EUROPE - The European Central Bank's recent decision to increase interest rates by 25 basis points was greeted with fear by some, speculating it would exacerbate the sovereign debt crisis, open arms by others who believed it would allow some countries to clearly outperform others and indifference by pension funds and consultants.
Coming out of a deep recession that reduced coverage ratios and caused some schemes to lose 20% of assets in a single year, pension funds had begun to recover in the last 12-18 months. They had also, however, been expecting the rate rise as an inevitable move by the ECB and were therefore prepared for it.
Paul Duijsens, principal at Mercer Netherlands, believes the short-term impact of increasing the interest rate from 1% to 1.25% will be minor, pointing to the fact the long-term interest rate is of far more importance to Dutch pension funds in particular. "We saw that the long-term interest rate didn't react to that short-term interest increase because most market parties have already foreseen this move," he said, speculating that the psychological effect of the rate hike would be more noticeable than any financial change.
Denis Lyons, senior investment consultant at Aon Hewitt in Ireland, takes a similar position, arguing that any increase will not bring about a "huge" change for schemes. But he concedes that, due to the high exposure of most of the countries' pension funds to overseas equities, there will be a knock-on effect. "It's probably had a slight negative effect on the asset side of the equation for those schemes that have not hedged their overseas exposure," he says.
Lyons also points to Irish schemes' reliance on the long-term interest rate for calculating liabilities as the reason why bank president Jean-Claude Trichet's decision will not impact funding immediately. Yet he acknowledges that these had already risen when the ECB first began to indicate that any future rate increase would be the first of many.
Both Duijsens and Lyons believe that if schemes have yet to hedge certain exposure, now is probably not the best time to remedy this oversight. Duijsens in particular says that the lack of correlation between the short and long-term interest rate means this may not even be necessary. He does, however, warn of one knock-on effect from the increase. "As we have seen in 2008, there could occur a flight to safety, rendering more pressure on the long-term interest rates," he says.
So, while some have said this may indeed be the end of the world as we know it - with rates to rise slowly above the record lows at which they have hovered for the last three years - pension funds echo the lyrics of that well-known song and say they feel fine.