The Pensions Regulator publishes guidance on liability driven investment

The Pensions Regulator (TPR) has published updated guidance on the use of leveraged liability driven investment (LDI) for UK pension schemes following a statement from the Bank of England’s Financial Policy Committee on 29 March 2023. In line with that statement TPR recommends the use of resilience standards, or buffers, to reduce the possibility of needing to undertake distressed selling in adverse scenarios.

Whilst TPR expects trustees to consider how the guidance applies to their scheme, it appears likely that many will need support from investment consultants and/or their LDI manager to identify and action the relevant next steps.

TPR expects each trustee to invest only in leveraged LDI arrangements which have put in place an appropriately sized buffer. This must include an ‘operational buffer’ specific to the LDI arrangement to manage day-to-day changes, in addition to a further buffer of a minimum 250 basis points (bps) to provide resilience in times of market stress.

• This 250bps minimum level assumes trustees will be able to provide additional cash or assets to replenish the buffer within five days. If it is likely to take longer, a larger market stress buffer may be appropriate. A larger (or smaller) market stress buffer may also be appropriate in other circumstances, for example if the assets held within the buffer are more (or less) volatile than assets typically held in LDI arrangements.
• The 250bps minimum resilience level should be maintained in normal times but can be drawn on in periods of stress.

TPR states that with respect to LDI; each trustee should have "… the right governance and controls in place to reduce risks to their scheme, and to be able to react to events quickly.” It adds that trustees need to be confident that their advisers and managers can act quickly and effectively, particularly in a crisis.

Each trustee must understand the risks they carry in their investment strategy, and only use leveraged LDI if appropriate – with the guidance providing practical steps on how to achieve this “vital balance”.

Each trustee should understand what monitoring their advisers or the LDI managers perform routinely and put in place mechanisms to ensure they receive necessary and sufficient information to understand and be able to react to risks.

The Financial Conduct Authority (FCA) has also published further guidance to asset managers relating to LDI. This is primarily in the form of recommendations from lessons learned regarding existing responsibilities that asset managers are under.