£100bn has been wiped off the value of index linked gilts and other RPI-linked assets by the Chancellor’s decision to dump the retail price index in favour of CPIH, says Hymans Robertson.
Announcing the outcome of the consultation of the reform to RPI methodology alongside Chancellor Rishi Sunak’s Spending Review today, the Treasury has confirmed that CPIH will replace RPI by 2030, as had been largely expected.
Millions of defined benefit pension scheme members are expected to receive lower indexation increases in future as a result of the switch.
But schemes will potentially see their liabilities reduced as a result of the switch. The Society of Pension Consultants says it is unclear whether the change will be net positive or negative for scheme funding.
Matt Davis, Partner, Hymans Robertson, says: “If RPI is aligned with CPIH from 2030 this will be a major blow both for pension schemes and their members.
“Pension schemes that have followed regulatory and industry best practice by hedging the inflation risk inherit in providing pensions are major holders of index linked gilts and other RPI-linked assets. This change means RPI-linked assets are expected to increase at a lower rate than previously anticipated, which makes them less valuable than before. The schemes that will be worst affected are likely to be those with high levels of inflation hedging and a high proportion of CPI-linked pension increases. In some cases these schemes could see a 10 per cent fall in funding level. The Government has stated it will not offer compensation to holders of index-linked gilts which will have a huge detrimental impact.
“We expected this to have a very significant effect on investors as a whole. We estimate that the impact on the totality of index-linked gilt holders will be a loss in the region of £100bn based on past differences between RPI and CPIH. Given the vast sums of money involved we expect to see continued pressure on the Government to review its decision not to compensate those due to lose out.”
Society of Pension Professionals president James Riley says: “The outcome of the consultation is largely as expected bringing RPI in line with CPIH by 2030. This removes one of the many uncertainties hanging over pension schemes currently and, at one level, this certainty is helpful.
“However, it’s yet another lottery, alongside others including GMP equalisation, that affects otherwise similar schemes and sponsors differently. Schemes’ RPI assets such as index-linked gilts and inflation swaps will be adversely impacted. Will the reduction in the scheme’s liabilities be greater? And then of course, there are pension scheme members, many of whom, rightly or wrongly, will receive lower pension increases than they might otherwise have expected.”
Derry Pickford, principal consultant in the asset allocation team at Aon, says: “This is as widely expected and we believe that markets will not be surprised by this, although there is a small amount of relief that there won’t be an earlier change than February 2030 – as shown by the bounce back in the five year forward RPI inflation swap. However, the need to be prepared for changes in 2030 has been confirmed.”
