Coverage ratios at Dutch pension funds continue to plummet
Dutch pension funds’ coverage ratios plummeted by more than 3 percentage points on average over the first 10 days of February alone, according to consultancy estimates.
Edward Krijgsman, an investment consultant at Mercer, placed the decline at approximately 3 percentage points, resulting in a funding of 95% on average.
Aon Hewitt, using slightly different figures, estimated that ratios had dropped from 97% to 93% since the end of January.
Due to falling coverage ratios, Dutch pension funds increasingly face the prospect of early rights cuts.
Even at the end of January, the €356bn civil service scheme ABP and the €161bn healthcare pension fund PFZW were warning that they might be forced to implement discounts if their financial positions failed to improve.
The two large metal schemes PMT and PME issued similar warnings at the time.
Under the new financial assessment framework (nFTK), Dutch schemes are allowed to defer rights cuts if funding falls short of the required minimum of 105%.
If ‘topical funding’, however, falls to 90% at year-end, they must implement discounts, as they cannot recover to the prescribed funding of 125% within 10 years.
Mercer and Aon Hewitt estimated that Dutch schemes’ official ‘policy funding’ – the average of the topical funding over the 12 months previous, and the general criterion for indexation and rights cuts – will have dropped from 104% to 103% since January-end.
The drop in funding has been caused by a combination of falling interest rates and falling equity markets.
Mercer noted that the 30-year swap rate – the main measure for discounting liabilities – had dropped by 20 basis points to 1.06% in February.
“This means,” said Krijgsman, “a 4% increase of liabilities for the average pension fund.”
Referring to recent developments in Japan – where the central bank has introduced a negative rate for deposits, triggering a sharp drop in interest rates – Krijgsman suggested a similar situation was possible in the euro-zone.
“The interest paid on 10-year government bonds is quickly heading towards 0%,” he said, adding that the interest on German government paper with a remaining duration of 10 years is “merely 0.25%”.
He also noted that the MSCI World index had fallen by 8% in February, taking the overall decline to 13% since the start of this year.
He warned that pension funds with a relatively low interest hedge, as well as those with a relatively large number of younger participants, were particularly vulnerable to falling rates.
Mercer said it had noticed that several pension funds with an interest hedge of more than 50% were already anticipating a rate increase by “cautiously reducing the cover in small steps”.