Falling liabilities improve pensions funding

The funding position of final salary pension schemes improved significantly last month despite steep stock market falls, according to research published this week.

The deficit faced by the UK's 200 biggest defined benefit company pension schemes reduced by 13.5bn during the month, the biggest improvement for a year, according to consultancy firm Aon Consulting.

But despite the improvement, the schemes still collectively face a funding shortfall of 83.5bn, although this is down from one of 97bn at the end of April and is the lowest level since November 2009.

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The funding position of pension schemes improved during the month despite steep stock market falls, including a 6.6 per cent decline in the value of the FTSE 100 Index, due to a decrease in the liabilities they faced.

Liabilities fell during May due to reductions in expectations for long-term inflation, despite inflation spiking in the short-term.

This reduction in liabilities more than offset the fall in the value of assets held by funds due to equity market volatility.

The group said long-term inflation predictions had the biggest impact on pension schemes' funding position, because a typical scheme might expect benefits, which are linked to inflation, to be paid out over a period of up to 40 years.

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Sarah Abraham, consultant and actuary at Aon Consulting, said: "Pension schemes have taken such a battering in the past 18 months that news of a reduced deficit will be greeted with some cheer.

"It's easy to forget that the size of a deficit is affected by movements in the scheme's liabilities as well as movements in the assets.

"Scheme managers will be praying that the dream scenario of rising assets and falling liabilities is round the corner. Until then, deficits look set to remain huge by historical standards."

The majority of companies have now closed their defined benefit pension schemes to new members, with many closing them to existing ones as well, as rising life expectancy and investment volatility have made the schemes increasingly expensive to offer.

They are being replaced with less generous defined contribution schemes, under which the individual, rather than the company, shoulders all of the risk.