LGPS valuation update | October 2022

At a recent Local Government Pension Scheme (LGPS) 'Digital Deli', between the public sector team and officers from across the LGPS, we discussed the interesting findings we had made from the 2022 valuation results, and shared what the next steps are in the valuation process.

Most of the initial results for the 2022 valuation results have now been finalised at whole fund level. Given the turmoil and market volatility in the last few weeks, it is a relief that the three year period since the last formal valuation has been a good one for LGPS funds.

This has been largely down to strong investment performance over the inter-valuation period, with the average fund return being around 28% (8.5% p.a.), well in excess of the long-term investment return assumed at 2019. Some of the headline statistics include: 

• Funding level - this has increased on average by 9% from an average of 94% at 2019 to an average of 103% at 2022
• Primary contribution rate – on the other side of the coin, the average primary contribution rate has also increased over the period by 1.5% of payroll, from an average of around 18% of payroll to an average of 19.5% of payroll. This is largely down to the increase in future expected levels of CPI inflation and increased prudence margins to allow for the increased uncertainty.
• Inflation - our long-term assumption has increased from 2.6% p.a. at 2019 to 2.9% p.a. at 2022, reflecting high inflation in the short term followed by anticipated reductions in the longer term. (The long term assumption may be marginally different for those funds with inflation hedging portfolios.)
• Discount rate - the average discount rate for our funds, i.e. the prudent assessment of the future expected investment returns, has reduced slightly from 4.7% p.a. at 2019 to 4.5% p.a. at 2022.

Please note these results are based on each fund’s specific assumptions which of course have a material impact on the results.

So with increased primary contribution rates and increased funding levels which lend to reduced secondary contribution rates, we expect the total contributions to remain stable, although this will vary at employer level.

What’s happened since 31 March 2022?

Never a dull moment in pensions, there has been lots going on since the valuation date. Markets have been very volatile and it’s likely most, if not all, LGPS funds will have seen a fall in the market value of their assets. Based on the data we have seen so far, for a typical LGPS fund, assets may have reduced by 5%- 8% since 31 March 2022.

However, our valuation approach sees assets and liabilities broadly moving in the same direction, so there has been a corresponding fall in liabilities. So, in fact, funding levels are holding up well so far. Of course, asset returns don’t directly impact primary contribution rates and so these have also remained relatively stable to date.

That’s not to say that there isn’t still lots to be concerned about – inflation being higher for longer, low economic growth, the strength of the dollar and further market volatility. We aren’t recommending that our funds take immediate action to reflect the changes that have happened since March 2022, as we take a long term approach to funding. However, as funds begin to set individual employer contribution rates, funds may want to consider employers close to exiting the fund more closely (reflecting that they aren’t expected to be able to fund over a long term) and also taking a cautious approach to dealing with surplus.

The only thing that is certain is there will be more uncertainty. As always, we will be monitoring this closely over the coming months.

Regulatory issues and next steps

The Section 13 review carried out by GAD following the 2019 valuation largely concluded that the LGPS was doing a good job. No funds were given a red flag, funds and the valuation process complied with the Regulations and the new “dashboard” appeared to be a success. However, GAD did have four recommendations, which we have been regularly meeting with GAD and the other actuaries to progress. We've seen steps taken to address a few of these recommendations. including seeing funds considering climate risk as part of this valuation. as well as some updates to the “dashboard”.

The main recommendation where no real progress has been made yet is around consistency in approach of academy conversions. This is somewhat understandable as it has been left on the “too difficult” pile before, but we understand a new working group is being set up to take this forward. This will become increasingly important given the recent drive to increase the number of academy conversions.

In terms of next steps, the focus is now on individual employer results. With all the recent turmoil, additional attention should be given to effectively communicating the results to reduce any employer concerns. Most funds hold an employer forum and/or 1-2-1 surgeries but webinars and newsletters are also becoming more popular.

Employers will be worried about their budgets in these uncertain times given that we have high inflation and additional pay awards being given. Therefore, effective communications with employers are an essential part of the process. When discussing contributions, pre-paying employer contributions could be an option. Funds are taking different approaches to this, which will of course depend on the fund’s funding strategy.

Funding strategies are also being reviewed alongside employer results, so if a fund wants to implement any changes to their employer exit policies, insurance policies, or approaches to new employers, now is the time to consider this.