Money Times - April 7, 2015

Posted by Jill Kerby on April 07 2015 @ 09:00



The toughest ‘sell’ in the world of personal finance is …pensions.

The young never think they’ll be old some day and as they hanker after foreign travel, their first car and home and eventually children (and crèche fees), the funding of a pension that they can’t access for 40 years loses its appeal and urgency.

And unless the person joins an occupational pension scheme in which membership is automatic, there isn’t any legal compulsion to save, except for the state pension, of course, PRSI contributions being compulsory.

The ‘problem’ with pension membership and funding is universal in western economies. We are not alone in the shortfall of pension savings, even among the one million scheme members, made up of about 241,300 in defined benefit (final salary) schemes; 179,000 in defined contribution (DC) schemes, 338,000 public and civil servants in their DB schemes and the c250,000 self-employed and company directors in private pensions.

The start of European ‘quantitative easing’ just made pension provision more difficult.

I recently attended an investment conference hosted by the Irish Association of Pension Funds. Their members are employers who sponsor occupation schemes; the life assurance companies that manufacture plans, the fund manages of the salary contributions and the advisers and administrators of the company schemes. About €100 billion is under investment.

The conference was a real eye-opener, if only because the consensus of speakers and attendees appeared to be that the start of the €1.1 trillion worth of money printing that the European Central Bank began last month is going to make it even more difficult for employers, workers and their fund managers to produce decent returns to meet both contractual obligations to DB members and to achieve all pension members’ goals of a ‘reasonable’ retirement age and income.

Very simply, by printing €60 billion a month for the next 18 months, ostensibly to buy existing bonds from banks and to release capital that can be lent out to stimulate our stagnant economies, the ECB is going to drive the price of bonds higher (all that money chasing a finite number of goods), and push down the annual interest return (‘yield’) to those who invest in bonds – like pension funds.

Bear with me, dear readers:  Government and high grade corporate bonds that the ECB are now buying, are a form of debt.  Countries and companies issue bonds in order to raise money and over a typical 2, 10, 20 or 30 year period, agree to pay their lenders an annual return, or ‘yield’. The bigger the demand for their bonds, the less the country/company issuing them has to pay in the form of an annual yield. With the ECB as the guaranteed buyer over the next 18 months of €1.1 trillion worth of bonds the European banks already have on their books, the price of new bonds is going up and yields are falling.

Defined Benefit pension funds historically have loved bonds because of the certainty of the yield and the knowledge that they’ll get their capital back at the end of the 10, 20 or 30 years. It means they can plan better how to meet their promises to pay their retired workers a retirement income commensurate with their years of service and final salary.

But when central bankers embark on money printing on the scale the inevitable higher bond price and lower yields means it is increasingly difficult for companies to meet those service/salary promises, which is why so many more Irish DB pension schemes are now at risk of closure.

It also means that people who save in defined contribution pension schemes – where your final fund is only worth what you and the employer have invested and grown – cannot depend as much on safe bonds as a key investment asset and may have to take more risk by buying more stocks and shares, property and other hard assets, which have perversely benefitted from QE money, as their new owners, seek higher returns, pump up stock prices.

So what should you do if you are a member of a private company pension scheme or self-employed one?

First, fight the inertia.

At retirement, members of occupational schemes get their income for life mainly from the purchase of an annuity. Its value is dependent on the yield being paid by bonds. The steady fall of this yield (even before QE) means that retirement incomes are half what they were a decade ago.  This latest bout of QE is going to worsen this, the IAPF conference was told.

You need to find out not just what you portion of the company pension scheme is worth, but what your company plans to do with your pension contributions going forward. If you are a DB member, can the scheme survive? What extra risks might the trustees/fund managers have to take with your money?  How realistic is a retirement age of 65?

If you have a personal finance question for Jill, please email her at jill@jillkerby.ie or write to her c/o this paper.


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