Superfunds - it's not this complicated

Feel free to play along. Due credit to supersimplelearning.com

I'm sure all of us have played this "follow the line" type game as we grew up. Up close, it can be really hard. If you don't believe me then try one but with your nose pressed to the middle of the page (or this screen !). The trick is first to stand back and see the whole picture because from that vantage point you will see the answer in a flash.

Now into my 50s, I can see this game becoming a new and urgent trend in UK pensions in relation to whether Superfunds could be a good thing for some schemes as the economy attempts to recover. If so, then when are Superfunds the right answer and if not, then when might other options be the right way forward.

It's a personal perspective - I'm fortunate to be the only person to have ever worked at both UK commercial consolidators but these are my own views. I have also enjoyed the continued patronage of thousands of trusted colleagues who, as respected pension professionals, are spread across the whole industry (legal, actuarial, covenant, investment, administration, trustees, pension managers...). To add to my own insights, I've also sat down and shared perspective on future settlement market developments with various insurers, and some other potential consultant-led entrants.

I've been part of many many teams that have guided many many clients to their safe exit from the pension maze. But, I have also applauded when I've lost work to competitors who were smarter, understood the client specifics better and therefore had better-evidenced recommendations for the right way forward. One of the oddest calls I've had was to a 'victor' whom I was trying to congratulate - for them, this was all a 'kill or be killed' battle. The fact that they, and their viewpoint, are no longer in the industry, is of some comfort.

The things that bind us - As consultants, advisers or providers, the problem is not ours. It is the member's problem and they rely on us all to get the answer right - first time, every time. They are someone's family - just like your family will undoubtedly have many pension scheme members. For me, the defining feature of the UK pension industry, and one that can sit alongside whatever business card you carry, is that we will always seek to do the right thing for members - people that we will never even meet. A mindset to be very proud of. If you count yourself in that team, then take a bow and my admiration.

Why on earth would you choose a superfund? Well, in my humble opinion,...

Don't do it if..... I'm with the very balance commentary emanating from the insurers. The likes of Chris DeMarco at Legal & General, Sammy Cooper-Smith of Rothesay Life and Tom Ground at Aviva, to name but three:

• Don't do it if ...... a scheme, with or without the support of its sponsor, can afford to buyout 100%* of members' benefits with an insurer now...then do that.
• Don't do it if....the trustees with a willing and able supportive sponsor can be confident of getting there within 5** years under their own steam, then they should not look at a Superfund. However, they absolutely should look at on-balance sheet solutions and a variety of other integrated risk management approaches that will help trustees and sponsors get to the right answer quicker, with less drama and with more confidence. I can heartily recommend a number of folks of all shapes and sizes (and budget) who will keep you heading towards your right answer, at an accelerated pace. Just contact me offline on 073777 26549.

OK, so that takes care of maybe ￡100bn-￡200bn of legacy DB liabilities that will be within reach of buyout over the coming years, under their own steam. Is it job done?

Erm, well no, not quite!

What about the other ￡2trillion-ish worth of DB liabilities that can't reasonably hope to reach buyout within the foreseeable future without a fresh capital injection?

What about the projected 2,000+ DB schemes and ￡700bn+ of liability that will move within reach of some form of risk settlement vehicle, over this coming decade?

What should they do?

It's simple.

Do nothing unless ...either

a) the sponsor is under pressure and MUST find a way to settle the assets very soon but genuinely can't, and is not legally obliged to provide buyout level additional capital.

or

b) the trustees are rightly worried about the sponsor covenant and need to act before they pass the point of no return.

Pssst....even if you say that you are in the "do-nothing" camp, in reality, you can't afford to take that literally. Do nothing is not an option people! You MUST derisk (or even re-risk) when the opportunity presents itself to improve the security of your members' benefits. You MUST clean things up and increase certainty and confidence in lots of areas and by doing so you will become ready for that moment when you will put on the superhero cape and leap into more positive action.

"I can see that it might be right for me but I can't see the wood for the trees because there are a few new options"

There are many expert pragmatists out there. They will quickly triage your options and objectively help you quickly understand where you sit on a say a Red-Amber-Green (RAG) rating. I actually see this as RGA, let me explain.

Subject to incoming trustee guidance from TPR, my current view is:

First a reality check - please respect that the independent experts will do their job professionally and without bias. Just like with a bulk annuity buyout, no Superfund deals will transact unless not one, but two sets of independent professional advisory teams across legal, covenant, actuarial, and investments have helped the trustees conclude, with total confidence, that the transaction is in the members' interests.

That important reality check now aside, some pre-clearance application assessments WILL be much easier, cheaper and faster than others in reaching a conclusion:

• RED ZONE cases - The "definitely not" situations, for reasons outlined above. Stop - there is a better answer for this scheme!
• GREEN ZONE cases - The "no-brainer" situations will be able to conclude a proportionally less onerous assessment of a potential transaction in the comfort that TPR are happy with the Superfund itself and all the scheme-specific signals suggest that this is clearly in the members' interest. It may even be the only option.
• AMBER ZONE cases - These situations are far from clear-cut decisions and full-blown due diligence will be necessary but then schemes will only do so in the knowledge that the prize outweighs the cost of the additional work. Trust your advisers, or change them. Either way, please follow their guidance.

From my perspective, and being very respectful of eminent peers in the industry, there is too much discussion around Superfunds from the perspective of RED ZONE cases. Ladies and gentlemen - in the "super simple learning" game that started this conversation, that line definitely does not lead to a wagging tail, a round of applause or a wiggly hippo, or indeed Superfunds.

It's a truism that professionals are experts and these solutions are new and interesting things to fully understand in the minutest of details and so become experts. The danger is that less time is spent on finding the obvious clients that should choose this option and more time is wasted on drawing up a long list of client situations than shouldn't. Understandably there are lots of questions about the detail and debate on finer points relating to the future waves of more complex cases that will be in the AMBER ZONE. Precedent will develop as sure as night follows day.

"Excuse me Chair,? but there appears to be a trunk in my coffee"

But we face the biggest economic challenge of this and recent generations, right now. Business are failing and more failures are coming. Lest we forget, members are losing material proportions of their expected benefits on a daily basis. It's a scary thought but schemes that survive for the foreseeable future are promising pensions that are backed by a collapsed sponsor covenant. This might not be an elephant in the room for the Q3 trustee meetings - it might be a parade (if that's the correct collective noun). Guestimates from various places suggest that without new capital, typical trustee boards and their weakened sponsors may only have a 60% chance of delivering on that pension promise. I would advocate that we need to focus on the "here and now" and avoid rushing into too many technically challenging tangential situations because it's intellectually stimulating to learn everything there is to know about the in-extremis applicability.

Recently I enjoyed an Eversheds Sutherland run panel discussion which included guest speaker Chris Martin of Independent Trustees Services. Chris has performed miracles on more than his fair share of tricky appointments - he knows his stuff. Chris embraces the additional choice that these new settlement options bring. Promisingly, and perhaps as a result of the increased sharing of wise guidance like that, there is a maturing discussion around the GREEN ZONE cases that are out there now that need pro-active counsel to alert those trustees and sponsors to these new potential life-lines.

"OK, so I should look at Superfunds then, but there are two - which one is right for me?"

Trust in your trusted advisor - that's what you pay them for. They will get you to the right answer and most likely in a straight line kind of way rather than the complicated wiggle lines of our favourite childhood (now adulthood) game. Just contact me offline if you want some recommendations on who really know their stuff in this new space.

"Come on, a straight question deserves a straight answer - which one !?"

For those trustees who need to deal now and can get to within 10-15% of a full benefit buyout, but no further for the foreseeable future, then you have two great options and both will leave members in a better position than they are now, so neither is a bad decision, but it is horses for courses.

• A "bridge to buyout" approach feels more like a solution that trustees have seen before, even though they haven't, at least not in the pensions world. That said I can fully understand that some trustees will have an immovable preference for an insured destination typically 5-7 years from now. Great news for those trustees, Clara is the right model for you at this moment in time.

But for others...

• A "bridge to finance" as it were. Read on. I would say that the added model flexibility and much deeper business experience and acumen that I have seen from the PSF folks mean that the PSF models affords far more agility and speed to the collective ability to craft equally safe but more bespoke and undoubtedly more beneficial transactions. Put simply - as a new tool from which a professional expert can craft the best solution, then PSF will help you more readily surface "deal possible" from a challenging situation.

"Don't take liberties, but tell me why the PSF approach would suit some situations far better than other options. "

I'm conflicted as I'm a provider, but on the basis that you promise to work with your advisers on choosing the right option then I will play along and list out areas that rebalance the choice between the two options and an insured buyout, if not push it in PSF's favour in certain situations:

And finally.....

I hope that you have enjoyed the read. Good luck playing the game of matching your specific needs to the right answer.

Stay safe, be well and be happy.

jay

073777 26549

* If I'm allowed to suggest a caveat, there are currently a small number of situations where schemes become forced buyers of insured annuities and without more options, Trustees would be forced to lock members into reduced benefits levels. In those circumstances, where Superfunds can inject additional capital such that members would receive higher benefits then I would advocate that trustee are afforded the optionality of exploring better options for members. Some PPF+ cases have already made that decision and will transact soon. I predict that forced scheme wind-ups with insufficient assets to insure 100% of benefits could be the next frontier. However, I would like to see checks and balances in place to avoid any gaming of the rules such that only genuine cases with a genuine need to improve members outcomes in these distressing situations. Pre-insolvency specialists have a large part to play here.

** This is the usual starting point for "Gateway Test" discussions but I do believe certain industries will benefit from a pragmatic application to reflect their much shorter business cycles and volatility of sponsor covenant-backed security. Equally small schemes are likely to benefit from pragmatic latitude until such times as they can readily access buyout capacity just as easily as the bigger schemes.