Valuations in a Covid-19 World

Trustees facing funding valuations in 2020 have a lot to think about.

Schemes have gone from a relatively healthy funding position at December 2019, to the depths of late March, to a recovery of sorts at the end of June as equity markets recovered but gilt yields remained stubbornly low. The impact on individual schemes is heavily dependent on their hedging position and the skill of their managers over an extremely volatile period.

Employer covenant also remains a big unknown for many – the range of impacts is enormous and, while many now have a better idea of the medium-term impact of Covid-19, many are looking at a very difficult 2021 as they are faced with repaying significant debts to HMRC and other creditors.

Another significant issue is engaging with all parties virtually, particularly for more challenging discussions. It may also be the case that contacts at the sponsor have been furloughed, which can delay the provision of information to the trustees or hold up discussions for a period.

Many schemes who did see a deterioration in their funding position are taking their time. Initially, this was to give the employer a period to work out how to survive. Once they got through this, it was felt necessary to allow time for conditions to “normalise” so that decisions could be made against a backdrop of some stability.

Take control of the process

The danger of waiting too long, of course, is that we are rapidly approaching Brexit with little prospect of getting a deal, while also being exposed to the risk of a nasty second wave of Covid-19 as we go into the Autumn. It is, therefore, essential for trustees to take control of valuation processes now by:

Looking to the long-term – what is the scheme aiming for and, with schemes maturing quickly, how long have the trustees got to get there before the scheme’s outflows are larger than income? It will be increasingly important to benchmark the answer to this question against TPR’s new Funding Code.

• Revisiting key investment decisions – what level of risk is appropriate following changes to the employer covenant (positive or negative) and what protection does the scheme have against a bad Brexit outcome or a second wave?
• Considering affordability – what level of contributions are affordable in the “new normal”? Assuming they are much lower than before, then what security or contingent assets could be used to support the scheme?
• Finally, squaring the circle – taking all of the above into account, is there a funding strategy and set of actuarial assumptions that work for the scheme?

As a trustee with an actuarial background, it pains me to say that the last piece is probably the least important in current conditions. Even the impact of future longevity trends pales into insignificance against the investment risks for most schemes. However, it is important for schemes to have up-to-date funding information – without this, it is next to impossible for trustees to get through a 2020 funding valuation.

From a trustee perspective, this period has reminded us of the importance of planning, in particular integrated risk management and long-term journey planning, which have both been exceptionally helpful in responding to the crisis and successfully navigating 2020 funding valuations.

P.S. Sorry – but someone had to mention Brexit …