Andre Keijsers, Van Lanschot Kempen Investment Management
With over 5,000 defined benefit schemes in the UK, we recognise that one solution doesn’t fit all when it comes to considering end game options beyond transferring the entire scheme assets and liabilities to an insurer. Yet now, more than ever for well-funded schemes, there are other, increasingly attractive options.
Our protected run-on solution, FM+, has a broad range of use cases and in this article we outline a hypothetical but very realistic situation in which both the sponsor and DB members benefit from the current and future value within the pension scheme. In our example, the scheme chooses to run on, taking advantage of various additional components that we can offer to meaningfully mitigate risk.
This case study relates to a private sector pension fund considering its options. It is a DB pension scheme with just over £3 billion in assets. It is 100% funded on a buy-out basis whilst investing at a target return of gilts +1.25% pa. The sponsor is a privately held business which has injected around £500 million into the scheme over the last 10 years, and the scheme itself is very large relative to the ongoing activities.
Buyout has long been the trustees' objective and they are looking at quotes which require an approximately £60 million additional cheque from the sponsor that would offset the effect of haircuts on remaining illiquid assets which would be necessary to execute a transaction.
As is increasingly common, the sponsor would commission its own advisors to review the transaction and historically, they too would typically lean towards an insurance buy-out.
However, given the substantial value in the scheme, we would instead propose our protected run-on solution, FM+. This would allow the sponsor to release part of this value whilst at the same time, working to ensure that DB members would receive discretionary increases, all in a controlled risk environment.
We would pair FM+ alongside an insurance buy-in to reduce the scale of the pension risk to an acceptable level in the context of the size of the current business, all whilst retaining £1.5-2.0 billion of invested assets from which to generate ongoing returns. Alongside third-party security (arranged separately with a major re-insurer) added over the covenant to support a strategy targeting gilts+2.0% p.a., the sponsor would expect to run the scheme on for a further 10-15 years, and windup when it reaches significant maturity.
If, as anticipated, a further surplus is being generated, DB members would regularly receive discretionary increases, estimated at circa £100 million. And finally, as the sponsor has deep ties to the UK, this enables the scheme to direct a material proportion towards productive assets (such as UK infrastructure) and UK capital markets (such as UK-focussed SMEs, including listed and unlisted equities and debt).
Off the back of this approach, the sponsor expects to be able to complete a full buy-out whilst leaving more than £500 million in excess assets at the point of significant maturity. Even after allowing for tax consequences and the discretionary increases, the sponsor expects to recoup a substantial amount of the contributions made to date, in addition to the discretionary benefits provided to members.
One of the key elements of deciding to reap the benefits from running on for both sponsors and trustees is downside risk, and how this can be managed.
If both stakeholders of a well-funded scheme agree that a proposed solution controls the relevant risks (including, for example, longevity), then both parties can work constructively to share any available and future surplus, and make a difference for members and the sponsor alike, all whilst ensuring that after a productive 10-15 years, they execute a more economical buy out.
To learn more about FM+ visit our website
Contact us:
Andre Keijsers
Head of UK/Head of Institutional Client Management & Origination
+44 79 23 24 35 37
Vicky Casebourne
Head of Institutional Relations – UK
+44 20 36 36 94 18
About Van Lanschot Kempen Investment Management
Van Lanschot Kempen Investment Management is a specialist investment manager with a focused approach and a clear investment philosophy. We believe in long-term stewardship for our clients and other stakeholders. Van Lanschot Kempen Investment Management provides sustainable returns, fiduciary management services, manager selection, portfolio construction and monitoring, alongside a number of actively-managed investment strategies. As of 30 June 2024, Van Lanschot Kempen Investment Management had a total of €112.9 billion in client assets.
Disclaimer
Capital at risk. The value of investments and the income from them can fall as well as rise and are not guaranteed. Investors may not get back the amount originally invested. Past performance provides no guarantee for the future. This article does not constitute an offer or solicitation for the sale, purchase or acquisition in any other way or subscription to any financial instrument and is not a recommendation to perform or refrain from performing any action. Van Lanschot Kempen Investment Management (UK) Ltd is authorised and regulated by the Financial Conduct Authority (Firm Reference No. 166063).
