Pensioners walk along the pier in Deal, UK, on Thursday, Oct. 3, 2024.
Bloomberg | Bloomberg | Getty Images
A sharp spike in U.K. borrowing costs this year triggered memories of the 2022 “mini-budget” crisis, which rocked the country’s pension funds and led to emergency market intervention by the Bank of England.
But this year, U.K. pension providers have not only weathered recent volatility in government bonds, they have benefited from them, and even increased the so-called liability-driven investments (LDIs) that wreaked such havoc previously.
Yields on U.K. bonds, known as gilts, jumped to their highest levels in decades earlier this month before cooling nearly as fast. However, they remain elevated. On Wednesday, gilt yields ticked lower after U.K. Finance Minister Rachel Reeves gave a widely anticipated speech promising to go “further and faster” to boost Britain’s sluggish economy. Yields across the board were 3 basis points lower at 11:50 a.m. London time.
In Sept. 2022, a massive sell-off in U.K. debt drove down the value of assets held by pension funds, a major investor in gilts, and led to margin calls on their LDI funds. These largely leveraged investments are often used by pension funds as a hedge against factors such as inflation and interest rate movements. The knock-on effect from the margin calls threatened to push several defined benefit pension funds into insolvency.
The sell-off was prompted by a major package of unfunded tax cuts announced by then-Prime Minister Liz Truss. The proposals, described as a “mini-budget,” were announced at a time when U.K. inflation was sky-high, interest rates were rising and the economy was stagnant. Market turbulence spurred the Bank of England to intervene with an emergency purchase of long-dated bonds, the debt LDI funds were particularly sensitive to. The central bank later said a number of pension funds were hours from collapse.
Investors still suffer from a slight degree of “post-Truss stress disorder” when bond prices fluctuate, said Jason Borbora-Sheen, portfolio manager in the multi-asset team at investment manager Ninety One.
However, CNBC spoke to industry participants who stressed that U.K. bond market moves this year have not come close to the mini-budget in terms of volatility, and that pension funds have more than kept their cool, for several key reasons.
‘Business as usual’
One factor helping pension funds keep their cool relates to the broader macroeconomic environment, particularly the fact that yields were moving higher in-step with a global trend as investors price in a slower pace of interest rate cuts this year. Gilts have moved sharply on specific data releases in 2025 such as inflation and growth wage data both at home and in the U.S. They’ve also responded to investors reactions to the U.K.’s fiscal outlook and the impact of stimulative policy.
“The market didn’t run away with itself,” said Simon Bentley, head of U.K. solutions client portfolio management at Colombia Threadneedle.
“There weren’t a whole load of technical things going on in the market that really created a bit of a spiral and caused yields to just go exponential. On this occasion, it was very clear what was driving it, and it was macro and monetary policy.”
“We called capital into a couple of portfolios, as I know other managers will have done, but it was very much initiate a standard process, standard time frame,” Bentley added.
At the Universities Superannuation Scheme (USS) — Britain’s biggest private pension scheme — market watchers have been taking a similarly calm stance on elevated gilt yields. The USS manages assets worth £77.9 billion ($96.7 billion), with its subsidiary USS Investment Management Limited deciding where to invest funds.
“It’s all very much business as usual for us here,” a spokesperson for the USS said in emailed comments.
They noted that Truss’ mini-budget had acted as a catalyst for a rapid, largescale shift in markets, whereas the current elevation in prices has taken place over a longer period.
Other key differences that have helped avoid disruption in British private sector defined benefit (DB) funds — workplace pensions that promise to give holders a certain annual payout after retirement — has been higher funding ratios, lower leverage and improved governance models since 2022.
“Post the LDI crisis, pension schemes now have higher collateral buffers capable of withstanding at least a 3% increase in real yields compared to 1% in 2022,” a spokesperson for Brightwell, the U.K.’s biggest corporate DB scheme, said by email.
“The yield increase has [also] been more measured than during the LDI crisis. As a result, pension funds are well prepared and managing the volatility effectively.”
Ninety One’s Borbora-Sheen noted that the U.K.’s Pensions Regulator had recommended those higher buffer limits post-2022, which meant that a “doom loop” would no longer occur if yields rise quickly. Meanwhile, he added, allocations within pension funds to gilts have gone down, and the Bank of England has shown its willingness to intervene in the market, providing a sense of comfort.
High yield benefit
Beyond withstanding the recent market moves, higher yields have actually been a “nice little opportunity for pension schemes,” said Colombia Threadneedle’s Simon Bentley.
“Yields going up and gilt prices going down, is actually very positive for pension scheme funding levels,” reducing the value of a DB pension scheme’s liabilities, he said.
“The better the funding level, the less you need to allocate to growth assets, because you just don’t need that excess return,” Bentley said.
“So over the last two years, not only has leverage come down just from a risk management perspective … but pension schemes don’t need the leverage because they’re better funded.” That has also increased stability when the market does move, he continued.
“There’s been a couple of schemes that have just topped up their collateral pools, put plans into place that have been in place for some time. But actually, the interesting thing is, quite a few pension schemes have done more LDI on the back of higher yields. So they’ve used it as basically an opportunity to just close any sort of gap they might have in their desired hedge level.”
For schemes that might have already been 85% to 95% hedged, elevated yields have been a “nice opportunity to just top that up at a good price,” he said.
Aqib Merchant, fiduciary manager at Russell Investments, wrote in a Jan. 9 note that “higher yields could ultimately enhance [pension] schemes’ long-term financial resilience, provided schemes take the appropriate strategic decisions to lock into these advantageous positions before yields revert to lower levels seen in the past.”
But while higher yields provide a more attractive level pension funds to lock-in, such funds have already upped their hedging in recent years, Simeon Willis, chief investment officer at pensions advisory XPS Group.
“We’re not seeing wholesale changes in schemes hedging … we’re not going to see a sort of wall of money coming in to be able to market,” Willis said.
“That actually presents a bit of an issue for the [U.K. Debt Management Office] when it’s issuing gilts, because historically schemes have generally been increasing their hedging through time, which means when they’re issuing new gilts, they’ve got demand for people who want to buy their new gilts over and above the ones they already hold.”
“But now you’ve got pension schemes that really hold all the gilts that they want to, and they need. So they don’t really have demand to buy new ones unless they’re replacing gilts … they’re just sort of transacting within their portfolio. There’s no net new demand coming from a big shift in the hedging levels,” Willis added.
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