Brexit turmoil ‘pushes university pension deficit to £15 billion’

Plugging a multibillion-pound deficit exacerbated by June’s poll result may require ‘drastic measures’, analysts have warned

October 20, 2016
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Going, going, gone: analysts warn getting returns of 5 per cent will be far harder

UK academics may face further changes to their pensions as the deficit of the university sector’s largest provider could have hit £15 billion after June’s shock result in the European Union referendum, experts have warned.

Prior to the poll, the Universities Superannuation Scheme’s shortfall stood at £10 billion, according to its own official valuation, but that deficit is now likely to be closer to £15 billion, according to new financial projections by Barnett Waddingham, a leading UK actuarial consultancy.

The sharp deterioration in the USS’ balance sheet has been largely caused by a plunge in gilt yields used to set the value of pension liabilities in the three months since late June, explained Barnett Waddingham analysts in a briefing for university finance teams on 12 October.

It also assumes that investment returns will be “much lower” in the future as the global economy slows down – with previously “pretty good returns” earned by the USS “much harder” to achieve, said Paul Hamilton, head of higher education at Barnett Waddingham.

“Trying to get returns of 5 per cent per annum, which was broadly assumed in the last valuation, will be more difficult,” he said.

The increased shortfall – which is almost three times the £5.3 billion deficit measured in March 2014 and includes savings from the closure of final salary pensions for future service – means that the scheme’s funding level is now about 80 per cent compared with 85 per cent in April.

While it was too early to say what changes would be made by the USS, Mr Hamilton laid out the extent of changes that he believed were needed to plug the current estimated deficit.

If employers were to bear the entire cost, the 18 per cent of salary paid by universities for each individual would need to increase to 30 per cent – with 22 per cent required to cover defined benefit pension payouts and 5 per cent for clearing the deficit (up from 13 per cent and 2.1 per cent, respectively), he explained.

“If you are not getting [as much] income from investments, you have to get more from elsewhere, which [generally means] employers,” he said.

The added costs would, however, be more likely to be covered by both members and universities, although extra deductions on such a scale would dwarf those levied earlier this year (employer contributions rose by 2 percentage points, staff contributions rose by 0.5 or 1.5 percentage points).

“The numbers are very much driven by the fall in gilt yields both in the lead-up to the Brexit poll and afterwards,” Mr Hamilton told Times Higher Education.

“We are nearly six months away from the next triennial valuation, so market conditions could change, but it doesn’t look very likely at the moment.”

John Ralfe, independent pensions adviser, said that “drastic measures” would be needed to balance the books, but that it is “difficult to see what these are”, adding that “any further changes will be bitterly resisted by members”.

A USS spokesman said that it would “not know the true value of the deficit until the 2017 valuation processes are complete”, but investment growth has been “strong since the start of the year”, with assets valued at £54 billion at the end of June 2016.

However, “liability growth (the estimated cost of paying pensions) has been stronger”, she added, saying that the “estimated value of the deficit has fluctuated substantially...largely as a result of the continued low-return environment”.

Universities have been provided with funding estimates on the deficit, while a review of financial support available from employers – its sponsor covenant – concluded that they can “support the scheme over the long term”, she added.

jack.grove@tesglobal.com

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POSTSCRIPT:

Print headline: Brexit turbulence ‘pushes pension deficit to £15bn’

Reader's comments (3)

Boom If this surprises you, then you have not been paying attention. USS is in very serious trouble, post BHS scandal I expect Universities to have to make some further lump sum payments to reduce the deficit, just as we face a reduction in students (UK demographics) and grants. I think Employers will also up contributions for the new USS scheme, tinker with revaluation rates and keep the cap (ie not inflate it). As to old USS, my guess is they will stop AVCs pretty soon, harden terms for early retirement, indexing and sickness. (essentially Mr Micawber). A dose of inflation will help. When I say help I use it in a cynical way. It helps in two ways 1 'drag', I owe you 100 now and pay you in two years, if inflation is 5% but your 100 gets a 1% uplift, then I save around 8. This is the RPI vs CPI, caps on levels etc. The bigger the gap between actual inflation and the inflation in the scheme levels / caps the smaller the deficit will become. 2 The second way is higher inflation in the end higher gilts, so a bit easier to pay the costs. (As to point 2, the longer the BoE holds down gilt yields (to promote economic growth) the longer the benefit from 2 will take to appear.) Where this all gets interesting (neutral word) is in the annual accounts, continuing solvency requirement and covenant. The deficit in USS goes on individual University balance sheets. There are rules about how bad these are allowed to look before the Pensions Regulator and SFC/HEFC intervene. Keynes said it best, the market can remain irrational longer than you can remain solvent. USS was a huge bet, poorly understood and not dealt with nearly quickly enough when its risk began to crystallise (around 2000, John Ralfe first sounded the alarm). It has the potential to bust some Universities and I predict it will if overseas student numbers sharply decline, austerity continues, gilts stay low, growth falters and inflation remains subdued over the coming five to ten years. I agree this is perhaps low probability, but its now non zero.
So, worth, or not worth, taking the option of adding the extra 1% into the system to be matched?
It's a good question. I have taken it but can't advise you. The complexity is employers literature gave me to believe the 1% match was additional money but I just discovered it's redirected (I think). Still trying to work out what it means. In general terms we all need to save more because pensions are costing a lot more. (Annuity rates).

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