City regulators ready clampdown on LDI pension funds
City regulators said today they are readying to clampdown on the so-called liability driven investment (LDI) strategies at the heart of a near-meltdown in some UK pension funds two weeks ago.
UK pension funds deploying LDI strategies, which are linked to yields on government bonds, were pushed near to the brink after the government’s mini-budget sent shockwaves through the gilt market.
Questions have been swirling in the City over the amount of leverage used by fund managers and how the strategies were allowed to proliferate under the eyes of regulators.
Speaking yesterday however, the Financial Conduct Authority and the Prudential Regulation Authority said they were looking to tighten the guardrails around LDI to prevent a repeat of the crisis.
“Of course there are also lessons to be learned,” Nikil Rathi, chief of the Financial Conduct Authority, told reporters.
“I think from our perspective at the FCA, along with the Bank, the PRA, The Pensions Regulator (TPR) and other authorities, we’ll be looking to see how strengthened standards can be put into place for the future.”
Rathi added that what is “really important” is that pension funds, managers and bank counterparties “really focus on the work they need to do in the coming days to ensure there is resilience in the system”.
Rathi’s comments come after the governor of the Bank of England Andrew Bailey ruled out further measures beyond Friday to steady the gilt market, after rolling out a bond-buying programme of up to £65bn and ramping up the measures this week.
The Bank said yesterday however that it was working with the FCA to clampdown on the space to ensure “ensure strengthened standards are put in place” on the use of liability-driven investment (LDI) strategies.
The warnings from the two City regulators came as the Pension Regulator warned that some schemes may be forced to call on their corporate sponsors for cash in the event of a liquidity crunch.
“In some cases, schemes might discuss with their employer the potential for them to provide additional collateral where the scheme is unable to create enough liquidity from the scheme assets,” the TPR said, in freshly issued guidance to pension schemes.
Pension schemes are facing a drop off in support on Friday as the Bank winds down its bond-buying programme. Experts have sounded the alarm over the potential of a cliff-edge of support and said the funds had been scrambling to boost liquidity.
“Schemes are busy getting ready for next week – and any outfall from the fiscal event on Halloween – by rebuilding liquidity in their portfolios, examining their liquidity waterfalls, preparing their operational governance and, in some cases, seeking additional liquidity from sources external to the scheme itself,” said Simon Daniel, pension partner at Eversheds Sutherland.
“We understand that a number of LDI pooled fund managers are amending their fund terms to reduce the leverage they run, so trustees affected by that are considering the implications for their hedging levels and expected returns.”