Sponsors have serious concerns over employer covenant risk

Employer covenant risk remains the second overall most important risk faced by defined benefit pension schemes for the second year in a row with sponsors becoming increasingly concerned about the issue, according to the 2012 UK Pension Risk Behaviour IndexSM (“PRBI”).

The MetLife Assurance study of 89 sponsors and trustees analysed how each group viewed 18 investment, liability and business risks that affect their pension schemes, and assessed how well they believed they were managing those risks.

Trustees rated employer covenant - defined as the assessment of the sponsor’s willingness and ability to fund the scheme – as the second most important risk compared with third for sponsors. (Funding deficits was the most important risk).

It is perhaps not surprising that trustees should continue to closely monitor the employer covenant in order to ensure the ongoing viability of their schemes and to safeguard member benefits.

What may be of more interest is that employer covenant risk is moving rapidly up the agenda for sponsors. Its importance selection rate (the percentage of times it was selected by respondents when presented alongside other risk factors) for sponsors increased from 41% in 2011 to 49% in 2012 while it remained steady at 56% in 2012 for trustees compared with 55% in 2011.

This risk may be coming to the fore for sponsors because of the continued widening of scheme deficits for many schemes and the resulting increase in requests from trustees for additional top-up contributions, MetLife Assurance believes.

Total importance selection rating for employer covenant among trustees and sponsors was 53% for 2012 compared with 49% in 2011 and 28% in 2010. Wayne Daniel, chief executive Officer of MetLife Assurance, commented: “The employer covenant is a crucial element in protecting members’ benefits and the increased emphasis from both trustees and sponsors on the risk indicates that both understand how important the covenant is, especially where the scheme is in deficit on a solvency basis.”

The results of the 2012 UK PRBI demonstrate that scheme sponsors and trustees are continuing, and strengthening, their focus on a handful of key risks with funding deficits at number one.  The overall importance rankings for the top four risks remained consistent from 2011 to 2012.

The range between the importance selection rates for the most important risk and least important risks this year is 66 percentage points, compared to 57 percentage points in 2011. This continues the trend established in the inaugural UK PRBI in 2010. 

Scheme sponsors and trustees continue to move toward a co-ordinated holistic approach to pension risk prioritisation, according to the 2012 UK PRBI. The importance rankings between trustees and sponsors are aligned within one or two ranking spots for all but one risk factor:  asset diversification. Trustees rank this 5th in importance whilst sponsors rank it 10th.

More details on the 2012 UK PRBI can be found at: www.metlifeassurance.co.uk/knowledge-centre/research


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