"LONDON, Jan 10 (Reuters) - Some British pension funds are being instructed by asset managers to provide additional cash to support their hedging positions after a sell-off. XPS and Gallagher mentioned that certain funds were requested to increase cash flow to uphold derivatives positions within Liability Driven Investment (LDI) strategies. BlackRock noted that despite increased borrowing costs affecting pension schemes' collateral resilience, funds were better equipped than before to handle market volatility. This situation is considered the first significant challenge for the pensions market since the implementation of LDI strategies to manage risk and comply with regulatory requirements. The adjustments in derivatives will necessitate further collateral to compensate for price fluctuations.
LDI, instrumental in helping funds meet future obligations by safeguarding against bond yield fluctuations, faced a crisis in September 2022 due to proposed unfunded tax cuts under the then-Prime Minister Liz Truss, which led to surging yields. This week’s pronounced selloff in debt markets was met with an organized response, according to pension advisors like XPS and Gallagher and six other industry entities.
The Bank of England and The Pensions Regulator declined to provide comments on Friday. The spike in yields for 30-year British government bonds, known as gilts, reached a 26-year high due to elevated inflation expectations and concerns surrounding Donald Trump’s imminent presidency.
Although ten-year gilt yields surged by 25 basis points, marking their most significant weekly rise in a year, it's notably lower compared to the nearly 70 bps increase observed in 2022. BlackRock, a prominent figure in LDI services alongside Legal & General and Insight Investment, stressed the importance of continued collateral monitoring for pension schemes.
The rise in yields following the Truss government's "mini-Budget" in 2022 led to collateral calls on hedging positions, resulting in asset liquidation to raise funds. Gallagher Benefit Services UK's Chief Investment Officer, Carl Hitchman, expressed confidence in the industry's resilience compared to previous years amidst potential yield spikes.
One client has been asked for additional funds with a next-week deadline, but the fund can meet this requirement through its liquidity, according to Hitchman. XPS reported witnessing capital calls, with CIO Simeon Willis indicating that this was part of normal market operations.
Advisors emphasized that the gradual increase in British borrowing costs this time was manageable, with Insight Investment, Legal & General, and Schroders affirming the orderly resilience of the LDI market. A spokesperson for BT's pension fund manager Brightwell acknowledged that pension funds are well-prepared and effectively managing volatility."