Defined benefit pension funds could be hit hard should the European sovereign debt crisis create a re-run of the credit crunch, according to the latest Pension Risk Transfer Index, published today by Pension Insurance Corporation.
Should Gilt yield fall back 30 bps and equity markets drop 20% following a sovereign default, deficits could grow by 45%, costing an estimated £190 billion, placing additional strain on corporate sponsors at a time when the economic outlook is uncertain.
However, despite the weak economic data and the current divergence between fixed income and equity markets, including seeming strains in the inter-bank lending system as trust weakens, pension insurance is at its most affordable since the summer of 2008 – just prior to the collapse of Lehman Brothers.
Pension fund trustees should therefore review their potential exposure to a sovereign debt crisis. General market activity seems to reflect a more cautious approach, and many risk transfer processes are underway with pension funds worth an aggregate £25 billion seeking to transfer risk.
David Collinson, Co-Head of Business Origination at Pension Insurance Corporation, said: “The clear divergence in market outlook between the fixed income markets and the equity markets should be of concern to trustees. We saw the same thing in summer 2007 and 18 months later, in March 2009, pension fund deficits had widened significantly due to plunging asset markets and volatile liabilities. Significantly, this was exactly the point when around 40% of pension funds went through their triennial valuations.
“Trustees should consider how long equity markets can continue to rise, especially given the red lights flashing in the fixed income markets and perhaps review what they might have done during the summer of 2007 with the benefit of hindsight. We estimate that deficits could be pushed out by 40% following a sovereign default, a situation which is not beneficial for trustees, sponsors or pension fund members.”
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