On the go: Defined benefit schemes are increasingly looking to derisk their investment approach to protect their improved funding levels, according to new research from Aon.
The consultancy’s ‘Global risk survey’, which received responses from 137 UK representatives of schemes of all sizes, showed that three-quarters of schemes now have funding levels higher than they were before the pandemic.
As a result, more than half (51 per cent) said they were looking to lower their equity exposure over the next year, while 34 per cent expected to increase their use of credit, and a further 37 per cent said they would allocate more to liability-driven investment strategies.
The findings echo the latest edition of the Pension Protection Fund’s Purple Book. As Pensions Expert reported earlier in December, the report showed that scheme deficits have recovered by £100bn since the low point of the pandemic, with overall funding in the sector now standing at 102.8 per cent.
Calum Mackenzie, partner at Aon, said: “Since the initial market reaction to Covid-19, pension scheme funding levels have recovered and many schemes are in a better place than at the start of 2020.
“As an unprecedented number of schemes are seeking buyout, it is no surprise that they are also adjusting their investment strategies in line with that.”
He continued: “More than 50 per cent of respondents have reduced their equity allocation over the past two years and we expect this trend to continue.
“We have not only seen schemes offsetting exposure to equities with credit purchases, but also an increase in interest rate hedging — 74 per cent of respondents now have interest rate hedges in excess of 80 per cent of their assets. This was true of only 43 per cent of respondents two years ago.”
MacKenzie also noted an increased focus on environmental, social and governance factors, especially climate risk, with 92 per cent of respondents saying they had “considered their ESG policy”, a figure Aon attributed in part to regulatory changes.
“Schemes are also supporting ESG considerations with action — a fifth of schemes have already made changes to their investments, having reviewed their ESG policies over the past two years. These steps have often involved moving to ESG benchmarks, screening out poor ESG holdings, and focusing investment on assets that will make a positive impact on society,” he explained.
“We believe that this is a trend that will continue, as 85 per cent of respondents have either already reviewed or will review climate change risks in the next two years. They will look beyond the physical risks and be proactive, assessing how financial gains can be sought from the transition towards a lower-carbon environment.”
MacKenzie also noted an appetite for illiquid assets, even among schemes approaching buyout, which will come as good news for the government as it pursues its Build Back Better agenda.
“We are seeing schemes protect themselves from inflation and volatile market movements by opting for illiquid assets such as infrastructure (34 per cent) and real estate (32 per cent),” he said.
“Energy transition funds are also popular in this space. This makes it clear that pension schemes can certainly play a big role in the drive towards building an economic infrastructure for the future.”
