UK - Schemes will not be able to match their liabilities accurately unless they use derivatives to go alongside their fixed income portfolios, fund managers warn.
Research from financial sector risk consultant Barrie & Hibbert and Axa Investment Managers shows that over half of the UK’s top 350 final salary schemes have liabilities with an average life of 18 years or more.
But the duration of their five most commonly used bond benchmarks ranged between eight and 14 years. It said this mismatch between assets and liabilities meant schemes with a 60% bond weighting, would face a deficit of between 2% and 10% if interest rates fell by over 0.5%.
And fund managers say the only way schemes can be sure to match their liabilities and protect themselves from interest rate changes is to use derivatives in tandem with their fixed income portfolios.
Axa head of UK institutional business development Joanna Munro said:
“Our research shows that while bonds are undoubtedly an important asset for DB pension schemes, on their own they are not enough to liability match – schemes need the additional enhancements offered by swaps.”
Merrill Lynch Investment Managers head of institutional business Andrew Dyson said:
“For longer-dated liabilities it is quite clear that physical assets are insufficient if you want a precise match.
“The number of schemes starting out down the route of using swaps is growing. We have seen a number of mandate searches in the last few months. There’s growing act-ivity and I think it will become mainstream this year.”
Henderson Global Investors head of structured products and derivatives Mike Chadney agreed but warned schemes they must work in partnership with their fund managers and other advisers, rather than relying on the advice of a single investment bank when implementing these strategies.
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