June 2016
IAS19 Assumptions Report
Jon Hatchett
Partner and Head of Corporate Consulting
FTSE350 companies support £650bn of defined benefit pension liabilities. These
same companies have a combined market capitalisation of £2,000bn, so the way
these liabilities are measured in company accounts is critical for assessing the
financial wellbeing of UK plc.
The materiality of IAS19 pension assumptions is not lost on auditors, who are now
assessing and challenging pension assumptions more than ever before. Setting
appropriate IAS19 assumptions is therefore crucial for companies going through
their year-end process.
This survey analyses the key assumptions adopted by the FTSE350 for their defined
benefit pensions disclosures as at 31 December 2015. We consider the key financial
assumptions (primarily the discount rate and inflation) and life expectancy.
Our analysis of the financial assumptions is based on 31 December 2015 disclosures
to ensure all assumptions relate to the same market conditions. Our analysis of
life expectancy covers all companies in the FTSE350 with defined benefit pension
obligations (we have referenced the most recent company accounts).
I hope you find this report interesting and informative. Please contact me if you
would like to discuss any aspect of our analysis.
Jon Hatchett
Partner and Head of Corporate Consulting
T 020 7082 6167
E [email protected]
@JHPensions
02 IAS19 Assumptions Report June 2016
Contents
Welcome2
Key findings
4
Discount rate
5
Inflation6
Salary growth
9
Longevity10
Additional disclosures
11
Author profiles
12
Hymans Robertson has relied on external sources of information in compiling this report. Whilst every
effort has been made to ensure the accuracy of the data, Hymans Robertson cannot verify the accuracy
of such data. The views expressed in this report are based upon information in the public domain and the
analysis detailed in this report. The information contained is not intended to constitute advice and should
not be used as a substitute for scheme specific advice. Users should not place reliance on this report;
Hymans Robertson will not be held liable for any loss arising from use and/or reliance upon the report.
IAS19 Assumptions Report June 2016 03
Key findings
Discount rates
Discount rates varied from 3.5% to 4.0%, with an average assumption of 3.8%. 86% of companies
used a discount rate within 10bps of the 3.8% average.
RPI inflation
RPI assumptions varied from 2.3% to 3.5%, with an average assumption of 3.1%. 91% of companies
used a lower assumption than market implied RPI, showing the continuing wide-spread use of the
“inflation risk premium” argument to use a lower assumption than market implied.
CPI inflation
CPI assumptions varied from 1.7% to 2.5%, with an average assumption of 2.1%. This implies the
average “wedge” assumed between RPI and CPI was 1.0%, consistent with last year.
Salary growth
Salary growth assumptions varied from 2.1% to 5.3%, with an average assumption of 3.5% (higher than
the average RPI assumption).
Longevity
The average pensioner life expectancy was 87.8 years for a male and 89.8 years for a female. The
average non-pensioner life expectancy was 89.5 years for a male and 91.5 years for a female. These
averages are broadly similar to last year, whereas in previous surveys, we have generally seen yearon-year increases of around 0.1 years. Indeed a number of companies reported a fall in disclosed life
expectancy this year. This trend is likely to be due to the adoption of more recent mortality tables which
reflect the lower than expected improvements in life expectancy during the early 2010s.
There is around an 8 year spread in life expectancy assumptions across the FTSE350.
Additional disclosures
IAS19 requires additional disclosure items now, including detail on asset-liability matching strategies.
This provides some additional insights into the de-risking of DB schemes, including:
ŒŒ Administration expenses range from £100k to £2.2m;
ŒŒ 2
1% of companies have disclosed an historical annuity purchase, primarily covering pensions in
payment, to help de-risk schemes; and
ŒŒ 4
% of companies have disclosed holding LDI assets to enable capital efficient hedging of interest
rates and inflation. This is a marginal decrease from the previous year.
We suspect it will take a few years for these disclosure requirements to be fully embraced, as the actual
proportion of schemes with annuities and LDI is likely to be higher than this.
04 IAS19 Assumptions Report June 2016
£10 bn
£10 bn
increase in FTSE350
pension
increasedeficit
in FTSE350
pension deficit
The discount rate is the most significant financial assumption for assessing pension obligations. A low
discount rate leads to a high value being placed on the pension liabilities. The discount rate is set by
reference to high quality corporate bonds of a suitable term. Long dated corporate bond yields rose by
0.25% over the year.
The chart below shows the Hymans Robertson Corporate Bond curve derived from the AA iBoxx index at
31 December 2014 and 31 December 2015. The table shows the index yields on over 15 year iBoxx bonds.
Corporate bond yield
Yield (% p.a.)
-9 bps on
+12 bps on
discount
inflation
rate
Discount rate
6%
Date
31 Dec 2015
5%
15+ year iBoxx
AA yield
3.7% p.a.
15+ year UK
gilt yield
2.6% p.a.
Average AA
credit spread
1.1% p.a.
4%
3%
2%
1%
0%
0
5
10
Years
31 December 2014
Our view
Given higher
yields this year
companies have
felt less pressure to
push assumptions.
This has resulted
in us observing a
moderately narrower
spread of discount
rates. Whilst there is
a strong argument
for higher discount
rates at longer
durations to match
the shape of the yield
curve, we can see
no clear correlation
between discount
rate and duration
from our analysis. 15
20
25
31 December 2015
The chart below shows the distribution of discount rates adopted by the FTSE350 at 31 December 2015, and
the table shows the average discount rate.
Discount rate
50%
Date
40%
31 Dec 2015
Average discount 3.8% p.a.
rate
30%
20%
10%
0%
3.5%
3.6%
3.7%
3.8%
3.9%
4.0%
4.1%
Observations:
ŒŒ D
iscount rates continue to be bunched, more so than last year (79% of companies were within +/-0.1%
of the average last year compared to 86% this year).
IAS19 Assumptions Report June 2016 05
Inflation
£10 bn
increase in FTSE350
pension deficit
+12 bps on
inflation
The inflation assumption is the second most significant financial assumption for assessing pension obligations,
and typically drives the assumption for salary growth, deferred revaluation and pension increases (to the extent
they are inflation linked). A high inflation assumption leads to a high value placed on the pension liabilities.
Most schemes consider a CPI assumption as well as an RPI assumption, with CPI typically being set equal to RPI
less a margin.
RPI
Over the year to 31 December 2015 RPI inflation expectations fell at shorter durations and increased at longer
durations. Given most schemes have durations of 15 -20 years, RPI assumptions are broadly similar to those
used last year-end. However, there is still quite a range in this assumption, reflecting the shape of the inflation
curve and the maturity of different schemes and the “inflation risk premium” argument sometimes used to
justify a reduction to market implied inflation.
The chart below shows the government bond implied RPI curve at 31 December 2015 and 31 December 2014,
with the table showing RPI implied by over 15 year gilt yields at 31 December 2015.
Inflation
4.0%
3.5%
Yield (% p.a.)
3.0%
2.5%
2.0%
1.5%
1.0%
0.5%
0.0%
0
5
10
15
20
Years
31 December 2014
06 IAS19 Assumptions Report June 2016
31 December 2015
25
Date
31 Dec 2015
15+ gilt
implied RPI
3.3% p.a.
RPI
50%
40%
30%
Date
31 Dec 2015
Average RPI
assumption
3.1% p.a.
20%
10%
0%
2.3 2.4 2.5 2.6 2.7 2.8 2.9 3.0 3.1 3.2 3.3 3.4 3.5
Percentage
The chart above shows the distribution of RPI assumptions adopted by the FTSE350 at 31 December 2015
and the table shows the average assumption.
Observations:
ŒŒ The average RPI assumption of 3.1% was used by 34% of companies.
ŒŒ M
arket implied RPI at a duration appropriate to most pension schemes is c3.3%. 91% of companies
used a lower assumption than this, implying that most companies are deducting an “inflation risk
premium” from market implied RPI.
ŒŒ T he RPI assumption was again more spread out than the discount rate assumption this year, with a
range of 1.2% between the highest and lowest assumptions used. The spread in RPI assumptions is
slightly narrower than that observed last year.
IAS19 Assumptions Report June 2016 07
CPI
Some pension increases are linked to CPI rather than RPI. This switch to CPI typically occurred for deferred
increases as opposed to pension increases after retirement.
Our view
The assumed
“wedge” between
RPI and CPI is likely
to remain at around
1.0%. The chart below shows the distribution of CPI assumptions adopted by the FTSE350 at 31 December 2015.
CPI
50%
40%
30%
Date
31 Dec 2015
Average CPI
assumption
2.1% p.a.
20%
10%
0%
1.7
1.8
1.9
2.0
2.1
Percentage
2.2
2.3
2.4
2.5
Observations:
ŒŒ The CPI assumption is very dispersed with companies adopting assumptions between 1.7% and 2.5%.
ŒŒ T he average CPI assumption of 2.1% pa is 1.0% lower than the average RPI assumption, which gives
an indication of the average differential assumed between RPI and CPI. This is the same differential as
reported last year.
08 IAS19 Assumptions Report June 2016
Salary growth
£10 bn
increase in FTSE350
pension deficit
+100 bps
on salary
growth
Salary growth is a less significant assumption than the discount rate or inflation assumption as it only impacts
on the liability for active members, which is becoming a smaller proportion of total liabilities as schemes close
to new entrants and to future accrual. However, it does still have a significant impact on the service cost,
recognised in the income statement, for schemes that are open to future accrual.
The chart below shows the distribution of salary growth assumptions adopted by the FTSE350 at
31 December 2015.
Salary growth
50%
40%
30%
Date
31 Dec 2015
Average salary
growth
3.5% p.a.
20%
10%
0%
1.52.4
2.52.9
3.03.53.4
3.9
Percentage
4.04.4
4.54.9
5.05.4
Observations:
ŒŒ U
nsurprisingly there is a wide range of salary growth assumptions reflecting differences in pay growth
expectations.
ŒŒ The average salary growth assumption of 3.5% is higher than the average RPI inflation assumption.
ŒŒ 3
1% of companies use an assumption of 3.1% pa or less, which we expect in part reflects the increased
use of pensionable salary caps.
IAS19 Assumptions Report June 2016 09
£10 bn
increase in FTSE350
pension deficit
Longevity
Longevity is the most significant non-financial assumption. The charts below show the distribution of male
and female life expectancy assumptions for pensioners and non-pensioners used by the FTSE350 at their
most recent reporting date.
+6 months
on life
expectancy
Pensioners
96
Average pensioner life expectancy
94
Male
87.8 years
Female
89.8 years
Women
92
Our view
88
86
84
84
86
88
90
92
94
96
Men
Non-pensioners
96
Average non-pensioner
life expectancy
94
Women
Due to a very cold
winter in 2012-13
and high levels of flu
in 2015, the start of
the 2010s have seen
slow improvements
compared to the 2 years
per decade experienced
during the late 90s and
2000s. This heavier
than expected mortality
is now starting to
flow through to some
accounting assumptions
where, for the first
time, we’re seeing
modest decreases in
disclosed life expectancy
for some companies.
Whether this trend
persists, or whether it
is temporary, remains
to be seen. We expect
there will be a higher
number of decreases
next year as more
companies adopt the
more recent mortality
tables, but that longer
term the trend will
revert to increasing life
expectancy.
90
92
Male
89.5 years
90
Female
91.5 years
88
86
84
84
86
88
90
92
94
96
Men
There continues to be a large range of life expectancy assumptions for both men and women across the
FTSE350, with a spread of around 8 years. With each additional year of life expectancy adding at least 3%
to pension scheme liabilities, 8 years equates to a liability difference of around 25% or more.
Unsurprisingly, non-pensioners are expected to live longer than current pensioners becadue to assumed
future improvements in longevity coming through over time. On average, current 45 year olds are expected
to live an extra 1.7 years compared with current 65 year olds.
During 2015 average life expectancy assumptions remained broadly unchanged for both pensioners and nonpensioners, whereas in previous surveys we have seen this figure increase by around 0.1 years each year.
10 IAS19 Assumptions Report June 2016
Additional disclosures
Our view
Companies are
generally disclosing
the bare minimum
and not providing
enough information
on LDI or the
subsequent impact
of this on their
interest rate and
inflation protection.
Companies are also required to disclose the following:
ŒŒ Administration expenses;
ŒŒ A detailed asset breakdown;
ŒŒ A
description of any asset-liability matching strategies used by the scheme such as annuities, longevity
swaps and LDI.
Administration expenses varied between £100k and £2.2m, indicating the range of scheme sizes supported
by FTSE350 companies. There may also be differences in the approach to separating expenses relating to the
management of scheme assets between companies.
The table below shows the proportion of companies reporting at 31 December 2015 that have disclosed
asset-liability matching strategies:
Asset-liability matching strategy:
Buy-in
LDI
Longevity swap
Disclosed by the following proportion of companies:
21%
4%
6%
IAS19 Assumptions Report June 2016 11
Report authors
For further information please contact one of our authors below.
Jon Hatchett
Jon is a Partner and heads our corporate consulting practice. He is a fellow of
the Institute and Faculty of Actuaries, as well as a Chartered Enterprise Actuary,
specialising in providing financial risk management advice. Jon is a recognised
thought leader within the actuarial profession and works with a range of UK and
overseas listed and privately owned corporate sponsors of DB schemes. He also
works closely with a major bulk annuity provider and acts as scheme actuary to
several schemes.
Contact Jon on T 020 7082 6167 or E [email protected].
Alistair Russell Smith
Alistair is a Partner based in our London office. He specialises in providing advice
to corporate clients, focussing particularly on benefit change and DB funding
strategies. He is also a scheme actuary, providing pensions advice to a range of
trustee clients. Alistair advises clients on a breadth of pensions accounting issues
including international, US, Canadian and UK pensions accounting standards.
Contact Alistair on T 020 7082 6222 or E [email protected]
Stuart Gray
Stuart works with corporate clients on liability management and benefit change
exercises, as well as pension scheme accounting. Stuart also works as support
actuary alongside the Scheme Actuary on a variety of private sector Trustee
clients and is actively involved in the day-to-day management of his clients.
Contact Stuart on T 0131 656 5110 or E [email protected]
12 IAS19 Assumptions Report June 2016
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