The top actuarial body in the UK says inflation-linked bonds have the “highest probability” of meeting wage-linked liabilities.
The Actuarial Profession, the umbrella body for England’s Institute of Actuaries and Scotland’s Faculty of Actuaries, say that in many respects pensions behave like bonds. “Both pensions and bonds have regular streams of income stretching many years into the future. Finance theory teaches us that the market value of a pension fund’s liabilities is unaffected by how the assets are invested.”
They note that a bond portfolio is the lowest risk investment. “That is to say, inflation-linked bonds, not equities, have the highest probability of being able to meet the wage-linked liabilities.” They make the remarks in The Agenda, a look ahead to 2003.
They also discern a conflict at the heart of pensions provision, saying the needs of companies’ capital investment plans are at odds with the requirements of pension contributions.
“Equity investment leverages the business, creating the need for cash injections to the pension fund at exactly the time the business itself could be doing badly,” they say. “This is why pension accounting had to change – although FRS17 is unlikely to represent the last word.”
FRS17 is a new accounting standard that takes a snapshot of a pension fund’s liabilities.
“Cash accounting drove a wedge between shareholders (who want the business’s risks managed) and management (who want low cash).”
Actuaries are under fire at the moment, with newspapers calling for the profession to face the same scrutiny as accountants did following the Enron collapse. For its part, the Actuarial Profession says it has been “exploring the introduction” of compulsory peer reviews.