The Government has given its clearest indication yet that it will not bail the pension industry out ...
The Government has given its clearest indication yet that it will not bail the pension industry out of its funding requirement problems.
Speaking at the NAPF conference held recently in Glasgow, Mike Williams of the UK Debt Management Office said that while the Government was planning to do its best to maintain liquidity in gilts, it would not artificially aid the market in order to help pension funds.
Although net Government issuance of debt has been negative for two years, projections indicate it will need to borrow more in the coming years.
Williams admitted to doubts as to whether net issuance of debt would meet the future demands of pension funds. Pension funds' reliance on gilts has grown from taking around 20% of a buoyant market in the mid-90s to 90% in the last two years as net issuance has receded into negative territory. However, Williams stressed the market would not be propped up if the Government did not need to raise revenue.
He said: "Government will go on trying to maintain a healthy gilts market but it is difficult to see why any Government would go on issuing gilts just to maintain pension fund stability."
Williams said the UK Debt Management Office would concentrate on issuance of longer gilts and restructuring the Government balance sheets. Foreign exchange liabilities and debt buy-backs were projected to be around £3.5bn in 2000-1.
Simon Pilcher of M&G Investment Management responded to the shrinkage in the gilts market by promoting corporate bonds. Corporate bonds have a market cap equivalent to 70% of the gilts market and Pilcher said they should be treated as a serious asset class.
He blamed the MFR minimum funding requirement (MFR) for reinforcing a bias towards gilts because it deems that gilts are the appropriate matching asset for pensions in payment. He said trustees were misinterpreting guidance and increasing risk by going overweight equities rather than corporate bonds.
He said: "Even under the current legislation the first risk position that a pension fund should introduce is to overweight corporate bonds and underweight gilts. The extra return per unit of risk is much better for corporate bonds than for equities."
Pilcher accepted the need to have gilts in the portfolio but he was bullish over the ascendancy of company debt, noting the shift of pension funds into bonds was more marked. Corporate bonds outperformed gilts in 10 of the last 12 years, underperforming only in 1989 (by 1.9%) and 1998 (by 3.8%), he said. Pilcher told delegates that corporate bonds were not risky when the issuing company is of investment grade.
Credit risk runs from AAA down to B and BB. The average credit rating of a FTSE 100 company is A but highly rated firms like BSkyB, Energis and Colt telecom fall below the investment grade despite being FTSE 100 constituents. This is because, while their share performance has been bullish over recent years, their stability and liquidity is not guaranteed, he said.
Pilcher said: "Investment grade corporate bonds can be thought of as those issued by only the bluest of blue-chip companies. Many FTSE 100 companies are not of this grade. They may have produced high equity returns but they are risky bond issuers."
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