Pension funds should look at corporate bonds or annuity buy-ins to mitigate the potential impact of the new round of quantitative easing (QE), Mercer said.
With more liquidity being pumped into markets, many pension funds face challenges when it comes to asset allocation decisions.
The consultancy said that QE has pushed down yields on gilts that many pension schemes hold to match liabilities.
Effectively, this reduces future returns so some are seeking returns through corporate bonds. Others are considering the purchase of a bulk annuity policy, commonly known as a buy-in, from an insurer.
“The pricing of corporate bonds presently looks attractive relative to gilts, even after allowing for default risk,” said Stuart Benson, partner in Mercer’s financial strategy group. “In an insurance transaction, pricing can also be attractive relative to gilts, and the risk of increased costs from rising pensioner longevity is insured as part of the buy-in package.”
Mercer said sophisticated investors could use the derivatives markets to provide equivalent duration and inflation protection. Whereas smaller schemes could achieve broadly the same outcome via pooled offerings from investment managers.
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