Trustees Should be Clear on their Hedging Strategy

The recent rise in long-term gilt yields, and the increasing predictions around rising inflation and possible Bank of England rate rises, all highlight the need for trustees to be entirely clear on their hedging strategy.

It is worth noting that rising long-term interest rates are not in themselves a sign of falling liabilities. What is critical is the nature of the liabilities. As the majority of UK defined benefit liabilities tend to be inflation linked, one needs to look to movement in long-term index linked yields to understand whether the funding position is getting better or worse. Generally the path here has been less comforting.

Without doubt this is one of the more complex areas that trustees need to deal with. It is best to stick to principles rather than re-thinking ones approach on every piece of news. The key considerations are:

1. Are you clear on what our hedging position is and why? Do you have a low hedge, medium hedge or high hedge?
2. Are you clear on what impact the swings have been having on funding level/deficit?
3. When was your hedging strategy last reviewed?
4. Does it make sense to review now?  
5. To the extent you have high levels of hedging in place, are you clear on nominal hedge versus real hedge?  
6. Are you clear on collateral position and that you have sufficient liquidity to cover any possible cash calls?  
7. When was the shape of the hedge last reviewed? Have there been material profile changes since, such as ageing, transfer values etc.? Is now a good time to update?

Has your investment consultant reached out on these issues?

If the answer is ‘no’, it may make sense to ask them for their views and what they think you should be doing.