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The Actuary The magazine of the Institute & Faculty of Actuaries

Deficits and employer covenant top risk list for pension fund trustees

Funding deficits and employer covenant top this year’s list of pension trustees’ concerns for defined benefit (DB) schemes, according to recent research.

The Metlife Assurance Limited 2011 UK Pension Risk Behaviour Index canvassed the views of 89 sponsors and trustees and analysed how each group viewed 18 investment, liability and business risks that affect their pension schemes.

The study determined an ‘importance selection rate’ for each risk by presenting respondents with a group of four risks and analysing the number of times the risk was selected as important. Both risks had more than doubled from last year - funding deficits was chosen six times out of ten as the main worry compared to three times out of ten in 2011’s survey, while employee covenant was selected 55% of the time compared to 28% last year.

Asset and liability mismatch was identified as the third most important risk with the liability related risks of longevity and inflation coming fourth and fifth, respectively.

Dan DeKeizer, chief executive officer, MetLife Assurance Limited, said: "The increased emphasis... indicates that trustees understand how important the [employer” covenant is, especially where the scheme is in deficit on a solvency basis. Given the sponsor underwrites the risks that the scheme is exposed to, the employer covenant is a crucial element in protecting members’ benefits."

In a separate statement, Punter Southall also highlighted the increased importance of employer covenants, due to maturing debt following the global credit crisis.

In a paper for pension fund trustees, the firm’s covenant advisory services team highlights the covenant implications of refinancing for pension schemes, and sets out how trustees and sponsoring employers can prevent the covenant becoming weaker, including the scheme unintentionally slipping down the priority order of creditors.

Lorant Porkolab, head of covenant consulting, Punter Southall Transaction Services, said: "An expected feature of the business environment over the next few years is the need for businesses to refinance their existing debt. While it may be hoped that the terms available in the market will be more favourable than those prevailing in the post-credit crunch era, the implications of any refinancing and the security offered to the pension scheme, as an unsecured creditor of the business, should be kept under careful review by all parties."

Results of the MetLife study can be found in full here