Positive figures, but can pensions go up again?

September 12, 2021 by No Comments

Good news. When it comes to retirement, it’s a relative term.

In itself, the large pension funds came with positive news on Thursday: their financial position continues to improve. Since their low point in March last year, their funding ratios have been rising. And at the end of last month, all four major pension funds had a funding ratio of more than 100 percent again. According to the calculation rules, this means that they have enough capital to guarantee all pension benefits – now and in the future.

But an inflation adjustment for retirees? That is not yet the case for these funds. They don’t look that good anymore.

This gradually erodes the income of retirees. Most supplementary pensions have hardly been increased since the financial crisis, while life has become more expensive. Inflation since 2009 is more than 20 percent. On the other hand, the AOW benefit will continue to rise, because it is linked to wage developments.

Free from fear

Yet hope is slowly returning to pension funds, having seen their funding ratios rise for more than a year. At the end of last year, the two largest pension funds – ABP (for government and education staff) and Zorg en Welzijn – threatened to cut their pensions.

To avoid those reductions, they had to have a funding ratio of at least 90 percent on New Year’s Eve – a lower limit that Minister Wouter Koolmees (Social Affairs, D66) has lowered several times.

The two funds were released unscathed, but some smaller funds had to implement a reduction. Not only on the benefits of pensioners, but also on the accrued pension rights of employees. For example, the pension of supermarket staff will be reduced by 0.85 percent this year.

Why is it that pensions are doing so well again?

Mainly because of the unprecedented rebound in global stock prices. Since March last year, the Dutch stock market index AEX has risen by more than 70 percent, the American S&P 500 index even by almost 90 percent.

Thanks to equity gains and earnings from other investments – such as real estate and private investments – the assets of the ABP pension fund have increased by more than 100 billion euros since March last year, to 523 billion euros.

Small trend break

Earlier, ABP also made nice investment profits. But these were often negated by the declining interest rates for years. Because if interest rates fall, a fund must assume that its assets will grow more slowly in the future. So from now on, it must have more cash in hand to remain financially healthy.

Look at 2019, for example. Then ABP recorded a nice investment profit of approximately 67 billion euros. However, its coverage ratio increased minimally: from 97.1 to 97.9 percent. The reason was the fall in interest rates. As a result, the amount that ABP had to have in cash to maintain the funding ratio rose almost equally: by 65 billion euros.

What helped the pension funds at the beginning of this year was a small break in the trend. Suddenly, interest rates rose again, aided by the massive economic stimulus program announced by US President Joe Biden. This led to a huge jump in funding ratios, especially in February and March.

Limited optimism

Nevertheless, the optimism among pension funds is still limited. ABP chairman Corien Wortmann-Kool was happy to say on Thursday that the chance of a pension reduction next year is “very small”, “but a pension increase is really not yet in sight”.

A fund may only allow the pensions of employees and retirees to fully increase in line with inflation once the average funding ratio over the past twelve months (the ‘policy funding ratio’) is approximately 125 percent.

However, that lower limit will soon be lowered. With the new pension system in sight, funds will soon be allowed to grant an increase – subject to conditions – from a policy funding ratio of 105 percent.

That relaxation is now planned for January 1, 2023, but may be brought forward for a few more months – that is what trade unions and senior organizations are advocating.

The reason for this relaxation is that pensions in the new system will also increase more quickly after investment gains. On the other hand, they go down faster after losses. The intention is for funds to switch to this new system between 2023 and 2027.

Fat on the bones

But if funds are soon allowed to increase their pensions, they will have to consider carefully whether that is also wise, says actuary Marc Heemskerk of pension consultancy Mercer. They can make good use of their financial reserves during the transition to the new system. “As a fund, I would like to have some fat on the bones during that transition.”

During this transition, pension funds have to split their one, large pension pot into all kinds of personal pension pots. The more money they have to distribute, the brighter that new system starts out.

In addition, pension funds need money to compensate people in their forties and fifties. Their pension accrual will initially decline due to one of the new distribution rules. But it was agreed in the 2019 pension agreement that funds must compensate for this.

Heemskerk has already advised several pension funds on the question: do we want to increase pensions if we are legally allowed to do so? Not all funds will opt for that, he says. “Some want to be careful. If they spend money now to increase pensions, they also increase the chance that they will have to lower them again in the future.”

Retirees and unions will in any case put pressure on pension funds to hand out increases as soon as possible. According to Heemskerk, there will certainly be pension funds that will soon say: “If we can distribute, we will distribute.”