Pension savers may be feeling anxious following the news that the Bank of England was forced to step in this week and rescue retirement schemes.
The Bank of England announced a £65bn emergency bailout on Wednesday to stabilise the economy after the Chancellor’s mini-budget prompted the biggest sell-off of UK government bonds, known as gilts, in decades. In particular, the move was aimed at preventing defined benefit schemes (also known as final salary schemes), which pay out a guaranteed income in retirement, from suffering financial damage.
Here, we answer your questions on why the Bank intervened, and what this means for your pension savings.
If you’re thinking about getting professional financial advice, you can find a local financial adviser on VouchedFor or Unbiased.
Alternatively, if you’re looking for somewhere to start, we’ve partnered with independent advice firm Fidelius to offer Rest Less members a free initial consultation with a qualified financial advisor. There’s no obligation, however if the adviser feels you’d benefit from paid financial advice, they’ll talk you through how that works and the charges involved.
Fidelius are rated 4.7 out of 5 from over 1,000 reviews on VouchedFor, the review site for financial advisors.
What type of pension was rescued, and why?
The focus of the Bank’s intervention was defined benefit, or final salary, pension schemes. This type of pension is often viewed as the ‘gold standard’ of pensions, as it will provide you with a guaranteed, inflation-linked income in retirement. Read more in our article What is a defined benefit pension?
Importantly, public sector defined benefit schemes – typically held by nurses, teachers and policemen – were not affected by the dramatic movements in the bond markets, because they are funded differently. Instead, it was the defined benefit pensions provided by some of the UK’s biggest employers that were impacted.
These pension schemes hold government-backed bonds, which are considered to be among the less risky investments. However, following the announcement of huge unfunded tax cuts in the mini-budget, government bonds lost around half their value within days.
Managers of defined benefit pensions use complex investment strategies to ensure they have enough money to pay scheme members. This resulted in a sudden rush to sell government bonds, but the rapidly changing price of these bonds made it difficult for pension schemes to manage the risk involved.
What is the Bank of England doing?
The Bank is effectively loaning money to the government with the aim of calming the bond market. It’s buying £65bn worth of government bonds over 13 weeks, until mid-October, which brings down the cost of borrowing for the UK government. This works by balancing supply and demand, reducing the impact of the sell-off and the need for pension managers to sell assets.
Rebecca O’Connor, head of pensions and savings at interactive investor, said: “A vicious spiral was forming and that’s why the Bank of England had to step in to buy gilts, creating artificial demand. Things have calmed down, the pension funds are no longer at risk of collapse and everyone’s pensions will continue to grow and be paid.”
Could my defined benefit pension still be at risk?
If the Bank of England hadn’t intervened, defined benefit scheme members would still be protected, as the investment risk is borne by their employer. The employer must ensure that the scheme is able to pay out to its members in retirement. If a scheme isn’t sufficiently funded, they may be asked to pay more into it.
Meanwhile, if an employer goes bust, there’s also the Pension Protection Fund, which ensures that retirees receive their full pension, while younger members would get about 90% of their entitlement.
Helen Morrissey, senior pensions and retirement analyst at Hargreaves Lansdown, said: “This week’s events have been hugely alarming for members of final salary schemes who may now be worrying about the safety of their pensions. However, it is important to say the Bank of England’s decision to intervene with a bond buying programme has calmed down the market frenzy and given those schemes affected time to assess their position and make changes to their investment strategy as needed.
“It’s also worth saying that not all final salary schemes were in this position and many will have been able to navigate the situation without having to sell off assets.”
What about defined contribution pensions?
Defined contribution pensions have become increasingly common over recent years as defined benefit pensions have become more expensive for employers to fund. These may be workplace pensions, personal pensions or self-invested personal pensions (SIPPs). The amount you receive when you retire depends on how much you have paid into it, your employer’s contributions, and how your pension investments have performed. Read more in our article What is a defined contribution pension?
As this type of pension works differently, they did not need rescuing by the Bank’s emergency measures. However, bond and equity market turmoil is likely to have reduced the value of these pension pots. This follows market falls in recent months, which were exacerbated by the impact of the Chancellor’s mini-budget.
Rebecca O’Connor, head of pensions and savings at interactive investor, said: “Firstly, whatever your pension situation, on hearing the news that some pension funds risked collapse – do not panic. Do not unnecessarily draw on your pension funds. The chances are none of it applied to your particular pension and even if it did, your pension is fine.”
While this is a worrying time, it’s vital to remember that there will be periods of market turbulence.”It’s important not to panic. Moving everything to cash would only mean you no longer benefit from stock market upsides and your life savings would be solely at the mercy of inflation,” says O’Connor. For tips on managing challenging times such as these, read our article Four ways to weather stock market storms.
How have annuities been affected?
Amid the turbulence of the past week, there was some reason for cheer among retirees who were buying an annuity. Rates have soared recently, providing a higher income for life from these financial products.
Annuities are affected by various factors, including UK government bonds, and interest rates. As interest rates rise, annuity rates have increased, pushing up the amount of income received from these products in retirement by 35% in the past year. So while the value of a defined contribution pension will have fallen, rising interest rates mean that annuity rates have improved. Read more in our article Annuities explained.
Morrissey said: “People looking to purchase an annuity for their retirement income will have seen high gilt yields pushing up the incomes they can receive.
“We’ve seen gilt yields fall back since the Bank’s announcement, but they have been on an upward trend for some time and with the prospect of further interest rate increases on the horizon we could see them increase further.”
Where can you go for help?
It’s undoubtedly a nerve-wracking time, but if you are seeking help with your pension, there are plenty of places to get advice.
If you’re aged 50 or over, the Government’s Pension Wise service, run by the Pensions Advisory Service and Citizens Advice, provides free guidance on their pension choices at retirement. However, if you are looking to speak to a qualified financial advisor, you can find one on VouchedFor* or Unbiased.co.uk*.
If you’re thinking about getting professional financial advice, you can find a local financial adviser on VouchedFor or Unbiased.
Alternatively, if you’re looking for somewhere to start, we’ve partnered with independent advice firm Fidelius to offer Rest Less members a free initial consultation with a qualified financial advisor. There’s no obligation, however if the adviser feels you’d benefit from paid financial advice, they’ll talk you through how that works and the charges involved.
Fidelius are rated 4.7 out of 5 from over 1,000 reviews on VouchedFor, the review site for financial advisors.
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