In a letter Tuesday — to Andrew Griffith, the economic secretary to His Majesty's Treasury and a member of Parliament, and Laura Trott, the parliamentary under secretary of state at the Department for Work and Pensions and a member of Parliament — the Industry and Regulators Committee and Economic Affairs Committee criticized The Pensions Regulator as being slow to recognize there were systemic risks stemming from pension funds using index-linked gilts, repurchases and complex derivatives strategies.
"It's clear that the risks that were inherent in LDI have not been fully appreciated. They only came to light in a dramatic fashion when interest rates went up following a statement from the government," said Lord Clive Richard Hollick, the chairman of the Industry and Regulators Committee, in a telephone interview.
As a result pension funds have had to sell, and they were only able to do that when the Bank of England stepped in, Mr. Hollick added, noting that the aggregate loss was £4.5 billion ($5.5 billion) on gilt exposure.
On Sept. 28, the Bank of England stepped into gilt markets with a commitment to buy up to £65 billion in long-dated government bonds.
"We are calling for regulators to introduce greater control and oversight of the use of borrowing in LDI strategies and for the government to assess whether the U.K.'s accounting standards are appropriate for the long-term investment strategies that are expected of pension schemes," Mr. Hollick said in a news release. "This will help ensure that the turbulence that followed the September 2022 fiscal statement doesn't happen again."
The letter also said the government should review any relevant regulations and consider whether the use of repos and derivatives should be more tightly controlled in the pension fund portfolio context with appropriate limits. The committee also pointed out that investment consultants' advice should be regulated, noting that the pace of trustee decision-making did not match changes in markets.
The committee said the liability-driven investment strategies, particularly those that use leverage, were sold to solve "an artificial problem" created by accounting standards and in turn forced plan sponsors to focus on current rather than long-term deficits of their pension funds.
However, the accounting requirement to measure the current value of plan assets against a present value of future pension liabilities discounted at a low-risk market interest rate fails to recognize the potential upside from investing in a broad portfolio of assets, including equities and other real assets that could be expected to have a higher return over the long term, the letter said.
