Simon Hart and Rob Archer look at how integrated risk management can improve a scheme's governance process and raise standards
You would have had to be living on the moon not to be aware of integrated risk management (IRM). Since The Pensions Regulator (TPR) released guidance on its use at the end of 2015, schemes should have been ensuring they have a risk management approach that is, well, integrated.
For the regulator, IRM is an important tool trustees should be using to help them manage the risks associated with the funding of their scheme, not a box ticking exercise that shows the trustee board has considered the risks posed to the Scheme.
But there's more to IRM than satisfying TPR that your governance is up to scratch. It is not an end in itself, but a means to achieving higher standards of governance that in turn should lead to improved security for members benefits. This is where IRM can really help trustees.
IRM can provide a positive outcome for all stakeholders by providing trustees a much better - and fuller - understanding of the risks within their scheme. Once done, trustees can have confidence that all other decisions will be based on better intelligence and, as a result, be better decisions.
Getting your ducks in a line
IRM is a three-legged stool, two of which - scheme funding and investment strategy - are usually admirably covered by the scheme actuary and investment adviser respectively. The third crucial element to be considered is the sponsor's covenant; this is the sponsor's legal obligation and financial ability to support their defined benefit pension scheme now and in the future.
For many trustee boards, knowledge and understanding of the sponsor covenant is by far the weakest leg. To get the most out of IRM, trustees must take control of the process and, rather than shoehorn in a covenant risk report, look at all aspects of risk, including the covenant. That means investment strategies, actuarial assumptions and administration, even if all of these are provided by long-standing trusted advisers.
Trustees must also ensure the emphasis on each area is proportionate, that the approaches taken by different advisers are consistent and they work together to arrive at recommendations. This will require trustees to be active in managing the approach, rather than just leaving each adviser to do what they think appropriate.
There is therefore no point in generating a covenant risk report independently of these advisers - trustees need to be involved in the process so they can provide input and challenge people's approaches - quite possibly including their own.
Involving all stakeholders will not only help to iron out any wrinkles but also ensure all parties are speaking the same language, making implementation and integration that bit easier.
This will not only satisfy the regulator but provides benefit to the trustee, members and the sponsor as well.
Big Brother is watching
Those yet to get to grips with IRM should get their skates on as TPR has it firmly on its radar.
At the PLSA Investment Conference in March, Fred Berry, TPR's lead investment consultant, warned delegates that it was preparing for action.
"This is not a tick box to pull out on highways and holidays", said Berry. "It is very important to monitor risk and we will have more to say about that in our annual funding statement."
The DWP's recent white paper - Protecting Defined Benefit Schemes - highlighted the challenges smaller schemes face in meeting increased governance requirements. This illustrates the benefits of a consolidator vehicle, such as a DB master trust, for small to medium-size schemes, who have a strong governance framework, as well as being able to offer economies of scale.
All for one
There is a danger many schemes will see the addition of a covenant report - or indeed any other monitoring or analysis - as just another cost. But in fact, it provides an excellent opportunity to understand risk, the sponsor and the scheme in a new light. It is therefore imperative the sponsor is involved in the IRM process.
If done in partnership, it allows trustees to better understand the risks posed to the scheme and sponsor, but also may make the sponsor more aware of the trustee position, why they may seek greater reassurances, more money, or even a different investment strategy.
It may also show the sponsor how and why different stakeholders and outside agencies -such as investors, funders and regulators - view it. Such insights may prompt them to consider how they present themselves to the market in future.
This will not only satisfy TPR but provides benefit to the trustee, members and the sponsor as well.
IRM not only contributes to greater understanding of risk, but can add value to the whole governance process, greatly improving understanding and raising standards.
Simon Hart is trustee services delivery manager and Rob Archer in-house actuary at TPT Retirement Solutions
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