Liquidity and leverage

In April 2023, The Pensions Regulator issued guidance outlining practical steps trustees can take to manage risks when using leveraged liability-driven investment (LDI). This followed the events of September and October 2022, when the Bank of England had to intervene in the gilt market to restore market functioning.

As a trustee, you must ensure you have the right controls and governance around LDI. You need to be confident that you have ways of working with your advisers and managers in place so you can act quickly and effectively, particularly in a crisis. This is especially true if you have high levels of leverage, meet infrequently as a trustee board, or have more infrequent contact with advisers.

This year, we will ask you for details of your liquidity and leverage and the controls you have in place. We will use this to assess whether our guidance is effective and identify areas where stronger controls may be required.

Update on answering the questions as at the report and accounts date

We expect to complete the sections below as at the 'accounts date' (ie, the same date at which you will have completed the scheme return asset breakdown):

• LDI mandates
• Standalone synthetic equity mandate
• Availability of liquidity

If you are unable to provide accurate data as at this date, or it would be burdensome to do so, we will accept a more approximate estimate.

We understand that some schemes may find it difficult to provide accurate data for the 'basis points to zero NAV' field for 'accounts dates’ before November 2022, when we first published our LDI guidance. In such circumstances, we will deem the 'basis points to zero NAV' as at 31 December 2022 to be an acceptable approximate estimate.

For the avoidance of doubt, we expect you to complete all other sections based on the scheme's arrangements as at the date of submitting the scheme return.

You do not need to revise your scheme return based on LDI data if you have already completed and submitted it at a different date.

Questions

Does the scheme use leveraged LDI?

If your scheme uses leveraged LDI, it means:

• you use financial instruments to increase your allocation in certain assets such as gilts, index-linked gilts, and fixed-income derivatives
• the financial instruments you use require you to provide collateral to counterparties as security

LDI mandates

In this section, we ask you to create a list of the scheme’s leveraged LDI mandates.

Segregated mandates

If your scheme:

• has a segregated LDI mandate, please add one entry for that mandate

• has more than one such mandate (for example, with different managers), please add separate entries for each mandate

Bespoke pooled 'fund of one' mandates

If your scheme:

• has LDI assets that are all wrapped up into a single bespoke pooled 'fund of one' LDI mandate, please add one entry for that single pooled fund

• has more than one such bespoke pooled mandate, please make separate entries for each mandate

Pooled fund mandates (invested alongside other schemes)

Otherwise, the overall mandate with the LDI manager will typically comprise different pooled funds with no overall fund wrapper. If this is the case, create a separate entry for each leveraged LDI pooled fund you invest in.

Disregard any unleveraged funds you hold with the LDI manager. For example, if your LDI mandate comprises separate funds for:

1. leveraged nominal gilts
2. leveraged index-linked gilts
3. liquidity fund
4. unleveraged index-linked gilts

add two entries to the list, one for the leveraged nominal gilts and one for the leveraged index-linked gilts at (1) and (2) above.

Questions

Asset manager name

Is the LDI mandate pooled or segregated?

Select 'Pooled' if this mandate is either a pooled fund in which several different pension schemes invest or a pooled fund that has been set up just for your scheme such as a ‘bespoke pooled fund’ or ‘fund of one’.

What is the net asset value of this LDI mandate as a proportion of the scheme’s total assets?

The net asset value (NAV) is the amount of the mandate as stated in the scheme’s overall asset valuation.

What is the yield buffer to zero NAV of this LDI mandate?

The manager of this LDI mandate will be able to supply this information.

If the yield to zero net asset value (NAV) is more than 1000 basis points, enter 1000.

Calculate the answer with reference to the entire collateral pool available within this individual LDI mandate. For example, where the collateral pool is used to back both interest rates and synthetic exposure to another asset class, assume the whole collateral pool backs the rates portion of the mandate only. Ignore (for the purposes of calculating the buffer) the fact that both sources of leverage share a single pool).

Does this LDI mandate expose the scheme to any other asset classes beyond (nominal or real) interest rates?

Select the exposure beyond (nominal or real) interest rates provided by this mandate.

Standalone synthetic equity mandate

A synthetic equity mandate uses derivatives to gain all or substantially all of the equity market exposure.

Does the scheme use a standalone synthetic equity mandate?

Answer ‘Yes’ regardless of whether or not it is leveraged (more than £100 equity exposure per £100 invested capital).

Availability of liquidity

In this section, we ask for a breakdown of scheme assets by the frequency on which they regularly trade? We want to get a general understanding of how frequently the scheme’s assets regularly trade.

What is the breakdown of scheme assets by the frequency on which they regularly trade?

For pooled fund holdings, answer this question by reference to frequency of the managers’ standard dealing cycles. Disregard notice periods and the potential for pooled funds to be gated by the manager. If they are a type of pooled fund that does not have a dealing cycle as such, select ‘less than quarterly’.

For segregated mandates of predominantly listed assets (for example, a global equity or bond mandate), select ‘daily’.

For segregated mandates of unlisted assets (for example, a real estate mandate), select ‘Less than quarterly’.

This simple approach is intended to give us a broad indication of the liquidity of the underlying assets.

Delivery of liquidity

This question refers to the scenario that an LDI manager issues a routine request for additional capital.

In how many business days are the trustees capable of carrying out the necessary transfers and fulfil the request for capital?

Note: this question has been updated following feedback. The question is about the timeliness with which the trustees are able to carry out a transfer of funds when required, regardless of the timescales allowed by the LDI manager for capital to be provided. It is meant to be answered with regards to the trustees’ own governance arrangements and the characteristics of the investments which they expect to sell to raise the required transfer capital.

This question refers to when an LDI manager issues a routine request for additional capital. It concerns routine collateral calls to replenish the operational collateral buffer, rather than ones to replenish the stress collateral buffer in a period of extreme market movements.

To answer this question and those following, you will find it helpful to understand the typical size of the scheme’s routine collateral calls to replenish the operational collateral buffer, and answer with that size of call in mind. Your LDI manager or investment consultant will be able to help with this.

We would like to know the elapsed time (in business days) between receiving the formal capital request, deciding what to sell to meet it, issuing the signed sale instructions, the sale taking place (allowing for any dealing cycles), the settlement proceeds being received, and then delivered to the LDI manager.

If the assets concerned include pooled fund holdings with non-daily dealing dates, assume that you have just missed a dealing date, the worst-case scenario.

If the process involves delivering assets in actual form (in specie) to the LDI manager rather than cash, include the time it will then take the manager to convert them into eligible collateral.

Efficient governance of transactions

Questions

What proportion of the assets (that the trustees envisage selling in response to an LDI manager’s collateral call) have the trustees delegated unlimited authority to a third-party to sell?

We ask you to make a selection between all, some of none of the assets.

If the trustees would not need to sign any paperwork to sell the assets concerned (for example, because the LDI manager or a fiduciary manager has full authority to do so), select ‘All of the assets’.

We then ask about the signatory arrangements with the scheme’s investment managers. We are not concerned with the scheme administrator’s signatory arrangements for making payments from the scheme’s bank account(s).

When indicating whether you have a single authorised signatory list or multiple authorised signatory lists? Answer ‘Single’ if you have just one list common to all the managers concerned.

Enter the number of different individuals on the list, even if some have different levels of signing authority.

Do the trustees have a single authorised signatory list or multiple authorised signatory lists?

You will be asked this question if you answered ‘Some’ or ‘None’ to the previous question.

Only answer ‘Single’ if you have just one list common to all the managers concerned.

These questions concern the signatory arrangements with the scheme’s investment managers. They are not concerned with the scheme administrator’s signatory arrangements for making payments from the scheme’s bank account(s).

How many individuals are listed as authorised signatories?

You will be asked this question if your previous answer was ‘Single’.

How many individuals are listed as authorised signatories on the list with the fewest number of authorised signatories?

You will be asked this question if your previous answer was ‘Multiple’

When was this list of authorised signatories last reviewed?

Systemic liquidity impacts

Questions

Do the trustees have a pre-agreed plan of asset sales from which to source the required moneys?

This refers to a pre-agreed plan of asset sales – a ‘liquidity waterfall’ – to which you would refer in the event of a routine collateral call of the type described in previous questions to determine which assets to sell, in which order, to meet the call.

Which asset class is on the first step of the waterfall?

You will be asked this question if your answer to the previous question was ‘Yes’.

Disregard any cash or money-market funds in the waterfall. Do not enter them under 'other'.
'Credit facility' means a formal loan arrangement for the scheme to borrow cash rather than selling assets (for example, with the scheme sponsor).

If more than one asset class appears on the first step of the waterfall, input the largest of these. If two or more asset classes are equally large, input whichever appears first on our list.

Which is the scheme's largest holding in a liquid asset class?

You will be asked this question if your answer to the previous question was ‘No’.

Disregard any cash or money-market funds in the waterfall. Do not enter them under ‘other’.

‘Credit facility’ means a formal loan arrangement for the scheme to borrow cash rather than selling assets (for example, with the scheme sponsor).

If your scheme has a credit facility, assess whether it is the ‘largest holding’ by comparing the maximum amount it could borrow with the amount of the scheme’s different asset classes.

Is the asset class from which the trustees would source the required moneys (from a request from an LDI manager) accessed by a pooled fund?

You will be asked this question if the answer to either of the previous questions was ‘Bonds’, Equity, Property or Diversified growth funds.

What are the names of the asset manager and pooled fund?

Does the scheme's LDI manager have discretion to disinvest from the relevant asset class without direct intervention from the trustees?

When was a legal review last carried out on the credit facility?

Read our guidance on using liquidity and leverage. It states that trustees should make sure any credit facility is reviewed legally to ensure it will be available when it is needed.