We were pleased to be able to contribute comments to KPMG during the period of their initial enquiries, and appreciate the opportunity to respond now to your preliminary conclusions regarding the merits of including investment risk as a factor is setting the risk based levy applicable to different schemes.
We recognise that you have undertaken an assessment in depth and overall we agree with all your conclusions.
We agree that in assessing the long term risks to the Pension Protection Fund, amongst other factors, you will need to take account of the differing risks and returns to pension scheme assets under a range of economic scenarios. This quite rightly should come into Board’s calculation of the levy scaling factor for each year and the total levy you will seek to recover. Although the PPF will be interested in the investment strategies of the combination of all schemes in order to assess the overall risk to itself, the investment strategy for each individual scheme must be a matter for the Trustees of that particular scheme.
You conclude that it is not appropriate to introduce an investment risk factor to the risk based levy at the current time. This is largely based on the findings that investment strategies are broadly similar for most schemes and, given this and the scale of underfunding at present, that including investment risk would make relatively little difference to the pattern of levy charges as a whole.
However, you will continue to monitor key trends that affect the impact of investment risk on the risks individual funds pose to the Pension Protection Fund. In particular, in recognition that if the level of underfunding in schemes reduces over time, as you hope and expect that it will, and if the investment strategies of funds diverge, then the case for taking account of investment risk in the risk based levy could strengthen. It should only be a concern in the most extreme concentration in a bizarre asset class.
In allocating the levy you quite rightly are seeking to ensure that it is based on the principles of fairness, simplicity and proportionality. However in addition we would contend that you need to take care that nothing you do is such as to influence the behaviours of the sector in such a way as to increase the risk to the PPF itself.
Inevitably there is a danger that if the PPF deems one form of investment as particularly favourable it could cause a concentration of risk into that asset class and hence a loss of the benefits of diversification across the sector as whole.
Although you are not proposing to differentiate based on investment risk we note your comment that there is a form of post event correction since to the extent that a particular fund’s portfolio does not perform, under-funding may be created or increased, which in turn will affect the existing risk based levy for that scheme.