View from City Road: Actuarial pension party poopers

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Do not be carried away by reports of the glowing investment performance of your company pension fund last year, even though the average investment return in 1993 was almost 28 per cent, according to the first of the preliminary estimates that are beginning to circulate. Actuaries have a way of taking the excitement out of anything.

There are two main reasons: the April budget increased the funds' tax burden, reducing their future value simply by taking money away; and actuaries use projections of dividend growth to work out the value of pension funds, regarding this as more reliable than market valuations, which fluctate wildly.

After the combined effects of sluggish dividend growth and the tax burden, the average value of pension funds probably fell 1 per cent last year, at least the way actuaries calculate it.

Another method of looking at this vanishing act is to regard the 28 per cent rise in the value of funds' investments as matched by a rise of roughly the same amount in their future liabilities. This increase in liabilities can be traced back to the fall in long-term interest rates.

When it pays out a pension, a fund in effect finances the future flow of money with the interest from bonds. At lower interest rates it has to buy more of them to provide the same annual income to a pensioner, so more money needs to be set aside during the employee's working lifetime.

The grim actuarial logic is such that despite the bull market many companies may have to end pension holidays soon - or throw their actuaries and their dividend growth assumptions out the window.