Bank of England Chief Economist: Nobody understands pensions, including me

kidmugsy

xylophone wrote: »

More a case of trying to match assets to liabilities I think.

But that doesn't explain why many other schemes didn't do the same thing. We're trying to explain why the BoE scheme did something different from all the others, apart from the Boots scheme, when it didn't even have the same profit incentive as Boots.

caveman8006

I would just note that the table at the bottom of the telegraph article is nonsense - love to know how paying £1950 a month from age 50 will allow you to retire on £25,000 pa at age 55!!

PensionTech

love to know how paying £1950 a month from age 50 will allow you to retire on £25,000 pa at age 55!!

Simple. Jump off a bridge at 60...

jamesd

kidmugsy wrote: »

We're trying to explain why the BoE scheme did something different from all the others, apart from the Boots scheme, when it didn't even have the same profit incentive as Boots.

Did the BoE scheme really move from equities to bonds and stay with bonds at the same time as the Boots scheme? It did so later, at another time when equities had had a good run and when the BoE was about to act in ways that would increase the value of gilts.

It'd be interesting to see the history of the BoE scheme moves from say 1995 to present.

I don't run much of a pension scheme but I've been selling equities for a while now and buying fixed interest, though in P2P rather than bonds. But my interest is purely in my scheme.

kidmugsy wrote: »

Only if they ignored the remainder of Ralfe's policy. His whole point was that it was foolish to look at the pension scheme in isolation.

So far as I know Ralfe didn't advocate moving into equities when values were favourable for doing that. That's a fair bit of money discarded and there have so far been two opportunities for doing it, around 2003 and again around late 2008 and early 2009.

The pension trustees are not the backing firm and the balance sheet risk for the backing firm isn't their legal responsibility. Rather the opposite, they are expected to take over the backing firm or force higher contributions if that's what it takes to meet the scheme obligations.

I do agree that looking at just the pension scheme isn't sensible, though, the long term cost to the sponsoring firm also matters. And given senior management bonus schemes so can volatility - to the senior managers - that can reward them for decisions that cost the company money but help with their bonuses. Ralfe was head of corporate finance at Boots so he had pretty clear incentives for things that would reduce balance sheet volatility and he acted to reduce that volatility then to pay shareholders money based on reduced volatility expectation.

Firing Ralfe in 2002 made a lot of sense. He wasn't doing the right thing for the scheme, the company or its shareholders long term.

After he was fired, in 2004 the scheme initially started to cut the bond allocation in 2004 to buy equities to help match the long term needs of the pension scheme. With good timing for low equity prices, even though Ralfe was objecting.

kidmugsy

jamesd wrote: »

when equities had had a good run and when the BoE was about to act in ways that would increase the value of gilts.

Aha, you favour the insider trading explanation of the BoE's pension scheme's action.

jamesd wrote: »

So far as I know Ralfe didn't advocate moving into equities when values were favourable for doing that. That's a fair bit of money discarded

That's not his point: it's only the pension scheme that he wanted to hold bonds. But he looked at the whole system, company plus pension scheme. To balance things up the company could issue bonds. Bingo! The interest paid on the bonds it has issued count as a business expense and reduce its tax bill; meantime the bonds in the pension scheme accumulate the interest they earn tax-free.

Similarly, if the shareholders want equity investment, the company is free either to invest more in its own business (it has just borrowed money, after all), or to distribute capital to shareholders so they can buy equities themselves.

A hindsight argument that equities went up afterwards is worthless: if the company had distributed capital to the shareholders and they'd bought equities, they'd have been richer as a result. So no money would have been discarded at all. But executive bonuses might not have flourished; after all who cares about the shareholders when the question of executive bonuses arises?

Put otherwise, what possible reason is there to suppose that the Boots scheme managers would have been better equity investors than the shareholders themselves would have been? How could the managers possibly align their interests with those of each individual shareholder? Does one really invest in a chemists chain so that it can run a pension scheme that is intended to act as an amateurish investment trust?

RickyB2000

I think moder pension wrappers are easy to understand, as long as you just pay into your work scheme and then take out the other end. The second you start trying to do things like find a personal pension or say contribute to one after drawing a pension, things start getting much more complicated. Though considering how many people come on here about how to claim tax back for HRT payers in SIPPs, it shows even the relative basics are not easy to understand.

Then there is the investments themselves. As for most people this is their only exposure to things like stocks, bonds, funds etc, this will add to the perceived complexity of a pension. Even in a work scheme where you pay into a default fund, I wonder how many have actually looked at whether what they are paying into is suitable for their aims. If they did, I wonder how many would actually understand what they were looking at.

jamesd

kidmugsy wrote: »

Aha, you favour the insider trading explanation of the BoE's pension scheme's action.

I favour the trustees being well aware of central bank responses and policies and astute at knowing what is likely to come next.

kidmugsy wrote: »

A hindsight argument that equities went up afterwards is worthless: if the company had distributed capital to the shareholders and they'd bought equities, they'd have been richer as a result.

What the shareholders invest in doesn't have an effect on the deficit or otherwise of the pension scheme. It's the pension scheme trustees that are responsible for the investment choices and the money they have is not normally money that is at the disposal of the shareholders. One aspect of what Ralfe did was in effect treating the pension scheme money as the money of the company, not money in trust or the members of the scheme. A variation on the Robert Maxwell theme, playing the pension pot for the benefit of the company and its shareholders, not the pensioners, but of course not illegally.

kidmugsy wrote: »

Does one really invest in a chemists chain so that it can run a pension scheme that is intended to act as an amateurish investment trust?

The pension scheme is not supposed to be run by the company. One of the failures in the Boots situation was the company in effect taking over running of the scheme from the trustees and picking investments for the benefit of the company and it's shareholders and perhaps senior management.

hyubh

jamesd wrote: »

I favour the trustees being well aware of central bank responses and policies and astute at knowing what is likely to come next.

<snip>

One aspect of what Ralfe did was in effect treating the pension scheme money as the money of the company, not money in trust or the members of the scheme. A variation on the Robert Maxwell theme, playing the pension pot for the benefit of the company and its shareholders, not the pensioners

Whether investments are cleverly managed or not is irrelevant to DB scheme members, in principle, because what they will get has already been determined. Correspondingly, DB (unlike DC) ordinarily involves the running assumption of a sponsoring employer standing behind the scheme to inject money when needed. How the sponsoring employer decides to fund its DB promises, traditionally, was therefore a matter for the sponsoring employer, and the nature of actuarial valuations of DB schemes strongly reflected the fact. One way to look at this is that the unfunded public sector schemes are just DB in its purest: the 'sponsoring employer' is the ultimate 'sponsoring employer' with the strongest possible covenant, and it has decided to make use of this fact by not funding its DB promises with dedicated investments at all.

Once you take out the assumption of a sponsoring employer with a strong covenant, however, then the riskiness of pension fund investments now does, by definition, become a concern of the DB scheme member. Again, this is not about performance of the fund, of how well it might have done if 'cleverer' tactics had been employed, but of how confident the member can be that the DB promises already made will be kept.

kidmugsy

jamesd wrote: »

I favour the trustees being well aware of central bank responses and policies and astute at knowing what is likely to come next.

It wasn't insider trading, m'Lud, it was being well aware and astute.

jamesd wrote: »

One aspect of what Ralfe did was in effect treating the pension scheme money as the money of the company, not money in trust or the members of the scheme.

But it's the company that has to pick up the tab on any shortfalls in the scheme. So it's no use pretending that they are entirely distinct entities. In fact, it could be argued that the whole Cult of the Equity in pension schemes is an attempt to punt on equities in hopes of sparing the company the expense of pouring money into the scheme. By a happy accident of timing, this did very well for decades - the decades of increased inflation in Britain and much of the rest of the developed world.

kidmugsy

uk1 wrote: »

Bank of England Chief Economist: Nobody understands pensions, including me

If you google

What’s so complicated about pensions, Andy Haldane?

and click through, you'll find The Blessed Merryn beating Mr Haldane about the head with her Sensible Stick.