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The Actuary The magazine of the Institute & Faculty of Actuaries
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Putting UK pensions into a global context

Providing for income in retirement would seem to be essentially the same task in any country. Yet, in practice, it is a complex and challenging process. While some common threads exist, the variety of approaches around the world remains remarkable. There is a growing desire on the part of governments and pension scheme sponsors to see their pension systems in a global context. This can provide either reassurance that things could be worse, or a timely reminder that reform is necessary. In this article we consider UK pension assets and their investment in a global context and see how we measure up in a comparative study with seven other key pension markets: Australia, Canada, Japan, the Netherlands, Sweden, Switzerland, and the US.

Total pension assets an elusive figure
A definitive figure for total world pension assets is difficult to determine. Data from the end of 2005 from the OECD Global Pension Statistics Project shows total pension fund assets in OECD countries of around $17.9 trillion. This project began in 2002 and has rapidly expanded to include a greater number of countries and more recent data. It is a welcome development, as reliable and consistent data on pension assets in different countries has previously been hard to come by.
Starting with the OECD figure, and taking into account asset growth over 2006 and the likely assets in non-OECD countries, we estimate that total world pension assets at the end of 2006 is likely to be somewhere in the region of $20 trillion. The distribution of these assets is far from uniform and the eight key pension markets we focus on in this article account for the lion’s share of the total.

Are these pension assets adequate?
A basic assessment of the adequacy of the accumulated assets in each country can be made by comparing them with economic output (GDP) and population. There is no ‘right’ answer for assets versus GDP or per capita. These statistics merely give some means of comparison between countries. Figure 1 provides a visual summary of the relationship between current pension assets as a percentage of GDP and the projected dependency ratio for 2025. As a general rule, it is those countries with the most pressing demographics that should have the best level of funding. As the chart demonstrates, this is not always the case.
In addition to the eight countries that are the focus of this article, figure 1 also includes data points for Chile, Singapore, India, and China for comparison. The first two are countries where pension funding has been in place for a number of years. The latter two are economies believed to be set for massive growth, but their low projected dependency ratios mean that they face less urgency to address provision for retirement.
Pension funding levels were not helped by the equity market declines of 20002002 and those countries with funded pension arrangements and substantial equity investments suffered the most. However, the general equity market recovery since 2003 has done much to restore pension assets towards and beyond pre-2000 levels in these countries.

How are pension assets being invested?
Funding pension schemes in advance of benefits becoming payable provides the opportunity to invest pension assets with the aim of growing them further. In this context, the investment choices made by pension funds or their members can have a large influence on the overall funding position. A general trend towards more homogeneous asset distributions between the countries we are covering can be observed. Two particular aspects of asset allocation merit further attention: the split between equity and bond investment and the relative balance of domestic and international investment.

Equity versus bond investment
Figure 2 shows the split between equity and bond investment at the end of 2006 and ten years ago. In 1996, pension funds in Switzerland, Sweden, the Netherlands, and Japan all had very high bond allocations. Encouraged by the equity bull market of the 1990s, funds in these countries began to embrace equity investment in the late 1990s and early 2000s, a move that seemed to have been mistimed by early 2003. The subsequent recovery may have restored some confidence in equities in these countries.
In the US, Canada, UK, and Australia, pension funds have had larger equity weightings for some time. However, as DB pension funds in these countries mature and thus begin to focus more sharply on their liabilities, a moderate trend towards greater bond investment is emerging.
Domestic versus international investment
Figure 3 shows the relative balance of domestic and international investment at the end of 2006 and ten years ago. International investment by pension funds has generally been on the increase. UK pension funds were particularly early in embracing equity investment outside their home market. In recent years, Dutch pension schemes have also increased their international equity weightings considerably, perhaps reflecting the relatively small size and thus limited opportunities in their home market.
Academic research suggests that international investment can produce superior investment performance in terms of risk and return. General recognition of the diversification benefits of international investing is evidenced by a tendency for governments and regulators to remove, or at least relax, any remaining restrictions on investing outside home markets.
For example, early drafts of the European Pensions Directive included quite prescriptive investment restrictions which were unpalatable to several member states. The cross-border pension fund rules finally approved by EU ministers in 2003 leave funds broadly free to decide their investment strategy. The Directive became EU law in September 2003.

So how does the UK measure up?
The analysis presented here allows for some basic comparisons to be made among eight key pension markets. There are some common strengths and some common issues in evidence to a varying degree for each country. Overall, it should be noted that the countries covered are among the world’s leading pension markets. There are many other countries with more pressing demographics and/or fewer accumulated pension assets.
So how does the UK measure up against the seven other leading pension markets? Drawing together the foregoing analysis, we can conclude:
– While populations everywhere are ageing, the demographic situation is nowhere near as pressing in the UK as it is in some other countries, notably Japan.
– Funding has been a feature of UK pensions for many years and there is a relatively healthy level of accumulated assets.
– The move to DC for occupational schemes is inevitable but there is a long, and still growing, tail of DB assets and liabilities which will need very careful management for decades to come.
– UK pension funds’ equity orientation stood them in good stead until the early 2000s. DB schemes that are closed to new members or have deficits should look not only to bonds, but to other innovative solutions appearing in the marketplace.
Overall, the UK probably falls into the ‘it could be worse’ category when compared with other countries. While we have much to address to secure the retirement incomes of future generations, we start from a relatively firm foundation compared to other countries.



A version of this article first appeared in Pension Fund Indicators 2007, published by UBS Global Asset Management.

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