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DB 2021 outlook: things to look out for in the coming year

17 Dec 2020

To say that 2020 has been a strange year is an understatement. The last twelve months have presented challenges, both professionally and personally, that have been unlike anything anyone around the world has experienced before. It’s odd to think that in December 2019 as our team began to consider ‘things to look out for in 2020’, a global pandemic was the last thing on anyone’s mind! Fast forward a year and the world is a very different place, and it’s from this place that we bring you our DB 2021 Outlook – our overview of the things that trustees and employers should be looking out for and planning for over the course of 2021.

COVID-19 – is the end in sight?

With a vaccination programme now underway, the end of COVID-19 may be in sight. However, the effects of the pandemic may be felt for years to come. With so much uncertainty surrounding the future of sponsor covenants, investment markets and mortality rates, monitoring and contingency planning will be key, as will taking forward the best of the nimbler style of governance COVID-19 has forced us all to embrace.

ACTION: Where COVID-19 is heightening funding, investment or covenant risks, trustees should consider the latest COVID-19 guidance from The Pensions Regulator, alongside their own Integrated Risk Management framework. Getting the right monitoring information in place is a good starting point and in combination with nimbler governance, will enable swifter action in the face of material changes. Trustees should also continue to be vigilant to ensure they are being treated fairly against other stakeholders and look for security or other non-cash mitigations to manage risks. In terms of scheme assets, trustees will undoubtedly look to take stock of performance, review progress against plans and capture opportunities to reduce risk or attractive returns.

The aftermath of Brexit

Although the UK left the EU on 31 December 2020 with a trade deal, many details are yet to be agreed. The most immediate implications for pension schemes and their sponsoring employers will be in relation to the economic effects of Brexit and the strength of the employer covenant, including the outcome of any guarantees by companies resident in other EU member states.

ACTION: Trustees should be aware of the potential impact of a no-deal Brexit on the pension scheme, in particular how this might affect their sponsoring employer and the economy. There are also other practicalities, like the payment of pensions into overseas bank accounts, which may be impacted.

The long-awaited Pensions Schemes Bill

The Pension Schemes Bill is in the last stages of Parliamentary scrutiny and is likely to receive Royal Assent in the near future. The Bill brings together a number of consultations and will introduce requirements on climate change risk reporting, enhanced powers for the Pensions Regulator and new criminal offences and civil penalties for misbehaviour, amongst other things. Furthermore, The Pensions Minister, Guy Opperman, has recently stated that he expects there to be a further pensions bill after the current Pension Schemes Bill becomes law.

ACTION: Whilst the current Bill establishes a lot of important primary legislation, with much of the underlying mechanics and detail left to regulations, there is not yet a complete picture of how the provisions will work in practice and what compliance will look like. Trustees and employers should watch closely for this detail to emerge.

Clarity on the new DB Funding Code

In September 2020, the first consultation on a new DB code of practice on scheme funding drew to a close. Under the consultation, the Pensions Regulator looked for views on its draft approach to setting the code and the key principles which should shape this new twin-track approach to compliance. A second consultation is expected by summer 2021.  Looking more like a draft code, this should also provide clarity on outstanding issues such as how COVID-19 and Brexit impacts will be factored into the specific ‘Fast Track’ parameters and process for their review.

ACTION: The first consultation highlighted that trustees would be required to formalise a long-term objective and put together a clear plan for getting there within a realistic timescale. Our interactive tool helps quickly identify whether a scheme’s current strategy might be more suited to the ‘Fast Track’ or ‘Bespoke’ route.  Although schemes with 2021 valuations will not be in the scope of the new requirements, trustees should be looking to align decisions and plans with this same direction of travel. 

Addressing climate change

It’s no surprise that the increasingly significant issue of climate change appears in the current Pensions Schemes Bill. In line with the recommendations of the Taskforce on Climate-related Financial Disclosures (TCFD), the Bill will enable regulations to be made requiring trustees to assess and report on the financial risks of climate change within their investment portfolios.

ACTION: The largest schemes (with over £5bn of assets) will be required to comply with TCFD by 1 October 2021, with some others (with over £1bn of assets) affected the following year. However, regardless of the deadlines, the Pensions Regulator emphasises that trustees should act now so they are prepared for the requirement coming into law.

Implications of the RPI reform consultation

On 25 November 2020, the Government announced that the Retail Price Index (RPI) would be aligned with the housing cost-based version of the Consumer Prices Index, known as CPIH, with the change taking effect in 2030. There has been little impact on asset values in the immediate aftermath of the announcement however, as schemes start to adjust their RPI-CPI wedge assumption in the liability calculations, some funding strains may start to emerge.

ACTION: The impact of this change will vary significantly from scheme to scheme. Indeed, some schemes may have already acted over the past year or two when uncertainty about RPI started to resurface, including adjusting their RPI-CPI gap assumption for scheme funding or their inflation hedging programme. Even so, this will need to be reviewed in light of the latest announcement.

Preparing for the end of LIBOR

The London Interbank Offered Rate (LIBOR) is being discontinued after 2021 and is set to be replaced by the Sterling Overnight Index Average (SONIA), plus an additional margin. The transition will have a number of impacts on the way trustees manage their investment strategies – 2021 will be a year of ensuring suitable preparation plans are in place.

ACTION: Trustees should focus on reviewing aspects of their schemes’ investment arrangements which have a LIBOR exposure to ensure there is a plan in place to implement the transition smoothly and that the amendments are adequately updated in the appropriate scheme documentation. 

The latest instalment in the GMP equalisation saga

In October 2018, the High Court ruled that trustees were obliged to equalise Guaranteed Minimum Pensions (GMPs) for men and women. Since then, the parties to the Lloyds litigation have returned to the High Court twice to obtain guidance on issues raised by the initial decision. In the latest instalment of the case, the judge concluded that trustees must top-up past transfer payments if no provision was made for the equalisation of GMP.

ACTION: For most schemes, GMP equalisation has taken a back seat this year as other issues (e.g. COVID-19) have taken priority. However, it will be difficult to put the issue off for much longer. The work involved is significant and indeed, revisiting transfers paid out by pension schemes over the last 30 years will be a very significant challenge. As a starting point, trustees should start to assess the availability of their data whilst waiting for more detailed guidance to be produced by the GMP Equalisation Working Group.

New single code of practice

Following the enactment of the EU pensions Directive (IORP II) into UK law, in July 2019 the Pensions Regulator announced that they intended to combine the content of their 15 codes of practice to form a single, shorter code. A formal consultation is expected in late 2020 or early 2021.

ACTION: Although the guidance is not likely to come into force until later in 2021, the Pensions Regulator has stressed that trustees will need to be able to demonstrate that they have an “effective system of governance that is proportionate to their size, nature, scale and complexity of activities” within 12 months of publication of the updated code. As such, preparations should start to be made in 2021 through reviewing governance against 21st Century Trusteeship requirements and ensuring Risk Management frameworks and processes are fit for purpose.

The Pensions Dashboard 

The Pensions Dashboard has been delayed until 2023. The dashboard will allow individuals to have access to their pension information online, securely and all in one place. Providing data to the dashboard will be compulsory for pension schemes. In December 2020, the Pensions Dashboard Programme published the key data standards that would underpin the initial pensions dashboard technology.

ACTION: Trustees may wish to start evaluating the data they hold and considering whether cleansing exercises need to be undertaken.

With all this change on the horizon, understanding the potential implications and building this into future work plans is a good first step. Please contact your usual Hymans Robertson consultant if you would like to discuss these issues further.

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