iDKA

Reasons for the Pensions Crisis: Part One

Here’s a bleak prospect: there is every likelihood that in less than 50 years’ time there will be no fish left in the sea. Nada. This is the stuff of climatic nightmares and is due to three cumulative factors: overfishing, dumping fertilizer in industrial quantities into the oceans, and rising sea temperatures.

All three are happening at breakneck speed and our fish are facing an “extinction event”.  It’s not that no-one knew about this, it’s just happening much faster than anyone realized.

Something equally grim is unfolding in our own beloved industry and the timeframe for Armageddon is even less - maybe 30 years, if that.

Here’s the simple fact. We are staring straight down the gun barrel of an impending global demographic and socio economic catastrophe which will fire its lethal rounds over the next two or three decades, and it will be every bit as disastrous as an empty, sterile sea.

I want to suggest four factors at work in the pensions crisis. Here is the first.

The Government is broke

It is the Government’s basic, sacrosanct and perhaps greatest duty to ensure that the citizens it serves have sufficient resources to live adequately in old age. I’m not talking about foie gras and caviar or holidays in the Maldives and Courchevel; I am talking about having sufficient food to eat, heating in winter and decent, affordable medical care in your twilight years. But the simple unarguable fact is, the UK Government is facing an unprecedented and chronic lack of funds and it can’t deliver on its obligations.

The situation is so unspeakably bad, the Government is taking money away from old people by decreasing the level of inflation proofing, switching from final to average salary pensions and a bunch of other like-minded measures.

Why is the government in such deep trouble? Well, one big reason is the gargantuan National Debt. Currently around £4.8 Trillion (if you include unfunded public sector pensions) you would need a pile of £50 notes 6,561 miles high to pay it off. Long story short, there’s no help coming from the Government in the hour of need or any time soon.

That’s Part One of the story and I wrote this prezi to help explain it.

#Ghana #England Here we go!

 “The atmosphere in our camp is amazing. We all sing together, African music, songs from our childhood in Ghana. We play as a team. We thank God for what we did at the World Cup. We fought hard and worked hard as a team, we played like brothers. This is the first time Ghana has played England so it is very important to us. It will be a historic match because if we win, we will make history.”   John Mensah

 "A large proportion of Britain's Asian population fail to pass the cricket test. Which side do they cheer for? It's an interesting test. Are you still harking back to where you came from or where you are?   Norman Tebbit 

 In every sport and on all occasions I’m a passionate England supporter. But tonight, I’m going to flunk the Tebbit Test. Tonight, I'm heading to Wembley to see  England play Ghana and for the first time ever I won’t be cheering on Capello’s men. This is the game I’ve been waiting for – the big one. All my life I have nervously fingered the horns of this particular dilemma. I’m between a rock and a very hard place and here’s why:

My mother is English, my father is Ghanaian.

I was born in London, I grew up in Accra.

I lived in Ghana until I was 16. I have lived in England ever since.

I’m as integrated into English society as I could wish to be. In fact it doesn’t even register with me if I’m the only black guy in a room of a hundred white folk.

I’m Ghanaian when I am with Ghanaians and I am insanely proud of my Ghanaian heritage in all its diversity – from its hard-coded notion of indiscriminate welcoming hospitality to its riotous laughter and brightly coloured gaiety.

I’m English. I’m Ghanaian.

So what to do? Ultimately, it comes down to those curious things - human endeavour and courage and spirit. This game means so much more to us Ghanaians than it does to us English. Every Ghanaian on the planet will be watching the game tonight, cheering on its indefatigable gladiators. They who came soooo close in South Africa only to be denied by the cheating hand of Uruguay’s Luis Suarez (although admittedly we didn’t help ourselves by missing the penalty). In contrast, Capello hasn’t even bothered to field his A team and I somehow doubt every Englishman on the planet is going to be glued to the telly.

As my Canadian friend, Catharine Patha, observed ironically last evening, “Of course you’ll support Ghana. You English love the underdog. In North America we only care about winners.”

So there you have it. I suppose I could compromise and celebrate wildly when either team scores, but somehow I don’t think that’s going to work.

Sorry, Norman, tonight the Black Stars are going all the way!  

June 4th: Revolution Day!

The Road Not Taken

The other day I was talking to a guy who just got fired by his company. He thought he was going to get a pat on the back and a Christmas bonus. Instead he was given 10 minutes to clear his desk. I expected him to be properly downcast but, given his situation, he was surprisingly upbeat.

The reason? Turns out he was planning to leave the company anyway (“they don’t understand the fundamentals of their own business and probably won't be around in two years...”) and, more importantly, he has an innovative start up idea of his own which has been sitting on a shelf for too long. Now he gets to test it out and see if he can at least achieve proof of concept. His shock at being let go is mitigated by the relief of escaping from a job he knows wasn’t right for him and the excitement of a new and promising road ahead; a road, until now, not taken.

Many people wait until they get fired or made redundant or their job becomes unbearable before they seriously consider doing something different, but IMHO it’s better if you get to make the choice yourself and leave to do your own thing on your own terms and in your own time.

Back in early 2006, it was difficult to leave my job at Merrill Lynch.  To tell the truth, it wasn’t the leaving that was hard, it was making the decision. Once I had made up my mind, the rest fell into place. I made an appointment to see my boss and quit. He was convinced I was leaving to join Goldman; he just couldn’t understand why any rational individual would, out of choice, leave a firm like Merrill Lynch to set up a pensions and insurance consultancy business.

It’s often the case that when you have an idea that grips you, most people will give you a long list of reasons why it won’t work, why you shouldn't take that road. Sometimes, of course, they’re right. But, often, they’re wrong. And we don’t know until we take it. 

The Road Not Taken

Two roads diverged in a yellow wood,
And sorry I could not travel both
And be one traveler, long I stood
And looked down one as far as I could
To where it bent in the undergrowth;

Then took the other, as just as fair,
And having perhaps the better claim
Because it was grassy and wanted wear,
Though as for that the passing there
Had worn them really about the same,

And both that morning equally lay
In leaves no step had trodden black.
Oh, I kept the first for another day!
Yet knowing how way leads on to way
I doubted if I should ever come back.

I shall be telling this with a sigh
Somewhere ages and ages hence:
Two roads diverged in a wood, and I,
I took the one less traveled by,
And that has made all the difference.

Robert Frost, 1920 Mountain Interval

It's a New Brand Day!

Whether you like it or not, you have a “brand”. It’s your received persona, the essential you, the public’s perception of who you are and what you stand for. “Brand” is probably not the best word to describe you (it sounds manufactured and artificial) but it does the job. Your brand is you. Or more accurately, it’s what everyone else thinks is you.

We Woz Robbed

Boris Johnson withdrew his offer to FIFA to stay rent free at the finest hotels in London during the Olympics. David Beckham was stunned and amazed and the rest of the nation with him. But is it really such a surprise that the 2018 World Cup has gone elsewhere? The foiled / failed bid takes me back to my days at Merrill Lynch when I was pounding the pavement to persuade companies and their pension funds to hedge against the risk of falling rates and rising inflation. The comparison may not immediately jump off the page but bear with me.

As the handwringing and blame game over the World Cup debacle continues, one thing is obvious: you could have sent Her Majesty Queen Elizabeth II in person to beg FIFA on bended knee and it simply wouldn’t have made a jot of difference. The big mistake – and, frankly, it was a schoolboy error - was to blithely assume that the glittering combination of David Beckham, the Prime Minister, and Prince William would be a killer combination, an irresistible delegation. How could even Sepp Blatter say no?

Don Putin, for his part, didn’t even bother to turn up. He did not need to. Even a clutch of absolutely dreadful headlines in the days leading up to the vote had no effect on the Russian campaign. A Spanish judge (apparently an expert on such matters) declared unequivocally that Putin was Il Capo in a ruthless and corrupt mafia state. Others in the loop said it seemed impossible that Putin didn’t personally know about the plot to kill Alexander Litvinenko with a Polonium-210 Cappucino. He even got called “Alpha Dog” by American diplomats in Paris! Does he care? Meh.

The bookies got sucked in and reasoned Putin’s no show at the vote was a huge Russian tactical mistake; on the strength of our Three Lions in Zurich, odds shifted England’s way. To read the papers last Tuesday, it was a done deal, a sure thing. “Putin hasn’t bothered to show up - probably busy putting a horse’s head in someone’s bed - we’ve got the three most important men in England on the case. How can we but rejoice?”

Well, easily, actually. We got TWO votes out of a possible 22. Two!!! One of them was our own. As we now know, the huge mistake was believing that Beckham, Cameron and William Wales would carry any weight with FIFA. In other words, it was painfully naive to assume the playing field was level. It rarely is in such matters. Assumption, as they say, is the mother of all slip ups.

Back to Merrill days. I recall one particular episode worth recounting. In 2003, I began to talk to the Treasurer of a major FTSE corporate about the pressing need to hedge certain key risks in the corporate defined benefit pension scheme. I showed him a load of material including the Red Alpha Kite Graph which, in a nutshell, was a vivid picture of how ugly things could get if you weren’t hedged. He was a punchy American from the Mid-West who was happy to make decisions and "get the job done". In the following weeks and months, we had countless meetings with corporate senior management and the pension scheme trustees to discuss the fine details of how to get the hedge implemented.

 

One key trustee meeting was held in Windsor in early August 2004, slap bang in the middle of my summer hols. The client was crystal clear. This was going to be a crucial meeting for some key decisions and I needed to be there. It was a hot, dry summer in Southern Europe and the day before the meeting, our bit of the Algarve caught fire. Big time. We could see the glowing redness of the flames in the distance as the rubber trees exploded and thick choking ash rained from a darkened sky. With plenty of misgiving, I headed back to London for the meeting, but not before I made sure my wife had the phone number of the local fire brigade (just in case, darling...). I seem to recall a long hard stare as I reassured her I would be back before she knew it.

Eventually, the pension scheme did indeed implement the hedge. Only, not with me. My opposite number at another bank slid in under the radar and snaffled the transaction. I had spent two years with this client and had done virtually everything humanly possible. It didn’t help. I still lost the deal. Nada. They did the transaction with the other bank. I never did find out why.

In truth, I could cite many such examples of missed deals and gnashing of teeth. Back at base, there was always a huge and lengthy post-mortem, endless churning over events in microscopic detail in an attempt to work out what had gone wrong.

Usually, it was something unforeseeable: the other bank happened to have lent more money to the corporate sponsor or had offered to do the transaction on better terms. On one farcical occasion it turned out that the sponsoring corporate’s Non Executive Chairman was also the Other Bank’s most senior relationship banker in London. I didn’t have that one covered off.

Don’t get me wrong, I did my share of transactions. But I also learnt the hard way; you can do everything reasonably expected and then go further; you can invest literally months of your life, leave your family in a raging inferno in the middle of your summer holidays and still lose. Sometimes it all pans out, but sometimes, often, it doesn’t. And that’s just the way life goes. Sometimes you’re outmanoeuvred, other times the Other Guy is just better than you; on occasion, it’s not your fault, it simply doesn’t go your way. The fact is, Sepps lurk everywhere and Blatters abound. The take away? Suck it up and move on. It is what it is.

Post Script: Having spent time on both sides of the fence I would humbly like to suggest some principles. If you are a pension scheme trustee and your investment committee is in conversations with an investment bank over a proposed transaction:

• Not every idea proposed by a bank is a good one, but many of them are. Banks have a huge amount of intellectual capital at your disposal and, if you explain what you need, more often than not, they will come up with a workable solution that goes some or all the way to meeting your requirements;

 

• Banks put a lot of work into making a transaction happen. Provided you get a fair, market price, you should deal with them if they have shown you the idea and invested a lot of time explaining the transaction and getting you comfortable;

 

• Do not “encourage” the bank if, realistically, you have little or no intention of dealing with them. It leaves a sour taste and they will not forget it. In such situations, there is always an internal inquest and they are rarely happy affairs;

 

• If, in the end, despite everyone’s best efforts you do not deal with the bank, plenty of candid feedback will be very much appreciated.  Let them know as soon as you can that the transaction is not going to happen - timelines are very important to banks. And whatever else you do, do not keep them in the dark over why the transaction did not happen;

 

• As a rule, Banks understand all too well that client relationships (especially with pension schemes and their consultants) are very hard to establish and even easier to lose. They work hard to nurture them. It is always worthwhile cultivating close relationships with two or three investment banks, provided both sides know where they stand.

Nullius in verba, Rodney!

On a brisk October morning in 2002, under powder blue autumnal skies and with a chill in the air, I stepped out into a West End street, drew the collar of my coat up around my ears and walked through St James’s Park up towards Pall Mall. The leaves on the trees were a stunning pastiche of variegated mustard yellow, burnt orange and rust and teal. I suppose I should have been lost in wonder, but I wasn’t. I had a lot on my mind.

A few minutes earlier, I had finished a meeting with the Finance Director of a FTSE 50 company with a large pension scheme grappling with a significant funding deficit. As a matter of fact, I had attended an earlier meeting with the same Finance Director three weeks before that, at which I had outlined the shape and size of a financial meteorite which, I informed him, would probably throw up a cloud of dust and ash that would blight the rest of his time in office.

My message was simple and had three points. First, the ground rules are about to change. There is shortly coming a day when the present value of your pension scheme’s liabilities will be calculated and unceremoniously dumped onto your corporate balance sheet. Second, the volatility that this will introduce will dwarf all your current problems and cause a prolonged corporate headache, the like of which you cannot now fathom. Third, this issue (rather than poorly performing equities) will be the central cause of all your difficulties from now on.

I then offered him my humble services and said my then employer, Merrill Lynch, would be grateful for the opportunity to look more carefully at the issue and to propose a solution in the form of a hedge. I went further and suggested that failing to hedge would be akin to foregoing home insurance in the belief that your house could never catch fire.

I have to say he did take me seriously at that initial meeting. It was the first time anyone had put any numbers around the size of the potential problem and, if even half true and not merely the product of an investment banker’s over-stimulated imagination, he realized he needed to look closer. He promised to speak to his investment consultant and see if he agreed.

This second meeting was by way of follow up. It quickly became apparent that his interest had waned. The FD had spoken to various corporate and scheme advisers who were unanimous in their advice that the type of action I proposed was not necessary.

They had advanced three principal arguments:

First, marking to market of pension liabilities was a misconceived accounting device and it would be a mistake to take major strategic decisions based upon “a new and arbitrary” accounting rule. Something about the accounting tail wagging the investment dog.

Second, the only point at which the predicted meteorite would materialise would be in an environment of prolonged, extremely low real yields, namely, yields significantly lower than then prevailed. Real yields were at 2.20% and “just would not and could not fall below 2% for any sustained period of time”. The “problem” as I had articulated it simply did not exist.

Third, a badly beaten up equity market was the principal problem that had to be addressed. In the aftermath of 9/11, markets had collapsed and it seemed obvious that all restorative effort needed to be applied there.

In a nutshell then, the FD informed me with some regret, despite his best efforts he simply could not garner support from any quarter. No one bought it. He suggested I focused my efforts instead on devising equity downside protection strategies and bid me farewell.

And so it was, that as I stepped out into the bustle of Victoria Street, SW1, the monumental scale of the issue dawned on me and I realized that this was going to be one huge mountain.

In the following months, I wrote articles, made presentations and had literally hundreds of meetings which followed a similar pattern; initial interest in the concept of hedging volatile pension liabilities, followed by evaporating enthusiasm. I was like Old Man Noah, predicting torrential rain in a dry, hot desert.

Then in late 2003, after extensive deliberations between sponsor and Trustee, Friends Provident Pension Scheme decided there was merit in the idea and hedged all of their liabilities against a falling real yield. By coincidence, they executed the hedge on the very day that real yields began their precarious and prolonged descent from 2.20% to absolute zero and below.

As the real yield collapsed, UK PLC's defined benefit pension liabilities soared. The Friends Provident hedge - which rose dramatically in value - was a runaway success and the Liability Driven Investment (“LDI”) market rapidly developed over the next few years to become a core part of pensions risk management.

But - and it’s a big "but" – the main objection has never gone away. Many people are still firmly of the view that it is utter folly to force pension funds to mark their long term liabilities to market and madder still to then plonk them onto the corporate balance sheet and behave as though they represent some kind of debt “payable today”.

Even those who accept that if liabilities are to be discounted then a meaningful / market discount rate should be used, still often regard the whole thing as a somewhat flawed exercise given that the liabilities don’t actually all have to be paid today.

Listen to Lord Hutton during Q&A at the NAPF on 7 October 2010:

“Discounting is a topic that seems to generate views of almost religious fervour within the pensions community. I tend to eschew any sort of idealogical approach to this. I don’t think there’s an appropriate discount rate. I don’t think there’s an ideal benchmark – bonds, gilts, whatever, or social funding preference rate. You will see from my report I have made some comments about whether, for example, the 1% [discount rate] that’s factored in for cataclysmic events is really appropriate in the context of pension provision and I’ve suggested it probably isn’t.

And I think if you look at the spread of 3.5% above RPI as a notional rate of return for investment, that’s pretty generous and that’s why I’ve said I think it’s at the high end of what could be useful. Now of course that has very significant implications. Some people get very excited about the increase in the valuation of liabilities. I think that’s an issue but I wouldn’t sort of sweat over that at night. It’s not keeping me awake.

I don’t think an event’s going to happen where we have to pay out on Day 1 all the accrued liabilities across the public sector. I don’t think that’s likely to be how a cataclysmic event materialises in this context. And neither do we ignore spending care on the elderly or education or housing or anything like that because if we did we would all probably panic and leave the room immediately and go and lie down somewhere.”

So there you have it. Lord Hutton is not a fan of discounting liabilities per se. It’s really not something to sweat about.

However, Lord Hutton acknowledges that using a meaningful discount rate does matter when it comes to calculating pension contributions. He went on:

“So I think we’ve got to be level headed about it. What I do think, however, is an issue about the discount rate is measuring the contributions. We’ve kept contributions low because the discount rate has been too high and now we’ve got a problem.

I’ve said to the government “You should look at the discount rate because it’s too high and you’ve got to think about the implications for contributions and so on.”

I believe I am right and I have set out the argument very clearly in the report. I’m not trying to torture the data until it confesses. A lot of people think it’s all jiggery pokery or smoke and mirrors. It’s technical but it’s really fundamental and I’m not doing anyone any favours in the long term or even the short term if I try to pretend that this part of the estate is in good order. It’s not.”

To sum up, his Lordship's view is that discounting is important for calculating contributions but not for working out the present value of the liability.

Well, as his Lordship says, the business of discounting pension liabilities provokes normally sanguine individuals to levels of quasi-religious intensity. In fact, I have rarely come across a philosophical problem that has more clearly divided right thinking and intelligent people across this industry.

There are of course many types of “problem”. One type is the “Is there a God?” kind. You can be super intelligent and yet be an avowed atheist:

“A man's ethical behaviour should be based effectually on sympathy, education, and social ties; no religious basis is necessary. Man would indeed be in a poor way if he had to be restrained by fear of punishment and hope of reward after death.”     Albert Einstein

Then again, you can be extraordinarily brilliant and still be an ardent believer.

“A man can no more diminish God's glory by refusing to worship Him than a lunatic can put out the sun by scribbling the word, 'darkness' on the walls of his cell.” C. S. Lewis

Intelligence, then, has no bearing on whether or not you believe – it’s a matter of faith.

The second is the “Why (in the absence of friction) does a heavy object fall at the same speed as a light object?” type. That’s the sort of question which, given enough thought, deliberation and reason by sufficiently smart people, can eventually be answered. Up until Galileo, (and Newton shortly after), it was all a bit of a mystery (Aristotle got it completely wrong). Then in 1667, Sir Isaac Newton published his Principia Mathematica describing the action of gravity and the penny dropped. It remains one of the most influential books of all time and was undoubtedly the product of much reasoned debate together with the weighing of corroborated evidence by the great minds of the day.

The third problem is of the “Should I vote right or left?” variety. Those of either persuasion will argue until they are blue (or red) in the face that theirs is the enlightened path. The other is an affront to humanity. It appears one can be highly intelligent, (except perhaps in the case of George Dubya or Mrs. Palin) and sit on either side of the political line.

The issue of discounting pension liabilities, to my mind, falls squarely into the third category. As in political leaning, there appears to be simply no accepted “correct” answer and I am constantly taken aback by the strength of views on both sides of the divide. If you want a sense of how sophisticated, protracted, intricate (and punchy) the argument can get, read Con Keating’s mallowstreet blog: “The nostrums of modern financial theory”.

The pensions industry should have a proper debate on this topic and that’s what we’re going to do next month, fielding some of the industry’s fiercest and finest.

Here’s the motion:

“This house believes that mark-to-market accounting is inappropriate for pension liabilities and should be abolished.”

As Delboy would undoubtedly say, “Nullius in verba, Rodney, Nullius in verba!”

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 This is an extract from the invitation that we sent to the mallowstreet community:

We have the pleasure of inviting you to a special mallowstreet debate at 18:30 on 24th November 2010 in Central London.

Six excellent speakers will debate the following motion:

“This house believes that mark-to-market accounting is inappropriate for pension liabilities and should be abolished.”

For the motion

Con Keating

 Mark Rowlinson

 Simon Carne

 Against the motion

Simon McClean

Jeroen Wilbrink

 Robert Gardner

 This discussion has raged for the last decade and continues to generate more discussion than almost any other. The debate promises to be particularly fascinating because the audience will comprise members of the entire pensions industry including: scheme trustees, pensions managers, scheme secretaries, CEOs, CFOs, bankers, market makers, accountants, investment consultants, actuaries, lawyers, custodians, asset managers and many others. A wide range of views will be represented by those present.

The debate will last 90 minutes, including vigorous audience participation, and will be followed by drinks and networking until 9.30pm.

Seats are limited and will be allocated on a first come, first served basis. So sign up to mallowstreet or RSVP to Elena.delpino@mallowstreet.com in order to secure your place!

See you there!

CPI v. RPI on the Today Programme

I just arrived back from Shepherd's Bush and the surprisingly gentle experience of being interviewed by the BBC’s Today team. They called at midnight last night and asked if I would present myself early this morning to explain what mallowstreet is, and why some members of the community were calling for consultation by the DWP on the switch from RPI to CPI.

I arrive in pouring rain and the chap at the gates tells me to park in a bay which says “Absolutely No Parking”. The studio is tiny with outsized microphones casually dotted around a huge circular desk.  John Humphreys is doodling a creditable and detailed picture of a microphone while a BBC journalist in Kabul spells out the latest news from the front. James Naughtie is reading a note about Naomi Campbell, who is getting more press coverage than the man on trial for some of the worst war crimes in the last few decades. There’s a chap in a T shirt and jeans reading out the sport and a very well spoken lady named Karen delivering the news.

Eventually, Mr Naughtie turns to me and asks what it’s all about and I do my best to sum up the thoughts aired over the last four weeks on mallowstreet.

It was Brian Redhead who once said:

"If you want to drop a word in the ear of the nation, then this is the programme in which to do it."

And no surprise. It’s Radio 4’s most popular programme with an average of six million listeners every week.

Which brings me to mallowstreet and what the community has achieved.

On July 8th, the DWP announced that it was going to do everything in its power, including amending legislation, to switch the inflation index from RPI to CPI. Everyone goes on holiday in July and August and Parliament is in recess. The NAPF is relatively unconcerned and the CBI welcomes the move. Long story short, this proposal was virtually guaranteed to go ahead in September.  

However, several people are very concerned that the proposal has unintended consequences and has not been thought out properly.

Banks are horrified that there is no indication of whether CPI linked government debt will be issued to match the changed benefit linkage. Further there is no clarity around the volume of RPI or CPI linked assets that will be required over the short to medium term. In fact, there is little evidence the DWP has discussed the detail with the Debt Management Office. This is all cause for major concern and the market doesn’t like it.

Lawyers predict that there will be lots of legal analysis as pensioners and other scheme members fish out documents showing that they were promised RPI linked benefits and protest at the reduction in their benefits.

Ironically, some say, many pensioners have lost sleep wondering whether their occupational pension scheme was fit for purpose in terms of having sufficient assets, or have fretted about having to work an extra year before they can retire. But nobody expected the government to reduce the inflation linkage.

Actuaries point out that ETVs and Annuities may now turn out to have been wrongly priced since they typically reference RPI, not CPI.

Trustees and consultants are concerned that member benefits will be lower and argue that the change is retrospective in that it affects benefits payable in respect of work already carried out.

Some observe that the switch to CPI as the new Statutory Required Minimum will have the interesting consequence of obliging explicitly RPI linked schemes to pay RPI, or CPI if higher, which would be a first.

Others welcome the proposal as a sensible move towards a more rational index and can’t see what all the fuss is about.

And then there are those who say there's only one thing for it. The Government is simply going to have to enact legislation wiping the RPI hard drive and over writing it with CPI. At which point the moral hazard reading goes off the scale. 

But almost everyone who comments, makes the point that this proposal should have been consulted on. And now, that key point has been dropped into the nation’s (and the DWP’s) ear.

And just a final point. I see that some articles today describe mallowstreet as representing the views of the entire community which, of course, is not the case. I suppose that’s the nature of social media and the inherent difficulty in controlling the media’s take on things.

But against that, all those mallowstreet voices speaking out on this important issue have played a key part in causing the government to pause for thought before it presses on with its agenda. And they have done so just when those clever mandarins thought everyone was away on their summer hols.

CPI v. RPI? Ask The Audience!

If you are still pondering your holiday reading list you may want to include Clay Shirky’s excellent book “Cognitive Surplus – Creativity and Generosity in a Connected Age”.

It’s a must read (or watch) for anyone interested in how and why social media works. I suggest you beg, borrow or steal a copy. Or you could buy one.

The Daily Telegraph’s review says it is: “Full of glittering, brilliant insights that made me think, yes, of course, that’s how it all works”.

 Two of those insights are perhaps relevant to the Department of Work and Pensions’ stated intention to change pension benefit linkage from RPI (which historically has produced a higher inflation uplift) to CPI (which historically has produced a lower inflation uplift).

First, Shirky says, when governments want to rush through oppressive, ill-thought-out or just plain daft laws, they rely heavily on the truism that people generally can’t get organised fast enough to do anything about it.

So, every now and then, the government introduces some material change in the law that it desires for its own reasons (good or bad), and it deliberately does so when everyone is away on holiday and /or can’t get their act together until it’s too late to react. You may think that’s what’s happening here.

Second, Shirky says, social media is an extraordinarily effective way to organise a large group of like-minded individuals in order to provide a potent check on such behaviour and to effect change.

PickupPal

He gives the illuminating example of an online platform, PickupPal.com which allowed people with cars to offer lifts to other folk who wanted to travel to the same place. The practice is known as “car pooling” and it’s big in North America.

On the PickupPal.com site, you simply enter the destination you are driving to, and the amount you will charge a passenger to take them. This worked amazingly well and people were connecting up nicely, travelling together in cars, making new friends and saving a fortune on bus fares and on fuel.

However, the bus companies didn’t like PickupPal.com (for obvious reasons) and in mid-2008 one such company in Ontario (Trentway-Wagar) petitioned the Ontario Highway Transport Board to shut down PickupPal.com on the basis that Section 11 of the Ontario Public Vehicles Act said car pooling could only happen between home and work (rather than, say, school or hospital).

Car pooling had to happen within municipal lines and it had to involve the same driver each day. And fuel or travel expenses could be reimbursed no more frequently than weekly. In summary, the bus companies liked the previous set up – inefficient and un-user-friendly as it was.

PickupPal.com lost the case and was ordered to cease its activities. This all happened during a period of severe financial downturn and high fuel prices, so the closure of PickUpPal was a disaster. And there was really no good reason.

Then PickUpPal organised an online petition. All the people who, in the meantime, had been forced back onto hot, crowded, dirty buses, or into their gas guzzling cars, joined the petition and voiced their frank opinions about the daft car pool law.

Long story short, it became politically too hot to ignore and the Ontario legislature amended the Public Vehicles Act to make PickUpPal legal again.

The point is, if enough of you feel strongly that a situation is unacceptable, you can get it changed.

DWP RPI CPI

So, what is unacceptable about the DWP’s summary decision to switch the linkage of defined benefit pension benefits from RPI to CPI?

For a start, there has been no “due process”, by which I mean there has been a complete lack of visible consultation or debate. When the Accounting Standards Board or other professional body plans to make material changes to existing industry standards, there is typically a lengthy consultation period. The views of industry are sought and sifted, after which an informed decision is taken.

That hasn’t happened here, and it’s inexcusable from a brand new government that says it wants to consult the public. You may think failing to consult properly, or at all, before messing retrospectively with people’s accrued pensions is just not cricket.

In addition, the details have been pretty poorly communicated; the four “illustrations” in the DWP’s note raise considerably more questions than they answer, and there are several issues they plainly just haven’t thought through.

For example, some pension funds explicitly state in their Trust Deed that the benefit linkage is to RPI. For those pension funds, the introduction of a CPI based statutory minimum requirement means they will have to pay RPI, unless CPI is higher - in which case they will have to pay CPI. A sort of “better of RPI and CPI” formula. For them, their liabilities just went up - which, (if I understand it rightly), is the opposite of the DWP’s intentions.

Then there’s the fact that, despite protestations to the contrary, the DWP’s change will be undeniably retrospective, in that many pension liabilities that have already accrued to members will be adversely affected.

Take the case of Mr Jones. He worked for a pharmaceutical company for 20 years, retired three years ago and is now a pensioner receiving index-linked pension benefits as promised. The unavoidable bad news for Mr Jones is that very shortly, instead of RPI linked benefits, he will be receiving CPI linked benefits, which in all likelihood will be lower over the long term. Just like that! It’s not what Mr Jones (or anyone else) expected.

And for a fuller list of “issues” see the many contributions to the excellent forum thread, CPI v RPI started by Philip Read on mallowstreet.

Finally, I give you Nick Clegg, Deputy Prime Minister, in a speech in May 2010 entitled “The New Politics”:

“I have spent my whole political life fighting to open up politics. So let me make one thing very clear: this government is going to be unlike any other.

“This government is going to transform our politics so the state has far less control over you, and you have far more control over the state.

“This government is going to break up concentrations of power and hand power back to people, because that is how we build a society that is fair.

“This will be a government that is proud when British citizens stand up against illegitimate advances of the state. That values debate, that is unafraid of dissent."

Well, let’s get started. This community* (which represents over half a trillion pounds of pension fund assets) has an extremely powerful voice, so I wonder what will happen if several hundred of us cut and paste the following polite request into the comment box below this blog:

“Dear DWP, your proposal to change the linkage of pension benefits from RPI to CPI will affect the benefits of many pension fund members. Before any further steps are taken towards this significant change, please announce that you will implement a proper consultation process across the pensions industry.”

Time to find out...

*I posted this blog yesterday on mallowstreet.com - our online platform for the industry and people have started cutting and pasting...

Please feel free to cut and paste the request into the comment box here on Posterous, and /or let me know if you want to join mallowstreet – you just need to be part of the pensions industry in order to be eligible.

Cheque, please!

This correspondent is currently in the US, and the BP oil spill disaster is dominating every news channel 24/7 - as they say in these parts. I watched yet another TV interview yesterday in which various powerful Secretaries of State, Senators, Energy Committee chiefs, the Environment Agency, Congressmen and assorted Mayoralty stepped up to the camera one after another to pronounce apocalyptic damnation on “British Petroleum” and to “make clear that this company will atone in full for its harmful actions.”

Listening to this line-up, the final bill is going to be gigantic. And for those who may be tempted to think it is all empty rhetoric for political effect, this is what Senator Mary Landrieu ((D) Louisiana) had to say:

“If you made 50,000 dollars last year and now you cannot do that because of British Petroleum, they will write you a cheque for 50,000 dollars. If you made 1 million dollars last year and now your business cannot make that because of British Petroleum, they will write you a cheque for 1 million dollars. You have my word on that. There is no question in my mind who is going to pay the bill to individuals, to businesses, to parishes, to the state, to the Federal Government to reimburse them for the resources that have been spent to date and in the future. I just wanted to clear that up. Those bills will be paid in full by BP. They will be held accountable to the fullest extent.”

Or listen to Senator Richard J Durbin ((D) Illinois): “What we need to tell BP is, excuses don’t count any more. You caused this mess. Now stop the damage and clean up the mess. It’s your responsibility. You are going to pay every dollar you owe. Not the tax payers of America. Not the Federal Government. It’s your accident and you’re gonna clean it up. For me, BP doesn’t stand for British Petroleum, it stands for Beyond Patience.” And so on.

Perhaps the most evocative threat came from Senator Ken Salazar ((D) Colorado) who said: “We have said it before and I’m telling you again, we are going to keep our boot firmly on the throat of BP until they have fulfilled all their obligations to us.”

And just a couple of hours ago at the White House, the main man himself made it clear he was in no mood to cut BP any slack whatsoever:

“BP made this mess. BP is going to pay to clear it up.”

So, long story short, BP is in deep trouble with the US government and it’s getting worse by the day.  The current plan to plug the leak with mud and cement is far from guaranteed to work. Super deep water, incredibly high pressures and really low temperatures all combine to make for an unprecedented challenge.

President Obama says he is not thinking about much else right now. In the last three weeks he has personally become an expert on deep water oil well “Top Kill” techniques. Given all the other stuff he has on his plate, this is an added headache he could really do without.

All of this leads me to think about BP's pension scheme trustees and to ponder what their approach to the corporate sponsor might now be?

Historically, they have not had to trouble themselves with the trifling issue of a £3.53 billion hole in the £23 billion defined benefit pension schemes. For a company of BP’s gargantuan size, (£117 billion equity market value), that is a paltry sum which could be found in the loose -change jar under the bed.

Whilst other trustee boards would rightly be having acute palpitations over a £3.53 billion black hole, BP's pension scheme trustees could afford to sit back and relax, safe in the knowledge that nothing could rip a hole in the side of this mother of all super tankers. Hedge the massive interest rate and inflation risk inherent within the liabilities? Why bother, when your corporate sponsor can pick up the tab without flinching even if the deficit doubles or is calculated on a risk free basis rather than using more generous AA bond yields?

Indeed, according to the last Pension Capital Strategies Quarterly Report, BP’s pension schemes have an allocation of only 25% to bonds! That’s pretty laid back. Only four FTSE pension schemes have lower bond holdings in percentage terms – and those four are all tiny inflatable dinghies in comparison to this mighty vessel.

But when a righteous and furious President of the United States of America promises to personally present your corporate sponsor with the full bill for clearing up what may shortly become the largest oil disaster in history, you might want to think about getting your own modest £3.53 billion bar tab settled in advance. Like, RIGHT NOW!

In other words, whilst the sponsor is concentrating on plugging troublesome holes, it makes sense to add this one to the list. Otherwise, it’s not inconceivable that your 69,000 members, including 39,000 pensioners, may find themselves joining a long queue stretching from the marshlands of Louisiana all the way back to Washington.