• Home
  • Admin/Tech
  • Benefits
  • Buzz
  • DB
  • DC
  • Diversity
  • Investment
  • Law & regulation
  • Risk reduction
  • Events
  • Whitepapers
  • Spotlights
  • Digital Edition
  • PPTV
  • Newsletters
  • Sign in
  •  
      • Newsletters
      • Account details
      • Contact support
      • Sign out
     
    •  

      You are currently accessing ProfessionalPensions via your Enterprise account.

      If you already have an account please use the link below to sign in.

      If you have any problems with your access or would like to request an individual access account please contact our customer service team.

      Phone: +44 (0) 1858 438800

      Email: [email protected]

      • Sign in
  • Follow us
    • Twitter
    • LinkedIn
    • Newsletters
    • YouTube
  • Register
  • Subscribe
  • Events
    • Upcoming events
      event logo
      Admin & Data Forum 2021

      This concise half-day event will explore a variety of different issues affecting scheme managers, through a combination of informative presentations and interactive panel debates, including GMP equalisation, the pensions dashboard, the accuracy and quality of members data and the latest trends in scheme administration.

      • Date: 04 Mar 2021
      event logo
      Defined Benefit Consolidation Conference

      Professional Pensions is hosting this concise digital event on the 25th March to provide a crucial update on where the current regulation stands on DB Consolidators, assess the different models available, what the expected funding levels are and the governance requirements. This event will be a combination of short presentations followed by live Q&A’s with our expert speakers allowing plenty of time to answer your questions.

      • Date: 25 Mar 2021
      • Digital Conference
      event logo
      Sustainable Investment Festival 2021

      The Sustainable Investment Festival will run online from 22-24 June and will include thought-provoking presentations from renowned keynote speakers, innovative breakout events and sessions specifically tailored to meet the information needs of fund selectors, financial advisers, pension consultants, trustees and scheme managers.

      • Date: 22 Jun 2021
      • Online, Online
      event logo
      UK Pensions Awards 2021

      The UK Pensions Awards – now in their 24th year – remain the industry's most prestigious accolades. They shine the light on excellence and recognise the advisers, providers and investment managers that offer the highest level of innovation, performance and service to occupational pension schemes and their members, and have done the most to improve this over the past year.

      • Date: 14 Sep 2021
      • London
      View all events
      Follow our Professional Pension Events

      Sign up to receive email alerts about our events

      Sign up

  • Whitepapers
    • How DC schemes can gain exposure to different asset classes in a low-return environment

      So far, DC plans have largely been focused on the onset of auto-enrolment and changes to the regulatory framework - be it the ‘charge cap,' ‘pension freedoms' or consultations around ‘value for money', says Annabel Tonry, Executive Director at J.P. Morgan Asset Management (JPMAM).

      Download
      Pension freedoms three years on

      In 2015 George Osborne, then the UK Chancellor of the Exchequer, decided that those age over 55 could take much more of their pension in cash. This has since opened up a range of possibilities for DC scheme members in the world of pensions.

      Download
      Find whitepapers
      Search by title or subject area
      View all whitepapers
  • Spotlights
  • Digital Edition
Professional Pensions
Professional Pensions
  • Home
  • Admin/Tech
  • Benefits
  • Buzz
  • DB
  • DC
  • Diversity
  • Investment
  • Law & regulation
  • Risk reduction
 
    • Newsletters
    • Account details
    • Contact support
    • Sign out
 
  •  

    You are currently accessing ProfessionalPensions via your Enterprise account.

    If you already have an account please use the link below to sign in.

    If you have any problems with your access or would like to request an individual access account please contact our customer service team.

    Phone: +44 (0) 1858 438800

    Email: [email protected]

    • Sign in
  • Investment

Are pension schemes prepared for political risk?

Are pension schemes prepared for political risk?
  • Charlotte Moore
  • 29 March 2017
  • Tweet  
  • Facebook  
  • LinkedIn  
  • Send to  
0 Comments

At a glance

  • Equity markets have remained strong despite geopolitical risks
  • If Trump delivers on campaign promises the US market should receive a boost though some believe this will be difficult
  • Diversification will be an important way to protect against geopolitical risk

Last year put geopolitical risk on the map for pension schemes. Charlotte Moore looks at how this can affect their portfolios

For decades geopolitical risk was a minor consideration for investors in the developed world. That all changed last year with the UK's decision to leave the European Union and the election of Donald Trump in the US. Investors are now paying careful attention to the upcoming European elections, nervous there could be further surprises.

But these increased geopolitical concerns are not reflected in financial markets. Equity markets remain buoyant on either side of the Atlantic, with the Dow recently breaching 20,000. Schroders portfolio solutions strategist Alistair Jones says: "Equity market valuations are at multi-year highs while volatility levels remain at very low levels."

Related articles

  • Embrace ESG sooner rather than later
  • Five ESG questions pension trustees should be asking
  • How would a higher minimum pension age change retirement planning?
  • The challenge of GMP equalisation continues

Does this lack of concern reflect a cognitive dissonance? Are markets ignoring political risk? Or have they decided this risk is overplayed and other factors are more important? Market signals are contradictory and appear irrational because there are multiple forces at play.

To understand why the market is behaving as it does, it's important to recognise that we are not living in normal times. Comparing current equity market valuations and volatility levels with historic precedent does not take account of the impact of ultra-loose monetary policy.

Quantitative easing has played an important role in underpinning equity market valuations, as investors have used equities as bond proxies, which has reduced volatility, says Jones.

Under the surface of the strong equity market performance, however, there are indications that investors are cognisant of political risk.

Fidelity International investment director Katie Roberts, says: "If you look at which stocks are performing well, it's evident that investors are not completely ignoring political risk - they are selecting more defensive stocks."

And while ultra-loose monetary policy still influences equity market valuations, there are signs that markets are starting to behave in a way that is more consistent with historic norms. "Equity markets are taking greater account of fundamental analysis and economic news than they have done," says Roberts.

The economic outlook and fundamentals are also improving, which provides support for financial markets. Henderson Global Investors head of multi-asset Paul O'Connor, says: "There is an almost Goldilocks-like situation at the moment: growth and inflation are neither too strong nor too weak, they are just right."

This provides just the right environment for companies to boost revenues and increase profits without the central banks having to increase interest rates rapidly, adds O'Connor who says the economic outlook is improving.

"Since the summer of last year, GDP growth, inflation and earnings forecast have all been upgraded, reversing the trend of the last five years," he says. In addition, this improvement is broad-based with all G20 economies growing.

Are markets rational?

While there are signs that markets are behaving rationally - strong economic growth and improving fundamentals provide some justification for the market's current valuation - not all market moves have been so rational.

US equity markets moved sharply up after Trump's election. Rather than worrying whether such a maverick president could create political stability, markets instead focused on his promise of fiscal stimulus.

If Trump delivers on his campaign promises, tax cuts and infrastructure spend should significantly boost the US economy. Markets reacted exuberantly to this news - at the time of writing, the S&P 500 has risen by 10% since the election.

But this optimism may be misplaced. Natixis Global Asset Management chief market strategist David Lafferty, says: "US markets are underestimating the political risk." The ongoing investigation by the FBI into the connection between Trump's team and Russia will, at the very least, continue to hang over his presidency.

In addition, US markets may be placing too much faith in the president's ability to deliver greater stimulus. Lafferty says: "The US does not have fiscal flexibility to deliver on Trump's promises."

Risks to the fiscal stimulus programme are starting to materialise. Trump may well prove to be too weak a president to enact forceful legislative change. Lafferty says: "The market thought this would be a post-gridlock presidency as the Republicans have a clean sweep of the House of Representatives and the Senate."

But US government is still grid-locked - now it is Republicans versus Republicans rather than Democrats versus Republicans. Lafferty says: "It's far from obvious that this government will prove decisive."

The initial signs are not reassuring. The first two forays into legislation have been unsuccessful. Lafferty says: "The American Healthcare Act, which would replace Obamacare, is dead on arrival." And Trump's 'skinny' budget, which slashes Federal spending, was also negatively received by the Republicans.

Trump's potential inability to deliver on fiscal stimulus is not the only political risk that markets are ignoring. Hermes Investment Management chief economist Neil Williams says: "Markets have focused on the positive aspects of Trump's pro-growth policies and ignored his protectionist promises."

While Trump's protectionist promises are not likely to curry favour with the Republican party, he may be able to enact these measures through executive orders, and not require Congressional approval.

Williams says that if Trump enacts his protectionist policies, there is a chance there will be retaliation which then spurs global, and ultimately, US stagflation. Williams says: "History teaches us that retaliatory protectionism is not good to growth and causes cost inflation."

The positive market reaction in the wake of the Trump presidency underlines the difference between the way equity markets are reacting to political risk in the US and Europe. Lafferty says: "Political risk is a bigger problem in the US than in Europe because the prices have already reflected the hope."

The S&P 500 is trading at over 18 times forward earnings while Eurostoxx 50 is trading at only 14 times forward earnings. Lafferty says: "There is a bit more of a buffer for political risk in Europe than there is in the US."

Volatility levels are too low in the US. Lafferty adds: "A late-cycle market with this level of political uncertainty hanging over it does not deserve a Vix level of only 11%."

There are signs that investors are starting to change their minds, with the US markets starting to sell off towards the end of March. Lafferty says: "This was the first significant hiccup in the post-Trump election period. We expect many more."

If US markets are currently underestimating the potential impact of political risk, have the European markets avoided this mistake? The lower price-to-earnings ratios for this market compared with the US indicate this might be the case.

The recent rejection of the far-right candidate, Geert Wilders, in the Dutch election could indicate that concerns over populism are over blown.

But it would be rash to jump to this conclusion, argues O'Connor. "The backlash against globalisation and inequality is a powerful force which is very strong."

While these forces did not result in a major upset in the Dutch elections and might not affect the upcoming French and German elections, they are likely to affect more significant political change in coming years, adds O'Connor.

"Political risk is here to stay and will play an important role in financial markets over coming years," he says.

While none of these factors have yet resulted in systemic risk, uncertainty will continue to overhang the markets and could reshape the macroeconomic environment in the future, he adds.

An overhang of political uncertainty presents a challenge to pension schemes: how should long-term investors factor this into their portfolio design?

Pension schemes can take short- and medium-term steps to insulate themselves from political risk. "Low volatility in equity markets has a major benefit for pension schemes - the cost of protection from equity market shocks is currently at a multi-year low level," says Jones.

Schemes could protect themselves from a 10% market correction by paying only 2.5% over the next year, adds Jones.

There has been a spike in interest in option protection mechanisms from pension schemes, coinciding with many pension scheme valuations happening either this year or next year, he adds.

Many schemes are motivated to lock-in the significant year-on-year equity market gains caused by the collapse in sterling since the result of the European referendum. Jones says: "It's seems a no brainer to use the exceptionally cheap option pricing to lock in these gains if coming up to an actuarial valuation."

Over the medium term, schemes should ensure they build resilience into their portfolio. O'Connor says: "Political risk is going to flare up more frequently than it has done in the past, which will cause market set-backs."

It will be difficult to predict where this risk will arise making diversification the best way to protect against this risk, adds O'Connor.

Pension schemes should also be aware that the weakness of Trump's presidency is not the only reason why hopes for fiscal stimulus leading to a more normalised interest-rate environment might be overblown.

Williams says: "Ultra loose monetary policy will continue, even if the economy improves." The major central banks are still running around $13trn (£10.5trn) of quantitative easing - it would be impossible without unintended consequences to reverse the position over a short period of time.

Many schemes have already acknowledged the reality that monetary policy will remain loose for a long time and adapted their portfolio design accordingly, says Williams.

  • Tweet  
  • Facebook  
  • LinkedIn  
  • Send to  
  • Topics
  • Investment
  • Schroders
  • Hermes Investment Management
  • Henderson
  • Natixis
  • Fidelity
  • Trump
  • QE
  • Charlotte Moore

More on Investment

Aviva also plans to have net-zero carbon emissions from its own operations by 2030
Aviva sets 2040 net-zero carbon target

Aviva has pledged to have net-zero carbon emissions across all of its investments by 2040.

  • Investment
  • 01 March 2021
Neil Woodford
Former Woodford founders spoke to FCA in 2015 about strategy concerns — reports

The Financial Conduct Authority (FCA) was made aware of concerns about Neil Woodford's investment strategy at his fund management business back in 2015, but did not act until nearly two years later, according to reports.

  • Investment
  • 01 March 2021
Tusa: 'The pathway to responsible investment starts with beliefs'
Embrace ESG sooner rather than later

Trustees must understand their starting position on ESG integration in order to set meaningful targets, says Lucy Tusa.

  • Investment
  • 01 March 2021
Kimberley LaPointe of PGIM Investments
PGIM Investments adds to fixed income ESG offering with total return launch

PGIM Investments has expanded its ESG offering with the launch of a total return UCITS bond fund.

  • Investment
  • 26 February 2021
Latest tender awards by the PPF
Tender Watch: PPF appoints seven providers for training and development services

Professional Pensions rounds up some of the latest tender awards from across the industry.

  • Investment
  • 25 February 2021
blog comments powered by Disqus
Back to Top

Most read

BT, Ford and M&S schemes granted extension for legal challenge over government's decision to align RPI with CPIH
BT, Ford and M&S schemes granted extension for legal challenge over government's decision to align RPI with CPIH
Rothesay secures £7bn of pension benefits
Rothesay secures £7bn of pension benefits
Chancellor Sunak 'likely' to freeze lifetime allowance
Chancellor Sunak 'likely' to freeze lifetime allowance
Scottish Widows adds 289,000 members to build workplace market presence
Scottish Widows adds 289,000 members to build workplace market presence
TPR publishes full details of charity pension trustee fraud case
TPR publishes full details of charity pension trustee fraud case
Trustpilot

 

  • Contact Us
  • Marketing solutions
  • About Incisive Media
  • Terms and conditions
  • Policies
  • Careers
  • Twitter
  • LinkedIn
  • Newsletters
  • YouTube

© Incisive Business Media (IP) Limited, Published by Incisive Business Media Limited, New London House, 172 Drury Lane, London WC2B 5QR, registered in England and Wales with company registration numbers 09177174 & 09178013

Digital publisher of the year
Digital publisher of the year 2010, 2013, 2016 & 2017
Loading