Equities continue to savage UK funds

By Neville Bennett

Friday 18th January 2002

The trustees of pension funds have an awesome responsibility. Their task is to grow the contributions of their participating members but always have a generous income on hand for administrative costs and to pay out benefits.

It is imperative to match carefully assets and liabilities. This imperative is harder to achieve in a bear market.

It is not enough to opt heavily for investment in equities for, quite often, growth shares yield a low income and are extremely volatile in capital value. Funds, therefore, hold a basket of assets, including cash, bonds, property and equities.

UK pension funds have been tempted by the bull markets of the last decade to increase their weighting in equities. They are now reaping a bitter reward. In the last year UK equities fell 13.3% and the average pension fund fell in value by 9.6% despite good performances by their bond and property portfolios.

This is the second consecutive year in which average pension funds have diminished in value; some have fallen for five years. Moreover, many funds are suffering because their pensions are generous and their beneficiaries are living longer than anticipated. They are strapped for cash.

Many funds are changing their asset mix to increase their security and cashflow. The major switch is to bonds. Some business schemes are also doing this, led by Boots, the high street chemist, which last year switched its whole portfolio into bonds.

The change is understandable, for if a scheme loses say 15% of its capital in equities, has 2% costs, pays out benefits of 5% and has a net yield of 4%, it becomes extremely difficult to increase its capital value.

Protecting the capital value of funds is something fund advisers are a little nonchalant about for they believe equities have always rallied after market corrections, and funds will therefore inevitably regain their capital value in the next bull run.

This has some validity. But bear markets may last for many years before the cycle changes for the better. Waiting for the next bull market may work well for young clients who do not need an income from their funds. But it can be a disaster for funds that have to provide a capital-shrinking income for its beneficiaries.

The stellar European fund manager Hugh Hendry, of the CF Odey European Trust, has suggested some caution about equities. Mr Hendry manages the best-performing European ex UK unit trust. He alone made money last year. No other listed trust did. According to Standard & Poor's, the average fund fell 18.9%.

Mr Hendry advises against holding any shares as the situation reminds him of 1929. He regards the US market as hopelessly inflated and in need of a huge correction.

He also adds those market darlings Motorola, Ericsson and Nokia are "completely buggered."

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