The Schroders’ move, expected to be wrapped up in early 2006, comes amid an increasing trend within the UK pension industry to turn away from equities and move toward fixed income investments that more closely match the funds’ long-term obligations to beneficiaries, the Financial Times reported.
The switch is being largely driven by new accounting rules to make sure companies annually report the current value of pension fund liabilities. This is forcing many UK companies to focus on the widening gap between the value of pension fund assets and liabilities.
The large component of equities in traditional pension fund portfolios means that the gap between assets and liabilities can fluctuate sharply, affecting company contribution rates and strategy.
In October, WH Smith’s £870m pension fund adopted this approach, switching the entire portfolio into derivatives to eliminate the risk that long-term inflation and interest rates posed to its fund.
In the past, like most pension funds, the Schroders fund – which doesn’t face a deficit – adopted a benchmark of equities and bonds, and assessed portfolio risk with reference to this benchmark. However, Alan Brown, Schroders’ head of investment, told the Financial Times that this model was “flawed”.
“The great majority of our governance effort is devoted to controlling risks from the portfolio to the strategic benchmark,” he told the newspaper. “Only intermittently do we consider the much larger risks from our strategic benchmarks to the liabilities our pools of capital are intended to meet.”
Under the new arrangement, about 35% of the Schroders portfolio will be invested in derivatives and bonds designed to match liabilities. The remainder is being put into a range of alternative investments, officials said.