UK: Regulators set sights on hedge funds after UK pension crisis

Britain’s markets watchdog is working with overseas regulators to look at other stresses in the global financial system, such as leveraged hedge funds, its chief executive said on Wednesday, following a pensions crisis in late September.

A radical tax-cutting budget in September by former Prime Minister Liz Truss’s government triggered a jump in British government bond yields, which forced defined benefit, or final salary pension schemes to raise cash quickly to meet margin calls on liability-driven investment (LDI) derivatives positions. The Bank of England had to step in to stabilise the market.

Financial Conduct Authority chief executive Nikhil Rathi told a parliamentary pensions committee that concentration of counterparties and margin call requirements were among the issues in focus for regulators.

“We’re working with our colleagues overseas on leveraged hedge funds or some of the other risks that we see in markets around the world,” he said.

The committee has launched an inquiry into the regulation of defined benefit pension schemes using LDI, as their buffers against rising bond yields proved to be inadequate.

Investment funds and other non-bank financial institutions face their first “stress test” next year to apply lessons from the crisis, the Bank of England said this week.

Rathi and pensions regulator chief executive Charles Counsell told the pensions committee that LDI funds now required much greater levels of collateral from pension schemes, reducing the risk of them having to raise money quickly to meet margin calls in any future crisis.

But they said pension scheme trustees, who are responsible for around two trillion pounds ($2.48 trillion) in assets and were forced to make snap decisions to sell assets to raise cash during the crisis, needed to be better informed.

Britain has more than 5,000 defined benefit pension schemes. Rathi said a smaller number of schemes using professional trustees might be better at “delivering the right economic outcome in terms of the long-term investment that we want to see in our economy”.

Counsell said a “small number” of pension schemes had seen their funding levels worsen as a result of the crisis.