Predictions for 2008

Ian Pittaway, senior partner, Sacker & Partners
The majority of salary pension schemes are now in long-term run-off and managing that risk will be high on the agenda in 2008.
One key question concerns the buyout market and whether it can justify the optimism (and investment) and actually move up a few gears. Initial evidence suggests finance directors are expressing early interest but leaving their hands firmly inside their pockets when the quote arrives. Paternoster’s performance will be the barometer here for identifying whether an affordable alternative has arrived.
Another important issue is whether a market will grow up around the sale and purchase of pension funds. Citigroup got the ball moving with its purchase of the principal employer of Thomson Regional Newspapers. The decision was not motivated by a burning desire to acquire the business – but rather to lay its hands on a mature pension fund. Pensions Corporation also got in on the act to attain the Thorn, Threshers and Telent pension schemes.
The Pensions Regulator exercised its powers to appoint three independent trustees to the scheme’s board of trustees. This decision almost derailed the deal – although the acquisition eventually stumbled over the line. TPR will be concerned about the regulatory arbitrage contrasting the lower levels of funding of ongoing schemes – ultimately backed by the Pension Protection Fund – with the strict reserving requirements imposed on their buy-out competitors. TPR’s stance, supported by the government, will determine whether this new market flies.

David Seaton, director of consultancy, Rowanmoor Pensions
The campaign against the age 75 rule in pensions will pick up steam and challenges to the arbitrary age will be confirmed as ageist and against the European Directive on age discrimination.
This year will see the first pension scheme administrator being served an unauthorised penalty notice. This will bring home the importance of having a professional administrator to ensure such breaches do not happen.
Protected rights will be permitted inside SIPPs resulting in huge transfers out of life office funds to the benefit of the SIPP market.
Last year saw the acceptance of the first new self-invested pension product launched since simplification: The Family Pension Trust – a separately registered operator based self-invested personal pension scheme set up under trust for a limited number of individuals. In 2008 I believe we shall see more operators setting up their own versions.
The likelihood is that they will be known as Family SIPPs and sold alongside individual SIPPs.
Group personal pensions are now being branded group SIPPs even though the vast majority of plan holders only use the default plans. Indeed, the term SIPP is so widely used that most people have forgotten that it stands for self-invested personal pension. I believe the abuse of the term SIPP will continue, in spite of the regulator’s concerns over potential SIPP mis-selling.
We may even see the launch of the occupational SIPP, which will look just like a SSAS but adopt the “new” fashionable term SIPP.

Robert Talbut, CIO, Royal London Asset Management
After the turbulence in global markets throughout 2007, I believe the next 12 months needs to see a further
shift towards greater openness and transparency in both the structure of investment products and the way
in which the stockmarkets are regulated.
Regulators have two relatively near-term opportunities to support a more transparent approach. The first is through the current review of the listing regime in the UK and the confusion surrounding the various ways shares can be quoted in the markets and the different standards that apply to them.
With the industry’s help I believe the regulator should be firmly and clearly protecting the current “gold standard” of a full UK listing and the different levels of scrutiny and corporate governance that apply compared to other forms of quotation in London.
Secondly, there is also an FSA review underway into the need to disclose derivative positions in UK companies. The hedge fund industry’s own recent report has advocated a move to greater disclosure, which would create a more level playing field with traditional managers.
However, I believe the FSA should implement a disclosure regime covering all derivative positions on an equal basis to cash positions and hence make a further stand for transparency and market integrity.
The ramifications of MiFID will continue to be played out in 2008, with the directive’s somewhat onerous criteria now creating both opportunities and competition for fund managers across Europe.
Finally, the credit ratings agencies will find themselves under the regulator’s microscope in 2008 as the aftermath of this summer’s credit-driven market turmoil rumbles on.
The psychological impact of supposedly safe AAA securities turning out to be nothing of the sort is likely to reverberate into many other corners of the financial markets and we will see what appetite the various regulatory bodies have for an interventionist approach here.
I would advocate that the agencies are removed from their pseudo-regulatory role within the industry and instead revert back to producing high quality transparent ratings which become but one of the valuation tools used by investors.

Jane Beverley, head of research and principal, Punter Southall
If you thought 2007 was a busy year in pensions, brace yourselves: 2008 is likely to be even busier! The big story within the UK will be the passage of the Pensions Bill through parliament. The debate should kick off early in the New Year with the second reading of the bill scheduled for January 7.
There are increasing signs that the consensus between the parties over personal accounts will be severely tested over the next few months. While the broad outlines of personal accounts are now clear, a number of items remain to be resolved. For example, will having a group personal pension exempt employers from the requirement to participate in personal accounts? EU legislation prevents employees being automatically enrolled into personal pensions, yet auto-enrolment is one of the key features that the government wants to see in exempt pension schemes.
The other significant area of debate in the Pensions Bill will be the scope of any deregulatory measures aimed at easing the burden on employers providing defined benefit schemes. So far, the government’s proposals are limited – the cap on inflation increases for early leavers is to be reduced from 5pc to 2.5pc. However, it takes a long time for a bill to pass through parliament, and amendments introducing further deregulation are possible.
Beyond the UK parliament, one of the main challenges in 2008 could come in the shape of the review of the EU Institutions for Occupational Retirement Provision (IORP) directive. This directive was one of the main drivers in the development of the UK’s new scheme funding regime. There is some concern that this review could be used to require pension schemes to hold a solvency margin over and above existing funding levels.
This could have a serious impact on those countries with substantial funded defined benefit pensions (in particular, the UK, Ireland and the Netherlands).

David Everett, partner, Lane Clark & Peacock
The regulatory deluge is unlikely to slacken off in 2008 and indeed may step up a gear from what we saw in 2007.
The department for work and pensions has to steer a new Pensions Bill through parliament. In the course of this we are likely to hear a lot more about personal accounts, but it is not yet clear how much will be set down in stone.
Sponsors of private pension provision will be particularly interested in the exemption conditions and the details of auto-enrolment.
The department for work and pensions should also finalise regulations giving trustees the responsibility to set transfer values (from October 2008), clarifying and extending the employer debt provisions (date unknown) and permitting GMPs to be converted into other types of benefit. The last of these, although sounding very technical, might enable wholesale simplification of past service benefits.
The complexity of delivering pensions tax simplification via a codified system continues to demand close attention.
Since 2004, each finance act has contained measures that modify, clarify and correct the original design. Finance act 2008 will be no exception. And, as before, a number of regulations will flesh out the detail not to mention more online guidance and pensions tax simplification newsletters to attempt to explain it all. Is it time to simplify all this simplification?
Finally, the courts will no doubt have their say, throwing up into the air previously accepted nostrums – 2007 saw Dubery (wind-up priorities) and Lindorfer (actuarial factors) to name but two.
One thing is for sure. For those who enjoy reading regulatory material, 2008 is unlikely to be a disappointment.

Ian Cadby, CEO and CIO, Ermitage Group
What we have witnessed in 2007 is a fundamental breakdown within the capital markets system, which has had and will continue to have a sizeable impact on corporate balance sheets, real estate and private consumption across the world.
The low interest rate and low-volatility environment generated from the aftermath of the 1999-2003 equity bear market caused investors to chase IRR and consumers to consume (mostly by re-mortgaging their property).
Last year was the time to “pay the piper” and when investors looked at the real value of their assets, they realised even their money market funds were not as they seemed, and our bluest of the blue investment banks realised their balance sheets were also an illusion. Citicorp write downs, Northern Rock insolvency, Bear Sterns, the list just goes on and on.
But what of the future, what is 2008 likely to bring investors?
We predict the following scenario is likely to unfold:
- Equity markets will struggle to beat cash and may post declines as the real economy is hit by the credit and liquidity crunch seen in 2007
- Led by the Fed, central banks will react by making a series of meaningful interest rate reductions to bail out both homeowners and businesses
- Volatility in equity and yield curve will occur – which will be good news for several hedge fund strategies. Indeed, we believe despite an uncertain environment 2008 will see some excellent returns for a number of hedge fund strategies
- Hedge fund strategies we like are:
- Fixed income arbitrage (as the yield curve steepens)
- CTA/macro traders (benefiting from strong trends in currencies, commodities and equities)
- Credit arbitrage and quant market neutral (capitalising out of some severe dislocations in prices across credits and equities)
- Trading mindset long/short
- Hedge Fund strategies we will underweight:
- Merger arbitrage
- Classic, net long long/short
- Distressed (underweight until cycle is more advanced, possibly late 2008).
So, an exciting year is predicted for 2008 with plenty of challenges for central banks and the capital market system in general. New approaches will be generated for pricing credit and consolidation will be seen in the banking sector.
Equities will likely struggle for most of 2008, but hedge funds will by and large exploit the steepening yield curve, dislocation in asset pricing and certain trends in currencies.

Mark Wood, chief executive, Paternoster
Last year we saw some really quite large companies begin to explore the buy-out market. In our view, the benefits of transferring pension scheme risks to a regulated insurance company will be greatest for mid-cap companies.
Nonetheless, while it was unthinkable this time last year, we could see several pension schemes – including those of FTSE100 companies – with liabilities approaching £1bn evaluating the buyout option.
The extent to which the momentum in the defined benefit risk transfer market accelerates into 2008 will be dictated by interest rates and developments in equity markets.
High real interest rates and relatively strong equity markets combine to reduce deficits and as a result of this many firms can achieve risk transfer without the commitment of “new cash”.
Whilst there continue to be one or two who are sceptical of the potential of this market, the vast majority of employee benefit consultants have now established specialist units and are actively working with clients to ensure that the best interests of their pension schemes are fulfilled.
The Pensions Regulator has made clear their views on non-insured solutions for defined benefit risk transfer. We would expect that full or partial buy-out with a regulated insurer will continue to be the most appropriate way to de-risk a pension scheme.

David Skinner, head of research, Morley
Morley believes the pricing of UK commercial property is starting to look attractive relative to some other asset classes and we are comfortable we are back into the position where the medium to longer-term prospective returns from UK commercial property sit between equities and bonds.
Prices in the UK commercial property market have fallen by around 15pc since their peak in June. This is despite the underlying occupational markets remaining in a healthy state with another year of around 3-4pc per annum rental growth following similar growth in 2006.
The current pricing of properties in the market will deliver income returns of over 5pc and with income growth expected to be pretty close to inflation property is looking attractively priced compared to index-linked gilts (with real yields of less than 2pc) and increasingly attractive relative to other asset classes too.
This is starting to feed into asset allocation decisions. In addition, the UK, which continues to have the most attractive lease structure and most transparent property market in the world, is becoming more attractive relative to other property markets elsewhere around the globe as a result of the recent fall in capital values.
There remain short-term risks to the downside, either from adverse sentiment and/or from an economic recession. However, the likelihood of the latter is low given the lack of a significant inflation problem and the flexibility the monetary policy committee have to cut interest rates should economic activity slow sharply.
In Europe, while occupier fundamentals remain sound, the ongoing credit crisis has led to considerable uncertainty over recent movements in property prices. The credit crunch is acting to reduce the availability and increase the cost of credit for real estate investment and investor demand for European property is weakening as a result.
Yield compression appears to have drawn to a close and yields are drifting higher in some markets. With yield compression ending, income growth will become the key driver of future property returns and returns are expected to be lower than in recent years.

Martin Potter, partner, Hymans Robertson
Trying to divine what the future holds for UK pensions is never a straightforward business. However, the government’s big pensions idea for the last 18 months has been personal accounts, and all signs suggest 2008, and the years leading up to their implementation in 2012, will be no different.
As the December 2007 Pensions Bill progresses towards enactment, there will be much debate on its content in parliament, within the pensions industry and in mainstream work and home life. However, the bill doesn’t contain much detail about the personal accounts scheme, the particulars of which will be sketched out by regulations or rules made by trustees.
Regulations will also be necessary for other purposes. For example: which schemes will be acceptable as alternatives to personal accounts; how the automatic enrolment and contribution obligations will be phased in; whether (and if so, which) employers will be allowed to apply a waiting period for automatic enrolment into their own sponsored arrangements; and how the government will get around the difficulties with auto-enrolment and group personal pension arrangements. It might be optimistic to expect any of these details to be finalised in 2008.
2008 should see finalised versions of regulations amending employer debts and transfer values. Although the changes to both were initially scheduled for April 2008, the new transfer value legislation has already been pushed back to October. These are both important pillars upon which UK pensions are based.
An announcement on simplification of protected rights is overdue but since the department for work and pensions is still agonising over the rules on survivors’ benefits it doesn’t seem likely that the outcome will be at all straightforward.
As far as the outlook for pensions regulation in 2008 is concerned, nothing is written in stone. However, if previous years are anything to go by, we will witness a change of personnel at the department for work and pensions at the very least.

Neil Dwane, chief investment officer, RCM
In 2008 we will, at first, see global economic growth driven by urbanisation and industrialisation of emerging economies, such as China and India.
This will be juxtaposed against the slowing economies of the US, Japan and UK. Within this two-headed theme, there will be continuing dislocation in banking, credit and financial markets.
The underlying economic growth of emerging markets will remain robust as the secular, social and political needs for growing prosperity are paramount. A slow-down or recession in the US, as well as some currency revaluations, will only take some froth away from this growth. The demand for luxury goods at one end and better dietary foods at the other will continue unabated. Additionally, these economies are increasingly financially strong and can afford a weaker US economy for a while.
The prognosis for the US economy is poorer. The slowdown in the housing market will affect confidence and consumer spending.
However, the weakness of the dollar will allow some mitigation of its trade deficit, meaning the US will become more competitive. With the number of mortgage resets increasing in the first half of 2008, it is prudent to expect further weakness in US housing and consumer markets.
Europe is well placed, with the exception of financials, offering much corporate restructuring potential, as well as exposure to the growing Central and Eastern Europe and Russian markets which underpin some of the expected growth.
Demographic and eco/environmental trends will continue to dominate corporate, political and investor agendas, and will offer attractive investment opportunities. For equities, we expect to see further M&A activity as industries move towards global markets.
We expect positive returns but performance will be driven by stock picking skills rather than a rising tide of markets, which we have seen up to now.
Quality and strategy will win as investors become more discerning.