What is happening to UK pension provision and schemes?

One of the features of the UK economic environment over the past decade or so has been the extraordinary changes in the rules and indeed position of pension provision. This covers both state and private-sector provision. Some of this has been related to developments in the credit crunch era but some is also related to pork barrel politics. What this has done is create something of a quagmire where benefits and losses are distributed often in a fairly random fashion which poses a problem. It was not that long ago I passed the advanced pension examinations of the Chartered Insurance Institute but the truth is that the landscape studied then no longer exists. This in itself poses a problem for an industry that exists for the long-term.

State Provision

There has been a dizzying array of changes here in recent years. Let me start with something which has had a positive impact on what many pensioners receive. From HM Parliament. BSP is the Basic State Pension.

The Coalition Government commenced the legislation and committed itself to increasing the BSP by a “triple guarantee” of earnings, prices or 2.5 per cent, whichever is highest, from April 2011.

That has boosted pension incomes and mostly via the law of unintended consequences. For example this year the uprating will be in essence a real terms increase as earnings were rising at 2.9% and official inflation has been very close to zero. This follows on from a 2.5% increase previously which means as I have discussed in my updates on the UK public finances that there has been quite an impact via higher expenditure which was estimated at £6 billion a year before the report was quickly redacted. Or to put it another way a type of generational shift in incomes.

As a result, someone on a full basic State Pension can expect to receive around £570 more a year in 2016-17 than if it had been uprated by average earnings since the start of the last Parliament,

This is not the whole story as confusingly what are called additional state pensions only have to rise with inflation and after the swerve a few years back to use the CPI (Consumer Prices Index) they are somewhat becalmed. So we have seen a change withing pensioners incomes as those who have paid in extra to get more have been treated less favourably than the basic pension. Just to add to the mix a new state pension starts in April for new pensioners and it will rise with earnings.

You will get it later

The UK state pension age has been 65 for a long time but it begin rising to 66 in December 2018 and 67 in 2026 in response to rising longevity. Later it will go to 68 but the rules will no doubt have changed by then as for example the change to 67 was brought forwards by 8 years in 2014! So far we have a familiar story of jam today where current pensioners have benefited but future ones face adverse changes although of course should the triple lock remain they will benefit too.

A catch in this saga is happening to a segment of the female population who expected their state pension at 60 and are now getting it at 63 on the way to it going to 65. This has become a contentious issue. Not so much on the issue of equality but much more on the lines of the fact that the changes were accelerated leaving one particular group disadvantaged as highlighted by the WASPI campaign and as I have pointed out earlier there is an issue with continual changes in something which relies on long-term planning. Also the pension age will be equalised at 65 just in time for it to become 66. Oh Well! As Fleetwood Mac put it.

The private-sector

If we look at the situation we see that the economic environment has changed substantially. There have been capital gains for some especially in government bond markets but looking forwards there is little yield now to be found in these areas. For example the plunge in yields has benefitted those who held both ordinary and index-linked UK Gilts. Those who have followed me from my beginnings will recall me making a case for holding index-linked Gilts. For once I was in concert with the Bank of England which put around 90% of its pension fund in them which has allowed it to fund the high level of pensions highlighted by what Mervyn King and the Deputy Governors have received. However looking forwards the picture is very different. For now there is a real yield but as soon as the oil price stops dropping it seems set to disappear and as pension planning is often over a 20/30 year timescale there is a problem.

As to changes well the Bank of England keeps promising but not delivering on higher interest-rates leading to the fear that like in Europe we could head lower. After all it was only last Thursday that the President of the ECB Mario Draghi hinted at a further cut to an interest-rate which is already -0.3%. Long-term contracts struggle with this sort of negativity as I recall when Andy Z placed the pensions illustration which has a return of -0.3% as part of it in the comments section. How does that work?

There is also the issue of equity markets where the capital to dividend position has been in reverse. We find ourselves in a situation where depending on the exact reading at the time the UK FTSE 100 has been on a road to nowhere this century overall whereas there have been dividend returns. If you want yield these days it has to be dependent on company profits such as utilities.

Legislation ch-ch-changes

The last decade or so has seen a litany of changes which returns us to the long-term planning theme. We have seen the minimum age for taking a private pension move from 50 to 55 but not a compensating move from 75 to 80. This is a bit bizarre as whilst there may not be a lot of people wanting to pay in at 75 why shouldn’t they be able to? Also there are complicated rules for continuing pensions beyond 75 but complicated rules invariably lead to trouble in the end – the law of unintended consequences again- as well as racking up a high level of fees and expenses. Plus rules have been set for maximum amounts both annual and lifetime with promises made and then welched on.

Now there has been this change which returns me to the switch between capital and interest of which the latter appears as annuities. From the BBC.

You can now access that pot freely from the age of 55 (57 from 2028), taking out as much as you like, subject to tax.

This is for defined contribution schemes where you pay in and receive tax relief and take the money later after hopefully it has grown and some 25% is then tax-free. The driving force behind this change is the poor value of annuities which has been driven by lower bond yields. Quite how they work now in Switzerland or Germany where many bond yields are negative I do not know? But whilst annuities are flawed they do guarantee an income as we wonder what happens next.

So such a change should encourage more pension provision but the many changes are likely to have a reverse effect as people wonder if it will last? The uncertainty is added to by the proposal to scrap higher-rate income tax relief. This has been trimmed to some by other changes and has equity and fairness on its side to some extent but would be yet another change in a very long list.

Defined benefit schemes

This has been perhaps the clearest shift of all as it dies away in the private-sector and only exists in the public-sector because the full costs are rarely looked at. Also of course ministers, MPs and high level civil servants are the current major beneficiaries of them! But with inflation indexing so expensive in spite of the current low inflation rate there is trouble. The problems for the private-sector are added to by the rules under which they operate for solvency and assessment which are somewhere between bizarre and crackpot in my opinion.

Those retiring now on such schemes are benefiting highly and apart from the public-sector schemes that is now mostly in the past. A famous beneficiary was former Bank of England Governor Mervyn King whose antipathy to RPI inflation did not extend to his own pension fund which ended up being worth around £8 million. Of course on the other side of the ledger the case is much muddier for nurses,teachers and the police who get much lower sums and would reasonably argue that it is part of their pay deal.


There are good news stories here as it used to be the case that UK state pension provision was low and had been left behind by events. Obviously there are still people with low incomes but the rise in the basic state pension will have particularly helped the less well off and I welcome that. Although it has resulted in another issue for the public finances

But the multitude of other changes that have gone on have created an atmosphere of mistrust and who could blame the young for having no confidence in what they will receive? They could lose out at a stroke of a bureaucrats pen. The continual Ch-ch-changes are likely to see yet more money head towards the housing market where the situation is much simpler and easier to understand than pensions. This from the Guardian suggests changes in that direction.

A record amount of housing wealth was unlocked by homeowners aged 55 and over in 2015, with £1.61bn withdrawn through specialist equity release plans.





UK Pensions Annuities and Gilt Yields enter an Alice In Wonderland universe

Yesterday there were three pieces of news which in fact were interrelated even though they came from opposing sides of the Atlantic Ocean. Let me present them in chronological order.

The Executive Board of the Riksbank has decided to make monetary policy even more expansionary by cutting the repo rate by 0.15 percentage points to −0.25 per cent and buying government bonds for SEK 30 billion.


The (UK) Chancellor has announced that the government will extend its pension freedoms to around 5 million people who have already bought an annuity.


(Bloomberg) — Money-market futures traders cut the odds of a Federal Reserve interest-rate increase below 50 percent until December after Chair Janet Yellen lowered her outlook for growth and the pace of policy tightening.


These three apparently unrelated moves are in fact part of the trend to lower interest-rates and indeed bond yields that has been evident throughout my career. There have been ebbs and flows but the Status Quo has been this.

Get down deeper and down
Down down deeper and down
Down down deeper and down
Get down deeper and down


The Swedish Riksbank seems to have lost what little part of the plot it had retained and cut again against the bankground (background if you prefer) of a strong economy. Then if we move to the US Federal Reserve came a move which regular readers will know I was expecting. It removed the word “patience” from its report but then stepped backwards rather than forwards on the subject of a future interest-rate increase in the United States. One is coming soon or maybe later or maybe not at all as it desperately tries to mimic the boy or rather girl in this instance who cried wolf. Or in terms of Guns and Roses a bit more than a little patience will be required.

Said, woman, take it slow
It’ll work itself out fine
All we need is just a little patience


Government Bonds

This is where the link between the UK and US news comes in. As well as the extraordinary drop in the US Dollar ( The UK Pound nearly made US $1.50 as traders were stopped out) there was a surge in US Treasury Bonds. The ten-year Treasury Note shot higher and the yield dropped through 2% to 1.92%. But it a way more important for this discussion we saw the long bond or thirty year rally two whole points as the yield dropped to 2.52%. The yield had been falling anyway as poor economic data continued to appear. Yes this weaker data was continually described as a “surprise” which those of you who have seen my exchanges on twitter with Newsnight economics editor Duncan Weldon may already have noted.

Those who listened to the Budget analysis on Share Radio would have heard me point out that Germany was at an all time high for bond prices and consequently low for yields. As I type this the ten-year yield has fallen to 0.19% according to MTS which is yet another high. Now if we move to the UK we are seeing the pressure build too especially now that the US is moving. Accordingly the UK Gilt market has rallied today and our ten-year yield is 1.55% and more to the point of today’s discussion the 30 year Gilt yields 2.36%. Both are hard to type for someone like me who has so much experience of much higher numbers.

Long-Term Contracts

These have a problem with such low interest-rates. Imagine for a moment an annuity provider in Germany for example looking to offering deals to people 2,5,10 and 30 years into the future. In the first two instances it faces negative bond yields so it would have to offer less than paid in. What a great deal! Moving forwards a 30 year yield on 0.65% offers very little return as the concept begins to implode.

The UK annuity market is not yet at that extreme but with a 30 year yield of 2.36% yields are really rather poor. Or to link matters virtually anyone who has taken out an annuity in the past will have got better terms than they can now. Of course many of them thought that they were getting poor terms! In essence annuity rates are the flip side of falling bond yields.

As an aside final salary pensions just got a little more attractive again or putting it another way we will see less and less of them in future.

Annuity Rates

Many with a pension scheme have found themselves facing this conundrum. From the Pensions Advisory Service.

Over recent years, annuity rates have fallen as we have moved into a low-interest rate environment and annuities have, consequently, become less popular.


Add that to an illustration showing you losing 3% per annum as discussed in the comments on here and no wonder pensions sometimes get a bad press!

If you crunch the numbers for a basic (single life no add-ons) annuity at age 65 then it takes around 17 years to get your money back. This is awkward and leads to the view that an annuity is bad value. The government heard the cries of “we would rather keep the money and spend it” and as it mulled the issue no doubt the thought that older people are more likely to vote saw it saw well why not let them?

There are two contrasting views on this. Firstly it frees people up to do what they want with fewer restrictions which is a good thing. However on the same road we see that there is the danger we are borrowing from the future one more time. We are doing that rather a lot these days and for the moment let us ignore the nightmare scenario that the money goes into buy to let investment in the UK property market.

What about existing annuities?

To a government the fact that there are around 5 million annuities must be tempting as of course they are in a population demographic which is likely to vote. They currently are as a group in “profit” as some will have terms vastly better than available now some a lot better and other simply better. No doubt someone somewhere has a loss but this will very much be the minority. Easy money?! Not quite as of course there is another side to the arrangement which is the pension or insurance company which will in generic terms have hedged its position in UK Gilts which will have bought corresponding gains. Oh hang on everybody cannot win! The circle is squared so to speak by the fact that the insurance company is losing on its annuity book compared to current values and prices. It is not even a zero sun game as the pension company will have set out to make a profit so it is in fact a negative sum game.

But our brave establishment knows no bounds in its efforts to borrow from the future or as it puts it give more freedoms! Accordingly we will in 2016 get this.

From April 2016, the government will remove the restrictions on buying and selling existing annuities to allow pensioners to sell the income they receive from their annuity without unwinding the original annuity contract.


Hooray so they can take their profit? If you think that please hold your horses and read my explanatory paragraph again. Here is the official version.

it allows the annuity holder to access the value of their property rights where they can find a willing buyer. The annuity provider would continue to pay the annuity payments for the lifetime of the annuity holder, but would reassign those payments to the purchaser.


So we are reminded that this is a personal contract dependent on an individual’s life. Time I think for Alice In Wonderland to help us out.

I can’t go back to yesterday because I was a different person then.


Why, sometimes I’ve believed as many as six impossible things before breakfast.


Putting it in more sophisticated terms perhaps then this reply to making my views known on twitter sums it up. From @NotGiacomo

you don’t think we should trust consumers to correctly price their own derivatives contracts?



Somewhere in this UK establishment version of Alice’s Wonderland the following scenario will play out. Grandad or Grandmother will sell their annuity and take the cash. Then they gift some money to their granddaughter Alice who needs some help to buy a house as she is struggling with her student debt burden. Alice will use the benefit of her university education to figure out that for every £100 she gets from the bank of Grandad/mother she will get another £25 from the UK Taxpayer.

have i gone mad?
im afraid so, but let me tell you something, the best people usually are.


If we move back to the pension changes and overlook the dangers of yet another misselling scandal, how many more times are they going to change the rules? I have the formal qualification from the Chartered Insurance Institute but threw away my textbooks the other day. In spite of being recently purchased they are relics of another era.

I wonder if I’ve been changed in the night. Let me think. Was I the same when I got up this morning? I almost think I can remember feeling a little different. But if I’m not the same, the next question is ‘Who in the world am I?’ Ah, that’s the great puzzle!