Investment Pensions

Coping with the new (ab)normals

In this surreal and unsettling world dominated by changes to cope with COVID-19, the term “new normal” has gained common usage. In so many ways the norms around the way the world operated before the virus struck will no longer apply until it is beaten.

Initially, it was hoped that the impact on our way of life might be both limited and relatively temporary. It now seems likely that change will be both extensive and long-lasting. The difficulties have been exacerbated by the speed at which responses to the emergency have been necessary, leaving many struggling simply to keep up, let alone get ahead of the curve and start planning for a changed future.

Pension schemes, with their challenging mixture of long, medium and short timescale issues, appear to have responded well to the past weeks’ disruption, focusing on important short-term administration priorities. In particular, they have generally been able to provide an uninterrupted service to members approaching or in retirement, crucially ensuring that they receive the benefits due to them.

Phase two

But given the fundamental changes in the way the world operates becoming embedded for the foreseeable future, pension schemes will need to review all aspects of their operations, both currently and with an eye to the future. Good governance principles dictate that the process should begin now.

Underlying fundamentals will continue to change apace, so schemes will need to adopt a process of regular and more frequent reviews and be ready to change as and when needed, to continue a high-quality service to their members. Given their close relationship, it will also be important that schemes work closely with sponsors, and take the initiative in helping employers identify and address pensions issues that affect their business.

Current issues

There has been a lot of useful guidance from the government and regulators to help schemes cope with the initial challenges which arose at very short notice. The Pensions Regulator, for example, has instituted a practice of publishing papers on specific issues, and their website should be consulted regularly for the latest updates.

With a focus on ensuring that necessary day to day business is maintained, they identified a number of high-level key issues upon which schemes and employers should initially focus:

  • benefits need to be paid
  • the risk of scams needs to be minimised
  • employers need to continue contributing
  • savers need support to make good decisions in these challenging circumstances
  • some administrative breaches of the law may occur and they will maintain a proportionate and fair approach to any action they may take.

They have published a number of papers on specific issues, and are continuing to publish more as the impact of the virus and the response of government and other relevant organisations becomes clearer. [1]

Moving on

Most schemes have probably been focusing on these as part of their immediate response to the crisis and will by now be on top of them. If not, this must be the first priority. However, returning to full, planned, control of the scheme in the new environment as soon as possible is the next priority.

There will be many issues to rethink, and no doubt as the world exits out of lockdown and into the daylight the number of issues will continue to grow and evolve. This will require schemes to adopt a higher level of governance review activity as part of regular business, combined with the capacity to implement swiftly any identified necessary changes. There will be a need for a skillful approach to ensure a balance between making changes that are needed while not upsetting fundamentals that provide the necessary stability and need to remain in place.

This increased pace and breadth of governance activity will be a step up from the traditional approach of a more measured pace that hitherto may have been deemed appropriate.

Likely disruptors

Some of the issues potentially affecting schemes in this new environment and which will need to be kept under review are:

  • Sponsor difficulties. Businesses will have to cope with cashflow issues, changed marketplaces and customer bases, bringing employees off furlough and possibly implementing redundancy programmes, with changes in the organisation and duties of the remaining workforce (including those responsible for the pension scheme) and even remuneration package changes
  • DB scheme funding issues. Deficit repair contributions deferred under the Regulator’s temporary easement will need to be made up, and future funding plans will need review, whether or not that results in any changes. The crucial issue of the sponsor’s covenant strength will have to be revisited, in light of the new economic conditions in which the sponsor will be operating
  • Actuarial issues. In the volatile and unpredictable new world, assets will be more difficult to value, and over time there may be longer-term impacts generally or specifically to the scheme’s membership and longevity expectations. The new environment may also impact plans for scheme buy-ins or buy-outs
  • Investment issues. These are likely to be widespread and fundamental, requiring close attention, whether the scheme is DB or DC. Equity and bond markets are likely to be volatile for a long time to come, and interest rates may well remain at historically very low levels. The practice of abandoning dividends, which has already started, may continue for several years. All this comes on top of challenges already identified, such as the need for the UK to adapt to trading as a nation outside of the EU, and to the growing emphasis being placed upon “green” issues. In the latter case, there are already calls for the post-COVID world economy to rebuild to a more eco-friendly model, which if heeded will bring significant further changes to the way businesses operate and the profitability of certain businesses and sectors.
  • Keeping members happy and on-side. Members will be worried about the safety of their benefits and confused about how they should react to the uncertain and changing financial world around them. Schemes will need to redouble their efforts to communicate with members and provide assistance, guidance and sometimes advice, to protect them from making poor decisions or from falling victim to scams. Employers may also reconsider the size and structure of pension benefits if the government makes significant changes to pension-related tax reliefs and the state pension scheme in their search for more income. Effective member communication will be essential.

Adapting to the new world

All of this implies an increased workload – and costs – for schemes. The most successful schemes in the new normal world will be those that have a close working relationship between all parties involved in running the scheme, and with sponsors. This will help schemes remain in control of their own destiny instead of being forced to react to events. It will also promote efficiency and avoidance of overlaps to help cost control – a key issue in a world where sponsor financials will be under intense pressure.

These combined management teams should review and if necessary reorganise their internal workings to ensure that no issues can fall through any holes, while also being a cost-efficient operation. Proactivity and flexibility will need to become watchwords.

Although all this involves more work, as with any change scenario, it also brings an opportunity to make improvements. Taking a step back to review how the scheme coped with the crisis should be instructional and provide a welcome confidence boost where things have worked well. For those areas that were less successful, the lessons learned should lead to a stronger scheme for the future. The review might also usefully look at how other schemes fared, identifying ideas that could be copied.

The new world may be full of new (ab)normals, but changing schemes to adapt may nevertheless yield some positive outcomes.

[1] https://www.thepensionsregulator.gov.uk/en/covid-19-coronavirus-what-you-need-to-consider