UK pension strategy that gilt market relied on becomes big risk
LONDON: The United Kingdom’s pension sector created the modern gilt market. Last week, it almost broke it.
For decades these investors have demanded long-dated assets to match their liabilities going out decades into the future, particularly for defined-benefit programmes which need to make payouts irrespective of market moves.
That’s been a boon to UK government finances, with the average maturity of the nation’s debt outstripping its peers.
But last week, that symbiotic relationship started to unravel. The market saw new Prime Minister Liz Truss’ unfunded tax-cut policy as fiscally reckless.
Pensions which pursued so-called liability-driven investment (LDI) strategies with leverage faced emergency collateral calls on their hedges as government bond yields soared, resulting in the largest selloff in history.
The Bank of England (BOE), which had been on a mission to reduce its balance sheet, was forced to start buying bonds again to calm the turmoil, sparking the greatest rally on record.
For investors whiplashed by this unprecedented volatility, the risk is the worst isn’t over.
There’s no sign yet of a Truss u-turn ahead of a Conservative party conference this week, even with the pound having slumped briefly to a 37-year low.
And for some, the long-lingering fragilities in the market remain exposed to another blowup.
“The challenge for the BOE is to ensure there are sufficient tools in place to maintain market functioning,” said Daniela Russell, head of UK rates strategy at HSBC, who predicted the need for an intervention last week.
“It needs to recognise that the pressures on pension schemes have not suddenly disappeared.”
Pension fund demand for long-dated bonds and inflation-linked paper has been near-insatiable since the so-called minimum funding requirement came into force in 1997.
The rules, which set valuation metrics to ensure a minimum level of solvency, have been followed by updates that have meant the appeal of such securities to the UK pension community remains high.
“It’s what makes gilts unique among global bond markets,” said David Parkinson, sterling rates product manager at RBC Capital Markets. “UK debt has a much longer average maturity than anywhere else because of that pension demand.”
“Penang represents 80% of the nation’s contribution to global back-end semiconductor output and it accounts for 13% of global chip assembly, testing and packaging activities including chips used in auto production,” she said.
“Many MNCS such as global information technology majors from the United States and Europe have continued to invest in the country,” she added.
Choe said during her recent visit to Penang, she was fortunate to meet some of these clients and observed “the intensity level of construction-related activities relating to greenfield projects.”
Choe also noted that Malaysia is currently home to over 5,000 investors from about 40 countries.
“We are very optimistic about Malaysia playing a far bigger role as an attractive destination for inbound FDI and we are focused on supporting and facilitating those flows,” she said.
The country remains an “important” market for Citi, Choe added.
Meanwhile, she said some of the bigger challenges that the financial sector here and within the region will continue to face is in the area of cyber security.
“Cyber security challenges and rising ransomware threats are concerns and Citi has developed two cyber security hubs across the globe with teams of professionals focusing on keeping our internal systems and client interface safe from any attack or malpractices,” she said.
In the same vein, banks need to be agile in the innovation of product offerings to cater to evolving corporate needs, Choe noted.
“Markets have changed so much with new disruptors in the financial industry and the emergence of fintech players.”
However, she said regulatory challenges surface now and then with every innovation.
“Regulators are quite vigilant and closely oversee and monitor such trends and disruptive practices that make headlines.”
On another note, Choe said Citi is challenging itself to be at the “forefront” of providing environmental, social and governance solutions to its clients.
This is on the back of market forces and regulatory scrutiny accelerating the need for responses towards broad issues surrounding sustainability, she said.
“This is something we collectively need to be responsive to.
“We are going through a very challenging macro business environment which is dominated by headwinds from geo-political tensions resulting in huge dislocations in the global supply chain, persistent inflation and rising energy prices,“she said.
Choe said against this backdrop and based on her recent visits to several key economic hubs across Asia, what stands out distinctively is that governments across Asian countries are reaching out for FDI with innovative ideas and incentive schemes.
“Most of the countries have eased Covidrelated restrictions and are aggressively facilitating cross-border trade and commerce.”
Choe does not comment when asked whether the rising interest-rate environment globally is a boon or bane to the lender, stating instead that “our first and foremost priority is to support our clients through such uncertain times and macro economic challenges.”
“Our clients are adopting a longer-term view when it comes to their investment decisions relating to building more capacity ... and with that view, we feel very optimistic,” she said.