What is your de-risking strategy?
Nationwide Building Society Pension Fund
Chief investment officer
• Invested assets: £3.6bn (€4.5bn)
• Membership: 30,774
• Type: closed defined benefit
Given our current plans and strategy, our funding levels should improve over time. If investments outperform our expectations and the funding level improves, then there is an opportunity for further de-risking to occur.
If funding levels have improved so that a smaller portfolio of return-seeking assets can meet the return objectives, and as a result more liabilities can be matched, then risk is reduced and there is greater likelihood that future liabilities can be met.
In a way, expectations over future market movements have no role to play in the de-risking plan. This is not to say that opportunistic asset rebalancing shouldn’t take place if assets are considered overpriced – but that is a tactical rebalancing decision, not a long-term strategic de-risking plan.
Missing the opportunity to remove risk merely because index-linked Gilts are 10bps below some target rate may prove to be short sighted. The pricing level may be hit tomorrow or the day after, or may not be hit for five years – we do not know exactly when or if it will be hit. However, by de-risking and matching more liabilities, we will have certainly reduced volatility in the size of the deficit.
In terms of de-risking assets, there are some that can improve returns as they command an illiquidity premium. Assets such as ground rents, long lease property and infrastructure debt would fall into these categories – however, these assets are limited. Alternatively, swaps unpinned by cash or repos of Gilts can be used, complemented by investment in high-quality residential mortgage-backed securities (RMBs) and CLOs that will generate margin enhancement for limited additional credit risk.
At the moment, there is already intense competition for de-risking assets, as shown by the prices of index-linked Gilts and the very limited availability of suitable assets. However, if funding levels reach a threshold whereby risk can be reduced but the resulting asset position still enables long-term objectives to be met, then there would need to be a strong reason beyond just a pricing level not to recommend de-risking.
Head of pension fund management
•Invested assets: €2bn
• Membership: 20,000
• Type: Multi-employer pension scheme (three closed DB funds and two DC funds)
We currently have no de-risking strategy in place. As our DB pension schemes are all closed to new entrants, the duration of our liabilities is decreasing and our risk exposure has already been reduced.
The de-risking strategy we implemented five years ago consisted of allocating assets as follows: 50% in high-quality bonds; 20% in risk assets (mainly, but not exclusively, quoted equities); and 30% in assets with an intermediate risk profile – for instance high yield and emerging debt.
Diversification is a major theme in all asset categories, including our high-quality bond portfolio. That said, we invest exclusively in investment grade corporate bonds since we feel that european government bonds represent a bet that is focused on a very limited set of factors.
Therefore, at the moment, those high-quality bonds are the main assets we use for matching our liabilities. Because the duration on the corporate bond market is around five years, there is inevitably a duration gap. The gap is limited, since around 90% of our liabilities lie within the DB plans that are closed to new entrants and all pensions are paid as lump sums. naturally, DB liabilities should be hedged using inflation-linked bonds rather than fixed-rate bonds. However, those bonds are in short supply or simply do not exist (if you want to hedge against Belgian inflation).
With interest rates at current levels we do not feel the timing for a strategic shift is appropriate. Taking tactical positions is another issue – but I would not call that de-risking.
Last year, we allocated 20% of our assets to dynamic asset allocation (DAA) strategies to gain flexibility, while keeping the same risk profile – we reduced other asset classes proportionately.
The external managers responsible for our DAA strategies have a benchmark that reflects the overall asset allocation of our funds but have the freedom to deviate in their medium-term expectations. As a result, our current asset allocation is: 20% of assets in our DAA strategies; 16% in high-risk assets including quoted equities, quoted real estate and private equity; and 24% in medium-risk assets; 40% in low-risk assets.
Chief investment officer
• Invested assets: €12bn
• Membership: 275,000
• Type: guaranteed and non-guaranteed DC plan provider
SEB pension has traditionally offered only guaranteed defined contribution plans, and even though over the last 10 years new non- guaranteed products have gained a significant share of the portfolio, 65% of clients’ funds are in guaranteed products with different guarantee levels. Clients are separated into four groups according to their guarantee level and investment strategies, and different hedging programmes are associated with the four groups accordingly.
The overall objective for the investment portfolios is to manage the risk of the guarantees provided, as well as building well-structured and well-diversified portfolios that generate satisfactory long-term returns for the benefit of the clients in this environment, SEB pension has managed to implement attractive portfolio allocations participating in many of the important risk premiums in the market.
SEB pension is very well funded – we have built significant buffers over the past years, as well as this year. This is due to our long-term ALM work that is aimed at safeguarding our funding levels. We have done a comprehensive ALM study that has allowed us to secure a solid interest rate strategy for the portfolio. This strategy also provides us with support in extreme interest rate scenarios.
The favourable funding position we have built is also due to a very successful strategy for risky assets that has delivered very satisfactory returns.
We don’t use LDI just as a reaction tool in periods of crisis. LDI is part of our day-to-day man- agement. our de-risking activity would normally begin when it becomes necessary to fully immunise liability-interest-rate risk and cut down exposure to risky assets. We have an emergency de-risking plan in place but this is currently not relevant as our buffers are very comfortable. The plan outlines methods to de-risk the portfolio, which in this case will consists of interest rates and equity derivative trades. The emergency de-risking strategy also outlines the decision process that we will follow, which in these scenarios has to be fast and well defined.
At the moment, we have no issues with market liquidity and therefore we do not anticipate any problems if we were to implement a de-risking plan.