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Advisers Say UK Pension Funds Need to Reconsider the Use of Derivatives

According to advisers, British pension funds need to reconsider their negative historic opinion of derivatives, which could provide protection for portfolios in the event of sudden market shifts or changes in economic policies. With the government reinstating quantitative easing efforts, many analysts are beginning to believe that the management of UK pension funds may need to be rethought. In particular, many critics believe that there are far too infrequent trustee meetings held to approve asset allocation policy changes. 

Some analysts have also criticised trustees’ avoidance of the usage of swap based methods or hedging techniques to manage inflation and stock market risks. One of the main issues is that fund trustees are not willing to benefit from the concept of shortselling, which relies on the decline in the value of a stock for the fund to profit. If such investment strategies were utilised by UK pension funds, in  adherence to specific investment guidelines, British funds could greatly mitigate future economic risks, while also improving the current state of the economy. Nonetheless, many critics of shortselling note the potential downfalls of certain hedging strategies if they do not play out as planned.

Meanwhile, the Bank of England has recently committed to buying 75 billion pounds worth of government bonds during the next four months, which will cause the yield for government bonds (a staple investment for UK pension funds) to be depressed, ultimately making it more difficult for funds to match their income to their liabilities without adding riskier, more profitable assets to their portfolios. According to government estimates, during the end of September the accumulative deficit of the more than 6500 UK pension funds within the PPF 7800 index was measured at more than 196 billion pounds, a figure that rose nearly $80 billion in just one month (measured at 117 billion at August 31).

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