schemes over and above the basic
movement in interest rates.
In the latest, 2023, Purple Book, it is also worth highlighting that the PPF presents the table below for
the source and age of scheme data.

13
The footnote to this table states:
“Asset allocations submitted by schemes are not adjusted for market movements. Most of this chapter
uses weighted average asset allocations.”
In other text, some additional information is offered but it refers only to changes made reflecting a
sample of data from 90 schemes. However, the above Table shows that only 157 of the schemes in the
latest Purple Book, with just £36bn of assets or 2.6% of the total assets that the Purple Book is
capturing goes past the year-end of 2022, which is important given the dislocation in the market and
portfolio rebalancing, which extended into around March 2023.
For the purposes of this Committee as it relates to funding and things like that, we are very comfortable
with the number that I quoted earlier in terms of the assets and liabilities and the surplus position.
We would recommend independent investigation and resolution of the discrepancies.
Q228 Sir Desmond Swayne: Do you take the view that it does not matter if asset values have fallen
if the liabilities have fallen by, let’s say, a greater amount?
Neil Bull: I think that for most trustees, certainly having worked in pensions for 20 years, the number
that folk zoom in on whenever they look at the position is the funding level. A fall in assets would be
concerning if it was not associated with a fall in liabilities, but we have seen in 2022 both, for example,
happening at the same time. That is not an accident. It is designed in the way I was talking about
earlier, to try to hedge the level of surplus or deficit as it was.
In other words, the movement in reported asset and liability values is an artefact of the convention
that liabilities are discounted using market-based bond yields. The economic reality of pensions as
opposed to the account valuation is that the undiscounted total value of liabilities rose in 2022 due to
high inflation, while the value of assets held fell materially.
The gap between assets and liabilities is the most important part. If we saw bond yields go back down
again, which may or may not happen, you would expect to see liabilities go back up again. However, if
you have done a good job of hedging you would expect the assets to move up again as well and the
gap to be relatively stable.
From the reports of various surveys, such as that published by Cardano and highlighted above, it
appears that few have managed to do “a good job”. Appendix B of our PPF evidence review illustrates
some of the difficulties in practice. The evidence to the committee here fails to recognise that the
performance of such strategies is not symmetric.
This carries the consequence that it really is necessary to hedge a particular expected movement in
rates. We discuss expectations of rates in Appendix I.
Q229 Sir Desmond Swayne: How many schemes have seen a deterioration in their funding level? In
your estimate, are they up for the challenge of improving that position?
Neil Bull: Very few schemes have seen a deterioration in their funding level.
This is untrue. The earlier Cardano survey diagram shows that some 45% of overall schemes suffered
deteriorations. That survey is not unique; there are other surveys which have similar results.
If I quote a number based on buy-out—and the only reason I use the buy-out number is that it is an
apples-to-apples comparison across all the different schemes—we think that less than 5% of schemes

14
would have seen a deterioration in their funding level, so 95% of schemes seeing an improvement in
their funding level over this period.
This statistic fails to take account of the denominator effect, which is fundamental in the analysis of
what has gone on.
For schemes which are over-funded relative to technical provisions, and schemes that are able to buy-
out are over-funded relative to technical provisions, this can be very substantial.
For example, if a scheme was 130% funded before the shift in discount rates, and the scheme
experiences the average decline in liability values reported by PPF (38.8%), then with no change in
asset values the funding ratio would have improved to 212%.
The dispersion of scheme results, measured by standard deviation, for 2022 was unusually high at
some 20% (in part due to denominator effects). The difference between these two values, 82% (212%-
130%) is some four standard deviations. That means that we should expect no instances of such
overfunded schemes whose funding ratios have declined over the year to be evident. If we have
observed 5%, which is 1.645 standard deviations, we may infer that schemes captured only around
60% of the expected performance. As hedgers of the experienced rate changes, they were highly
inefficient.
Put another way, the 5% of these overfunded schemes, whose funding ratios declined, saw their total
assets decline by more than 38.8%. Given the use of leverage, the excessive concentration in index-
linked gilts, and the distressed selling of assets to meet margin calls, this is entirely plausible.
It should be noted that the denominator effect works in reverse for schemes in deficit; a 10% or £10
deficit with liabilities at £100 with no change (as above) becomes a 20% deficit with liabilities at £50,
though the cash shortfall remains just £10.
To answer the question posed is difficult, but falling discount rates would see the deficits decline due
to reversal of the denominator effect.
Q230 Chair: Neil, can I just pick you up on that? That 5%, will those be the ones who, because of the
particular position that they were in, were caught out by the LDI problems? Are those the ones?
Neil Bull: No, not necessarily. It could be for a whole host of reasons. It is often because of the other
assets that they might be holding.
There really were few asset classes which declined by more than 38.8%. Some private equity holdings
were reputed to have sold at discounts that were higher than this, but these were in the greater
scheme of things a trivially small amount of loss. Long dated index-linked gilts fell by over 80%. In
addition, schemes were leveraged which would have multiplied smaller losses. Pooled LDI funds saw
losses which were twice that of conventional gilts. The only plausible explanation of 5% of such
previously overfunded schemes seeing declines in their funding ratios is that they were geared in
excess of 1.2:1 and held very large positions in index linked gilts.
This response seems to seek to minimise the adverse effects of LDI and leveraged LDI in particular.
It is very tempting to think of pension schemes as similar for the purposes of looking at this exercise,
but there will be some pension schemes that held particular types of assets that did not do particularly
well outside of the LDI arena. It might be as much to do with that as to do with any problems with the
actual period in September 2022, which I think was perhaps where your question was.

15
There simply were no non-LDI asset classes which lost more than the pooled funds, index-linked gilts
and conventional gilts of LDI strategies; even equities and corporate bonds outperformed these.
Q231 Sir Desmond Swayne: Is there a tension in the aspirations of the Chancellor’s Mansion House
speech and the funding code? How will you change the code to eschew risk aversion or is lower risk
aversion only for the well-funded schemes?
Nausicaa Delfas: If I could just come in here, we have revised our DB funding code. I will bring my
colleague Louise Davey in here. We very much believe that it is entirely consistent with the
Government’s Mansion House reforms because it allows for pension schemes to invest in diverse assets.
The level of risk that they can take depends on the strength of their employer covenants and the level
of their maturity. If they are significantly mature, it is different to when they are quite immature or
open. I will bring in Louise who can tell you a bit more about this.
We are asked to believe that the as yet unseen, proposed funding code will now allow schemes to
satisfy the government’s desire for productive investment by schemes. This would not have been the
case with previous drafts and would require the new version to be radically different. The previous
version would have required some £100 - £200 billion of further funding to be committed to DB
schemes.
We would also note that scheme sponsors will be particularly weak at this point in the inflation,
monetary policy and resultant business cycles.
Louise Davey: We are aware through the various consultation processes that we have been through on
the DWP’s regulations and our draft code of practice that there are some perceptions that this will
introduce further risk aversion. However, that is not the policy intention.
The earlier versions required funding for ‘significantly mature’ schemes to be funded to a position of
low dependency on the sponsor employer. That is an extreme form of risk aversion.
We have heard the responses to the consultation and equally evidence that you in this Committee have
also heard, and we are confident that the final version of the regulations and code will make clear that
flexibility.
The objective is not to remove all risk from the DB system and we are very clear that there are a good
number of schemes that have the capacity to take on a significant amount of risk in their investment
strategy if that is what they chose to do because they are immature, because they are open to new
members and future accrual and because they have a strong employer covenant that can support the
scheme should the investment returns not play out as hoped. That is the key.
Even with mature schemes, there is still significant scope for them to be investing in growth assets, and
that is also made clear in the code of practice. We do not accept that the Mansion House reforms and
the DB funding code are inconsistent.
It remains to be seen just what can be done under the new version of the Code as we have said above
in multiple places, it would have to be radically different to enable this.
Q232 Sir Desmond Swayne: Those schemes that resisted the encouragement of the regulator to use
LDI thrived. Does that have any implications for confidence in the code? When are you going to
publish the code?
Louise Davey: I can answer the latter question and then perhaps Neil might want to come in on the first
part.

16
The timeline that is anticipated at the moment is that regulations will be introduced in the new year
and will be in force by April 2024. They will be effective for schemes that have valuations from autumn
2024. Our code of practice will come in on the appropriate timeline to also be in force for those dates.
Sir Desmond Swayne: And the answer to my question on the confidence—
Neil Bull: Yes. First of all, let’s deal with the facts. You are right that for schemes that did not use liability
hedging when bond yields went up their assets would not have fallen as much as ones that did use
that.
This seems to be arguing the exact opposite of the earlier position on the performance of non-LDI
assets.
Again, the reason LDI is used is not to take a view on interest rates, whether up or down; it is to protect.
It is a risk-management tool, effectively, to protect the level of deficit or surplus over time. Just to finish
that piece, over that period you are right, but what about if bond yields were to fall?
The question which should be asked here is how likely is it that bond yields will fall and how substantial
is that fall likely to be. Appendix I addresses those questions.
They may or may not do that. A scheme that does not hedge would be very much at risk and potentially
give up all that and a lot more in deficit. Many trustees take the view that they want to protect the
volatility of the surplus and that is why they use LDI. I hope that helps to answer your question.
This is another repetition of the previous attempt to justify LDI. It does not address the question of
confidence posed.
Q233 Chair: Thank you very much. Can I pick up this point about whether you are promoting
inappropriate risk aversion? We know the Universities Superannuation Scheme took advice on what
a reasonable time horizon for the employer covenant should be, and I think the advice it got was
that it should be 30 years. You wrote back to them and said you were prepared to live with that for
the 2023 valuation but in the longer term you thought a covenant horizon of 20 years would be more
appropriate. USS is worried that that would force it to de-risk unnecessarily. Why are you unhappy
with the conclusion of the advice that it obtained that 30 years was the right time?
Louise Davey: The point is that where long-term planning is taking place it is reasonable to say that
you cannot see forever into the future and there need to be assumptions made about how long the
scheme might stay open and so on. In reality, if that scheme does stay open and if it does not mature,
then there should be no actual impact on the derisking that would need to take place. Because if rolling
valuations are done and that position is updated every three years, then that view can remain very
long-term. There needs to be realistic long-term planning done there. That will be looked at case by
case so I cannot comment in detail on a specific case. In actual fact, if the maturing of a scheme is not
happening in practice, then there will be no need for a scheme to de-risk over that time horizon.
We would simply note that there is much else in that letter from TPR to USS which requires further
scrutiny.
Q234 Chair: I am not sure, then, why you have told it that 20 years would be the right horizon. USS
is a good example, I think, of a scheme that we would all expect to be going for many decades to
come, so I am wondering why you wanted it to adopt a shorter term.
Louise Davey: I don’t think that we can comment on a particular case conversation that we were
having. Neil, I don’t know if you have anything more to add on the principles of that to clarify.

17
There is a public interest in having this letter published.
Neil Bull: Yes, just on the principles, rather than the specifics, perhaps.
Chair: Perhaps you could drop us a line on the specifics about why that view was taken. There are
concerns, as you know, about inappropriate risk aversion being applied. Thank you. Let’s move on
then to Steve McCabe.
Q235 Steve McCabe: Good morning. The Bank of England has suggested that there are some risks
from too rapid an expansion in the buy-out market. Do you agree and what discussions have you
had with the Bank about it?
Nausicaa Delfas: We work very closely with the Prudential Regulation Authority and the Bank of
England on this issue, and I can bring Louise in.
It is part of our financial stability work that we have been doing. We conduct modelling and oversight
of pension schemes that might be going towards buy-out so that we can help the PRA in its risk
assessment as it is responsible for insurance companies.
Without further detail of the modelling, we cannot evaluate this work. However, we note that strictly
this is the provision of an input to the PRA’s regulatory process, rather than an obvious part of their
recently mandated systemic financial stability obligations. It is the PRA which rightly retains
responsibility for the regulation of insurance companies.
Louise, do you want to add to that?
Louise Davey: Yes. As part of the financial stability work, one of the pieces of work we are doing is
modelling what the trajectory of pension schemes might look like and how many might be looking to
target buyout and over what time horizon.
It would be good if this modelling could be published, there are a whole range of experts and
commentators from across the industry that would benefit from seeing this.
That can feed into the PRA’s own modelling and help it to manage that risk.
Steve McCabe: Does that mean you do agree with the Bank of England that there is a potential risk?
Louise Davey: Well, we know—
Steve McCabe: I am just trying to understand. The Bank of England suggests there is a risk and the
first question I asked was: do you agree? Do you?
Nausicaa Delfas: We think that there could be a risk—
Steve McCabe: There could be.
Nausicaa Delfas: So that is why we model. As Louise explained, we oversee pension schemes, but it is
the PRA that regulates insurance companies. Together we are looking at how to mitigate that possible
risk. That is how we are operating.
The risk which concerned the PRA was the excessive writing of bulk annuity business by insurers; the
regulation and mitigation of those risks lies with the PRA not TPR.
As we said earlier, and I don’t know if this helps here as well, buy-out is not the only option. We are
seeing schemes coming to us on a variety of issues, which we touched on earlier, some running on,

18
some exploring capital-backed journey plans, and some exploring superfunds. It is good that there is a
diverse market building for consolidation in DB schemes.
As noted above, we believe that it is important that TPR publish the work that they have done on this
modelling as it would have wider benefits to the pensions and actuarial community that advise
schemes.
We would also note that these options are, as yet, hardly used at all.
Q236 Steve McCabe: That is good. What do you think about the argument that there is a risk from
increased herding in investments as a result of the DB funding code?
Nausicaa Delfas: Sorry, I did not quite catch that, an increased—
Steve McCabe: I will repeat it; that is okay. I was asking what you make of the argument that there
is an increased risk of herding in investments as a result of the DB funding code.
Nausicaa Delfas: Thank you. As we explained, we are looking forward to publishing our new DB funding
code, which we have been working on in consultation with the industry. We are certain that this would
not create herding because it allows great flexibility for schemes to choose their investment options,
their journey path, and their risk management, based on their situation. We hope that this will be clear
to the industry.
No rational for this certainty is offered. The world of pensions, financial markets, and business more
generally is one of radical uncertainties; certainty is a very hard thing to find in this setting.
Neil Bull: Perhaps I could add a couple of numbers that might help the Committee on that one.
It is probably worth remembering where pension schemes are at the moment. They already have quite
a lot of their investments in bonds. That is around 72% of their assets in bonds already, before the
impact of any code.
Just one number is actually given; the assertion that schemes hold 72% of their assets in bonds. The
ONS reports this as 53% of gross scheme assets or 59% of net scheme assets; it is only with the addition
of pooled LDI fund equity that 72% is reached.
For many pension schemes, they will be quite comfortable where they are from an asset allocation
point of view. Others may even decide to take more risk, and some will take less risk. I do not think this
is a case of a code coming in and suddenly a lot of people moving from equities to bonds. As Nausicaa
said, even for schemes that are mature there is quite a lot of flexibility. They will not have to invest their
entire amount in bonds. They will still be able to maintain some growth assets.
Some of them may be the more traditional ones and some of them might be the productive finance
newer ones that were talked about in the Mansion House.
To make any judgement about this requires the proposed code and its associated impact assessment
to be published.
[…]
Q240 Siobhan Baillie: You were talking about the fact that there is a diverse market building, and
Louise was talking about trustees having a range of options. We also know that the ABI was saying
that about 75% of DB schemes are targeting insurer buy-out and about 40% of those are expecting
to fully insure in the next five years. It is quite understandable that people are now looking at

19
whether there should be incentivisation for run-on for mature schemes. We were looking at Lane
Clark & Peacock. It has proposed making it easier to extract a surplus and the introduction of a higher
levy and return to 100% PPF compensation. Do you know if there has been a proper assessment of
whether that will encourage and be effective in increasing investment in UK finance?
Note that for the ABI forecast to be realised, the proportion of schemes funded to buy-out or better
levels would need to almost double from 16% of schemes to 30% and all of these schemes would have
to choose to buy-out.
Nausicaa Delfas: Thank you for that question. Clearly, there is a lot of discussion at the moment about
DB schemes and whether they should run on, and LCP has put forward this proposal. As I said earlier,
from our perspective, our priority is to protect savers’ interests and that is the prime focus for trustees
as well. On this specific issue, we welcome the consultation that the Government announced in the
autumn statement. I do agree with you that this is something that has to be carefully considered as to
whether it will increase investment, what risks there could be to savers, and so forth. We are very
supportive of the consultation on this issue.
Q241 Siobhan Baillie: Yes. DWP was saying that the incentives for an employer to invest its surplus
are currently weak, so we were not surprised to see the consultation. Oliver Morley described the
LCP proposals as a complicated sledgehammer to crack a nut. Do you agree with that?
Are there other proposals flying around at the moment?
Nausicaa Delfas: If we look at the root, perhaps, of this proposal, it is the consideration of how pension
assets could be invested in productive finance and in the UK economy.
The LCP proposal is not concerned with productive finance; it is first and foremost about ensuring
member benefits are paid by the PPF in full, productive finance seems to be a secondary consideration.
Productive finance also does not just happen in markets, it happens in businesses, so the premium
paid to the PPF would be money from the balance sheet of companies, which may otherwise have
been invested in the real economy.
There is quite a broad discussion on that, and certainly our view across the pensions landscape is that
we support a move towards fewer, larger, well-run schemes that have the capability, expertise and
assets to invest in diverse assets, including productive finance.
From our perspective at TPR, looking across the piece, the longest time horizon is around defined
contribution rather than DB. Only 9% of DB schemes are now open or open to further accrual, so
defined contribution schemes have a much longer time horizon to invest in diverse assets.
While 9% of DB schemes are open to new members, an additional 37% of schemes are open to future
accrual according to TPR’s figures.
The automatic enrolment rules are shortly going to change so that 18-yearolds and people on lower
incomes will also be automatically enrolled. Therefore, it is incumbent on us to make sure that the
pension system works as well as it can so that they can have the best possible retirement outcome
when they come to retire. In answer to your question, there are lots of considerations around. We do
support fewer, larger, well-run schemes to invest in diverse assets and that is our core focus going
forward.
The question was about surplus investment by schemes. This is not a response to the question posed.

20
Q242 Siobhan Baillie: Is this going to move quickly enough if we have so many targeting the insurer
buy-out and 40% heading that way? What is the timeline for what the Government are doing and
settling on ideas?
As noted earlier, the ABI 40% figure is likely a high estimate. It appears that the current annual capacity
of the bulk annuity market is around £50 to £60 billion – that is 4% - 5% of schemes. In other words,
there are currently approximately four years of supply of schemes funded sufficiently well to consider
buy-out. This would also assume that all bulk annuity activity was buy-out, and none was buy-in – a
significantly different mix from that currently executed.
Nausicaa Delfas: As we mentioned earlier, buy-out is not the only option. Some schemes may choose
or be able to buy out or buy in, or there are other options such as superfunds, or capital-backed journey
plans or other types of consolidation. These things do take time, you are quite right, but there are
different options for schemes.
In fact, almost any scheme may choose to buy-in; this is not predicated on having achieved any
particular funding level. The sole requirement is that the scheme (or the sponsor) has sufficient funds
to pay the insurer’s premium.
Louise Davey: It is important to note that being at a level of funding that means that you could in theory
buy out is not the only consideration. The scheme itself has to be in a shape that is ready for buy-out.
That includes having all the right data in place.
The problems of data integrity and completeness is well-recognised, but it raises the question as to
how this could persist after 18 years of TPR. This data is essential in many other contexts.
It includes making sure that all the paperwork for the company is tied up and in the right place to hand
over. It also means, for insurers, having the right mix of assets that an insurer would be prepared to
take on. Buy-out is not something that necessarily happens very quickly, but we are very supportive of
broader options being looked at through the legislative lens. There is obviously the legislative timetable
attached to that, but equally the buy-out does not happen overnight either.
Q243 Selaine Saxby: Good morning. We heard from BP Pensioner Group that although the scheme
was in surplus the employer had refused a request from the trustees for discretionary pension
increases. The Hewlett Packard Pension Association said that its members have had just two
discretionary increases in 13 years. How representative are these experiences?
Louise Davey: I can answer this one. With the distribution of surplus, including payment of discretionary
increases, that is largely dictated by what is set out in the individual schemes' trust deed and rules,
which can look different for different schemes. The decision could be solely for the trustees to make or
it could be in consultation with the employer. In some cases, it is solely an employer's decision as to
how that surplus might be distributed. It does depend on the scheme. We do not routinely see cases
coming to us where there are disputes about the distribution of surplus. Typically, that is a role for the
pensions ombudsman to deal with individual scheme disputes. There is a procedure there. The scheme
will have its internal dispute resolution procedure and if it is not resolved through that, then it will go
to the pensions ombudsman to make a final decision. Where TPR would get involved was if there was
evidence of systemic governance issues within a pension scheme that we could then examine at that
level, but where there are individual member disputes, then that is not something that TPR would
typically be involved with.
The question was concerned with discretionary increases and the extent to which these have been
seen so it is not clear how this answers it.

21
Q244 Selaine Saxby: Thank you. Do you know how many schemes have discretion in their rules
regarding pre-1997 increases?
Louise Davey: I don’t believe we have that data, no. It depends. We do not see the individual scheme
rules.
This response is very surprising in light of the PPF letter to WPSC estimating the costs of increasing
benefits, including those related to pre and post ’97 benefits.
Q245 Selaine Saxby: Would you support research to understand that area and how this discretion is
operated?
Nausicaa Delfas: This discretion is a matter for the trustees and the scheme design rather than a
regulatory issue. This does depend on how the schemes have been set up and what the rules of the
scheme are for the trustees and employers.
Louise Davey: As part of the wider discussion about how surpluses could be used, then there could be
merit in exploring whether there could be more standardisation around that. I guess the fact that they
are referred to as discretionary increases means that the nature of them is that it is at the discretion
of whatever is set out in the scheme rules as to who can make that call.
There will need to be a priority order among claimants established for schemes which do not already
have rules covering the distribution of any surplus. For example, scheme members will have a claim
based on their contributions and sponsor employers a claim related to the deficit repair contributions.
Finally, of course, consideration will need to be given to the fact that if surplus is not allowed to be
distributed until all liabilities have been discharged, there will be no members alive to receive that
distribution.
[…]
Q275 Nigel Mills: Finally, I should ask the question the Chair thought I was going to ask. One of your
objectives has always been to stop pension schemes ending up in the Pension Protection Fund, but
we now have a strategy of trying to encourage pension schemes to end up in the Pension Protection
Fund quite quickly by using them as some sort of default consolidator for weak schemes. What are
your views on those proposals?
Nausicaa Delfas: We do support consolidation, as we have talked about, and support the consultation
on this issue because it does need to be carefully thought about. At the moment, the PPF is a lifeboat
for those schemes or employers that have failed. Consolidation might require a different gateway, and
consideration needs to be given to the risks to other members in PPF and the levy payers. That is why
it is excellent to have a consultation on this and to work through these issues.
Consolidation of DB schemes does not bring enhancements to member outcomes other than for those
schemes whose sponsors fail. For a more impactful discussion on enhancements to member benefits,
the focus should be on discussing improvements to the PPF compensation levels.
Q276 Nigel Mills: Would you be telling trustees, “You can buy out. If you are in the range for a private
sector consolidator, look at that. If you are not, look at the PPF as a way out”? Is the PPF becoming
an investment provider rather than an actual consolidator in that situation? At some point, we have
to tell trustees what to do and which one to pick, or which path they should be looking at, don’t we?
Nausicaa Delfas: Obviously on the PPF consolidator point, I am sure PPF will be best placed to respond
more fully. However, you are right, if this were to pass, there would be different options for trustees

22
depending on the state of the maturity of their scheme and the funding of it, so these are different
potential options that you have mentioned.
Q277 Nigel Mills: Do you think small schemes cannot access buy-out and need a public vehicle, or
do you think that option is there if they want it?
Nausicaa Delfas: There is an option there in terms of the superfund framework, which is taking off, and
there are other options such as capital-backed journey plans and other means. There are different
options for different schemes.
As noted above, Clara is one form of superfund but ends with insurance and there has been only one
transaction in 8 years in the market, so there is a very long way to go on this.
Louise Davey: It is true to say that typically not universally, but in many cases, it is harder for smaller
schemes to secure a deal with an insurer, should they be choosing to buy out. Therefore, we think if the
PPF is bringing a further option to the market it could serve schemes that do struggle to find other
ways. Where they are not able to access other options, we think that is a good thing to be on the table
for trustees to consider.
As we have stated elsewhere, there are huge questions over the PPF’s ability to act as a consolidator,
and it is an interesting question as to why the PPF would take over schemes that others do not find
commercially viable and make them work?
We would note also that the current PPF investment strategy uses high levels of leverage (ca 36%).
Prudence would preclude this amount of leverage, in the absence of substantial capitalisation, in any
consolidation fund.
[…]
Q279 Chair: Can I put some questions to you about superfunds? You mentioned earlier that you are
now supervising superfunds without the benefit of a statutory framework. The Chancellor said he
wants a statutory framework for superfunds soon. Were you surprised there was not a pensions Bill
in the King’s Speech?
Nausicaa Delfas: As you will know, Chair, there is obviously a question of legislative timetable and
capacity, but we are pleased with the support to have legislation in this area on superfunds, value for
money and so forth.
Q280 Chair: Do you still think a statutory framework is needed?
Nausicaa Delfas: It would provide greater clarity and market confidence, but, as you can see, from what
we have done already with our interim regime that has been issued with guidance from TPR, we have
updated that guidance this summer. We are also going to produce more guidance on capital extraction,
which we know people are interested in. We are continuing this regime. We are listening to the industry.
We will continue to develop it, but of course, it would be better to have that legislative background to
it to provide that bit more certainty for industry.
The existing guidance on superfunds is likely to ensure that few if any further groups will wish to create
such funds. The ‘gateway’ tests and much more needs to be changed.
[…]

23
Q286 Chair: Louise, you mentioned Solvency II a moment ago. As I understand it, superfunds have
to submit capital modelling rather than meet anything like the Solvency II obligations imposed on
insurers. Is your technical capacity up to scrutinising those very complicated models you get sent
and evaluating them? Is the capacity to do that well in place?
Louise Davey: Yes. Well, as Nausicaa set out earlier, we are confident that we have the capabilities in
place at TPR to do the job that we need to do. That includes the assessment of superfunds and we have
been bolstering skills in the areas where we expect to see more activity, for example, in the investment
team. We also have a large team of very skilled actuarial scientists, so we have we have those
capabilities in place.
Neil, did you want to—
Neil Bull: Yes, just to add that I agree with everything that has been said. Certainly, it is a bit of a joint
effort between the investment and actuarial team—it fits between the two—on the assumptions and
modelling and then also about the investments that are held. Both of those things are important.
There are members of the investment team who used to work in the insurance sector, so they are
perfectly placed to look at what is, as your question alludes to, a regime that sometimes borrows—for
example, in the capital piece—something from the insurance side. So, yes, we do feel very comfortable
on both sides of the actuarial and the investment side.
There are many actuaries employed in the insurance sector but only a small proportion of them are
concerned with capital adequacy monitoring. It would be interesting to know how many of those now
employed by TPR have this experience. Note also that TPR will be monitoring and authorising all
transactions undertaken by superfunds, for which there has been no insurance equivalent.
Q287 - Q290
[…]
Postscript
On December 13th
the committee published a letter, dated 6th
December, from Oliver Morley, the
outgoing CEO of the PPF. The annual PPF Purple Book was published on December 6th
and the letter
uses a small extract from it.
The letter is a series of responses to questions posed to the PPF by the committee.
Among these questions posed are:
2. You told us in April that a minority of schemes may have seen their funding position deteriorate
following the LDI episode of September 2022 and there are several reasons as to why this may have
happened which wouldn't be captured in your estimate. We would be grateful for further detail on
work since April to understand the position better, the number of schemes that have seen their
funding position deteriorate, by how much, and the extent to which different factors have
contributed to that;
3. How much of the £400bn loss in asset value as a result of the LDI episode you would expect to see
restored if interest rates rose again, and an explanation of how this would happen?
4. In response to a question on why your estimate of the reduction in the value of DB assets over
2022 differs from that of the Office for National Statistics (ONS), you said the data was collected for

24
different purposes—in your case, the potential impact on the PPF meant it was important to have
information on funding levels across the PPF universe.
We understand that your estimates are based on a roll-forward methodology using data from
scheme returns to TPR, whereas those of the ONS are based on a direct survey of a smaller number
of schemes. Is the divergence between the two figures in 2022 exceptional, or have there been
significant divergences in previous years? In addition, to what extent would it improve your
assessment of the potential risks to the PPF if your estimates were based on more recent data?
5. You said that if schemes invested in assets whose value changed in the same way, then a scheme's
ability to meet the payments was unaffected. How are you able to assess the extent to which
schemes have effectively matched their assets and liabilities?
The gist of the letter is that PPF recognises that its data is neither timely nor complete. This is in direct
contradiction of the earlier confidence in them expressed by the PPF and by TPR above. We discuss
the letter more fully in Appendix III.

25
Appendix I
With discount rates linked to gilt yields, it is critical to have an understanding of how and why these
have changed recently, and how they are likely to change going forward.
It should be noted that the UK has a bond market credit rating of AA- with a negative outlook.
The very high projected issuance of gilts has long been well known. The figure below shows the historic
and immediately projected gilt position. In this figure, passive QT is the run-off without reinvestment
of the Bank of England’s of maturing holdings in the QE asset portfolio.
Source: Burhan Khadbai of the Sovereign Debt Institute, OMFIF.
Following the Autumn Statement, the UK Debt Management Office, has announced gilt sales of £237.5
billion in the current fiscal year. In addition, the DMO has said that it expects to issue an average of
£240 billion of debt in each of the next four years.
This very high level of issuance has prompted questions as to who will buy this, with suggestions that
a yield premium on gilts may be needed to achieve this. In our experience such ‘walls of
money/issuance’ are rarely realised. It is, for example, perfectly possible that the Bank of England
might revert to its practice of the 1960s and earlier of buying much of an issue and reselling it over
time.4
The recent increases in rates which led to the gilt market sell-off were rooted in the problem of
inflation. The figure below, taken from a recent speech5
by Jonathan Haskell, a member of the Bank of
England’s Monetary Policy Committee, shows the constituent contributions to inflation. We have
added the red dashed line to this in order to highlight the underlying upward inflationary trend of
initial conditions. The factor listed as V/U is the ratio of job vacancies to unemployment.
It is clear from this that the underlying trend of inflation was upwards in 2020, with little of this trend
being directly evident in the published CPI numbers. By late 2021, with underlying trend inflation
4
See: William A. Allen, The Bank of England and the government debt: operations in the gilt-edged market,
1928–1972 (Cambridge: Cambridge University Press, 2019)
5
See also: “Recent UK inflation: an application of the Bernanke-Blanchard model”, Jonathan Haskel, Josh
Martin and Lennart Brandt. 2023

26
around 3.5%, a Bank of England increase in base rate would have been warranted of these grounds
alone. It should be recognised that the Bank of England was the first to raise rates in this cycle.
It is clear that underlying inflation is solidly entrenched and running at over twice the Bank of England’s
2% target.
As to the outlook for rates, we quote from Haskell’s remarks:
“The labour market is still historically tight. At current rates of change it would take at least a year to
fall back to average pre-pandemic tightness, with the precise time depending critically on the greater
the degree to which matching in the labour market has been impaired. Rates will have to be held higher
and longer than many seem to be expecting.”
Since late October, the gilt market has rallied strongly, a decline of some 80 -100 basis points. The Bank
of England’s pause on interest rate hikes appears to have led the market to believe that rate cuts in
2024 are highly likely. The US Federal Reserve has since its latest meeting adopted a more dovish tone
than previously, but the Bank is still cautioning that UK rates are likely to be high for longer.
As Kenneth Rogoff has noted: “But even if inflation declines, interest rates will likely remain higher for
the next decade than they were in the decade following the 2008 financial crisis. This reflects a variety
of factors, including soaring debt levels, deglobalization, increased defence spending, the green
transition, populist demands for income redistribution, and persistent inflation. Even demographic
shifts, often cited as a rationale for perpetually low interest rates, may affect developed countries
differently as they increase spending to support rapidly aging populations.”

27
Appendix II
Interest Rate Hedging by Companies
The Bank for International Settlements recently published an empirical study: “Interest rate risk of non-
financial firms: who hedges, and does it help?”
Among its key findings are:
It is predominantly variable rate debt which is hedged.
When interest rates rise, firms that hedge their interest rate risk experience a smaller negative impact
on their interest coverage ratios and market valuations. They are also better able to maintain the size
of their workforce.
Firms that hedge interest rate risk tend to be larger and have smaller cash buffers and lower equity
valuations.
There was a decade long trend until 2022 for companies to hedge less of their variable rate debt –
approximately 10% less in the case of the UK.
The distribution of the levels of variable rate indebtedness is among companies is reported in the figure
below:
For the UK, they report the following usage of hedging:
It is clear that when considering the hedging of interest rates within a scheme, for example, by LDI, we
should also consider the holistic position of sponsor and scheme.
Debt (%)
Variable No Variable
Hedge 28 4
Don't Hedge 45 23

28
Appendix III
The letter from Oliver Morley contains a truncated version of figure 2.4 from the 2023 Purple Book,
which we reproduce in full below:
In response to the question:
“You told us in April that a minority of schemes may have seen their funding position deteriorate
following the LDI episode of September 2022 and there are several reasons as to why this may have
happened which wouldn't be captured in your estimate. We would be grateful for further detail on
work since April to understand the position better, the number of schemes that have seen their
funding position deteriorate, by how much, and the extent to which different factors have
contributed to that.”
The letter states:
“The data that we use in the annual Purple Book and monthly 7800 Index, which looks at the whole DB
universe, is collected by TPR from scheme annual returns. Whilst TPR collect this data annually it is
based on schemes’ most recent s179 valuations and in many cases, as schemes are only required to
complete a s179 valuation every three years, these will not be current.
For example, the latest data provided by TPR from schemes’ annual returns includes valuations that
have been updated since September 2022 for only 15 of our 5,051 scheme universe, as shown by the
following table which is included in the Purple Book 2023:”
The letter then contains a truncated version of figure 2.4 above, containing only the numbers of
schemes and the dates to which they apply. This text contains a further relevant footnote:
“We experience a further lag in receiving this data as schemes have up to 15 months to submit their
valuation after the valuation date and the results are only reflected in the following 31 March scheme
return”.

29
In other words, there are just 15 scheme reports which are close to being as current as those in the
ONS survey sample of 614 schemes. We do not know the response rate to the ONS questionnaire but
believe it to be typically about 85%.
We will make some observations on this:
The most current sample has the lowest funding ratio of all schemes in the universe (121.4%), far lower
than the aggregate reported (134.3%). The highest (139.4%) is in the sample of 1,630 schemes dating
from the period April 1st
2020 to March 31st
2021.
If we assume that these 15 schemes are in fact representative of the overall PPF universe, and use the
PPF estimate of overall liabilities, with this funding ratio, the total assets of all schemes would be
£1,269.5 billion. The latest ONS Financial Survey of Pension Schemes reported assets of £1,244 billion.
The letter continues with:
“It’s importantto note that,even when we obtain data for the other 5,036pre-1 October 2022 schemes,
it will not be possible to form a meaningful estimate of how much of the funding changes arise from
the LDI market disruption. This is because there are many factors that affect the rolled-forward assets
and liabilities when moving to a new dataset. Principal among these are:
• changes in asset allocations/investment strategies between old and new datasets, to the degree that
different asset classes have performed differently over the periods under consideration;
• any asset outperformance/underperformance between section 179 valuations relative to the market
indices that we use for our roll-forwards;
• the performance between valuations of any unfunded hedging arrangements that are not captured
in schemes’ disclosed asset allocations (for example interest-rate swaps);
• contributions made into schemes by both employers and employees between valuations;
• benefits paid out of schemes between valuations. Since pension retirement terms are not costneutral
when measured on a section 179 basis, commutation, early or late retirement will cause a
surplus/deficit to arise.”
These are all valid points, but they arise from the staleness of the data inputs being used; the ONS
sample, given the fact it is more contemporaneous, should not suffer from these problems. The answer
does not, however, answer the question with respect to schemes which saw their funding position
deteriorate. As we are not in possession of the full distribution of schemes, we also are not in a position
to answer that question, though in our review of the other responses to questions, we are able to offer
further insight.
Number Size Assets Liabilities Funding ratio
Schemes 15 453.3 6.8 5.6 121.4%
Overall 5051 93.6 1404 1045.5 134.3%

30
As a prelude , we present a table below showing the evolution of some basic market metrics.
We show in the blue section, the yields and prices of twenty zero coupon gilt, as well as the aggregate
decline in price from the prevailing prices in December 2021. It is also worth noting that the quarter
to June 2022 saw rate rises and price declines almost as large as those to end September 2022, the
beginning of the crisis. Note that from the end of September 2022, there was no clear gilt yield trend.
In fact, looking at the discrepancy between ONS and PPF asset figures (the ochre section of the table
above), we see the largest increase in the discrepancy of £136 billion in the April – June 2022 period.
Half of the final discrepancy was evident by the end of June 2022. Note also that at the end of
September only 61.7% of the final discrepancy was evident. Moreover, it is also clear that this growth
in discrepancy is unrelated to discount rate movements.
From the simple repo leverage exposure (Green section) it can be seen that schemes in fact increased
their gearing until the end of September 2022. This is even clearer if we consider the notional amount
of exposure, that is the amount of repo divided by the price of the twenty-year gilt. This is shown
below:
From this table, the small decline in the monetary value of repo between June and September was
smaller than the declines due to price movements, and that the notional repo exposure was sold down
after the September episode. At the end of this period, the notional exposure was slightly higher than
at the beginning of 2022.
This is also evident in the net interest rate swap exposure:
By this measure, IR swap exposure resulted in total losses of £41 billion (to end September 2022)
before there was any meaningful closure of these exposures. It appears that some 25% of IR swaps
were unwound in the six-month period to March 2023.
We can offer a further and fuller analysis of the realisation of swap losses and the level of new cash
committed if that would be of use to the committee's investigation.
20 Year Gilt Discrepancy Repo Leverage
Yield Discount Decline Proportion Amount (bn) Proportion Amount (bn) Proportion Gearing
Dec-21 1.22% 78.46% 0% 3 -1.5% 194 10.7%
Mar-22 1.86% 69.17% -11.8% 29% 37 -18.9% 201 103.6% 11.8%
Jun-22 2.72% 58.47% -25.5% 62% -96 49.0% 210 108.2% 14.6%
Sep-22 3.94% 46.17% -41.2% 101% -121 61.7% 200 103.1% 15.8%
Dec-22 4.08% 44.94% -42.7% 104% -179 91.3% 150 77.3% 12.2%
Mar-23 3.92% 46.35% -40.9% 100% -196 100.0% 123 63.4% 9.9%
Notional £ bn 20 year
Dec-21 247.2
Mar-22 290.6
Jun-22 359.2
Sep-22 433.2
Dec-22 333.8
Mar-23 265.4
IR Swaps Q4 2021 Q1 2022 Q2 2022 Q3 2022 Q4 2022 Q1 2023
Net Value 11 3 -15 -30 -22 -13
Difference 8 18 15 -8 -9

31
If we assume the underlying for the swaps was a 20-year fixed/floating swap that pays libor and
receives gilt yield, we can also look at cash in and outflows due to swap realisation or termination as
presented in the table below.
As the table shows, cash went into swaps in Q1 and Q3, totalling £51.1 billion; the £15.3 billion of Q1
2022 is cash margin from counterparties, while the Q3 £35.8 billion is new money subscribed to meet
margin calls. Swaps were closed or realised with losses totalling £102.6 billion. Q2 also accounted for
44% of the remarkable growth in the discrepancy that quarter and resolving the mess after September
2022, saw £22.8 billion realised in Q4 and £20.3 billion in Q1 2023.
For completeness, the value of pooled LDI funds held by schemes fell from £231 billion to £168 billion
after £51 billion was paid into them in the period. This is a loss of 49.4% (£114 billion) of the original
investment but should not surprise, given the levels of leverage which were being used.
The questions and answers
Reverting to the PPF letter:
“How much of the £400bn loss in asset value as a result of the LDI episode you would expect to see
restored if interest rates rose again, and an explanation of how this would happen?”
“As set out above, the data we use when producing analysis of the whole DB universe is collected by
TPR from scheme annual returns and is based on schemes’ most recent s179 valuations. However,
schemes are only required to complete these every three years. In the absence of more up to date data
on schemes’ asset allocation we aren’t able to provide an answer with any meaningful precision”.
This is true of the PPF data, but with the ONS data, we can make some first passes at estimating the
losses unaccounted for in the PPF data and the extent to which they might be recoverable.
“However, regarding the mechanism by which a rise in rates would impact assets, it would actually be
a reduction in interest rates that caused scheme assets to increase. For physical holdings such as fixed
interest government bonds, the price is inversely related to the yield, so when the price of a bond rises
the redemption yield will fall. For interest rate swaps, also commonly used to hedge interest rate risk,
scheme trustees typically receive a fixed rate of return on a notional amount of “principal” and pay a
floating rate that is linked to short-term interest rates. So if short-term interest rates fall, the pension
scheme continues to receive a fixed rate from its counterparty to the swap, but pays out a lower rate,
hence the present value of the arrangement will increase from the perspective of the pension scheme.
This really does not answer the question.
“In response to a question on why your estimate of the reduction in the value of DB assets over 2022
differs from that of the Office for National Statistics (ONS), you said the data was collected for
different purposes—in your case, the potential impact on the PPF meant it was important to have
information on funding levels across the PPF universe.
We understand that your estimates are based on a roll-forward methodology using data from
scheme returns to TPR, whereas those of the ONS are based on a direct survey of a smaller number
of schemes. Is the divergence between the two figures in 2022 exceptional, or have there been
significant divergences in previous years? In addition, to what extent would it improve your
assessment of the potential risks to the PPF if your estimates were based on more recent data?”

32
The response begins with:
“The divergence we’ve seen between the ONS survey and the 7800 index has been exceptional this
year, however, it isn’t overly surprising as the ONS sample post-dates the LDI market disruption,
whereas our data source pre-dates it. We are clear in our 7800 index publications that we don’t hold
enough data to capture the structural changes to asset allocations, nor to capture changes to in any
leveraged LDI portfolios (these factors have been particularly pronounced since March 2022) and, as a
result, the impact on assets will often be less accurate than the ONS survey. As both measures use
different methodologies. it is not possible to reconcile their outputs, and so, in the absence of more up-
to-date scheme return data it is hard to know precisely what impact that would have on our view of
wider scheme funding.”
It is clear that with more recent data, we can gain significant insights into schemes’ actual
performance, for example, as we have shown above.
“With regard to understanding the risk to the PPF balance sheet, where we consider that a scheme
sponsor has an elevated risk of insolvency we will proactively engage with scheme trustees, so that we
understand those situations on a case-by-case basis.”
The PPF is faced with two issues not discussed. The general increase in sponsor stress arising from the
rise in rates – see Appendix II above. There should be a second and immediate concern. If the ONS
figures are correct, and there are many indications they are, then the level of scheme funding is far
lower, by some £196 billion, and the PPF exposure to schemes in deficit would be more like £100 billion
than the £2.2 billion, £5.7 billion or £8 billion that the PPF variously reports.
“You said that if schemes invested in assets whose value changed in the same way, then a scheme's
ability to meet the payments was unaffected. How are you able to assess the extent to which
schemes have effectively matched their assets and liabilities?”
“We use data on asset allocation provided to us by TPR from schemes’ annual returns. However, as we
note above, in many cases this data is not current. In addition, this data does not completely capture
the impact of leveraged exposure, however, we understand that TPR plan to collect richer data on
leveraged exposure in the future.”
It is actually in the overwhelming majority of schemes’ where the PPF data is not current. From our
other empirical work, it would appear that schemes were on average between 75% and 80% hedged
– though there were some schemes which were very highly geared, with some schemes we have seen
being 124% hedged. One point to note is that schemes which were not utilising LDI would typically
own some bonds as part of their traditional diversified equity/bond asset allocation with 20% - 40%
allocated to bonds not unusual among these schemes.
We can make some estimates of the degree to which the losses experienced might be recovered
should rates return to their previous levels. There is the trivial £3.8 of profits made by the Bank of
England which will not be recovered. Only about half of the £114 billion lost by pooled funds can be
expected to be recovered given their deleveraging and lower gearing post-crisis. Of the £51 billion lost
on IR swaps, £30 billion might be expected to be recovered. Of the losses on repo, approximately 75%
should also be recoverable. Put another way, if we consider all of the £196 billion discrepancy as LDI
specific losses, we should only expect to recover only some 50% - 65% of these losses. This is
conditioned on rates falling to the previous lows, and index linked gilts recovering to their old highs
offering yields as low as RPI – 3.5%.

33
It is clear that the costs of LDI since rates began rising have exceeded the gains made by schemes
previously. This has also been true of the Bank of England’s QE asset portfolio. It is also most unlikely
that we will see such low rates again in the remaining lifetimes of schemes, and there is no indication
from the Bank of England that we will be going to back to base rates of interest as low as 0.1%.

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