Gilt yields saw steep rises on Wednesday before falling back after President Trump U-turned on his tariffs just hours after they came into force. Has this affected pension schemes with leveraged liability-driven investments, and what can they do while markets breathe a sigh of relief?   

Though the move was not as extreme as after Liz Truss’ mini-Budget in September 2022, gilt yields saw a steep rise before Trump’s 90-day tariffs ‘pause’ was announced, with 30-year issues up 20 basis points on Wednesday afternoon. 

The change in gilt yields was variously attributed to their movement being aligned with that of US Treasuries, long-term inflation expectations, or, just as worryingly, to leveraged market participants chasing liquidity, but what is clear is that bond markets posed a problem, not least for the US administration. On BBC Newsnight last night, Mohamed El-Erian, chief economic adviser at Allianz, said that “the bond market started getting very close to malfunction” and contaminating other markets on Wednesday.   

UK pension funds with LDI programmes should in theory be better protected now than they were in the 2022 gilts panic, as regulators subsequently imposed a 250bps steady state buffer requirement, in addition to any operational buffer for day-to-day management.  

Professional trustee at Pi Trustees, Paul Black, said where schemes have leveraged LDI, “then they should have very good plans in place to deal with market movements such as this, and collateral waterfalls which will make sure that they have liquid assets available to put into LDI funds if necessary”.  

The Bank of England’s Financial Policy Committee noted in its April meetings that markets had remained orderly even during a 30bps increase in gilt yields in early January, with, it said, no evidence of stress or amplification in non-bank financial institutions.   

In case there is stress in the gilt market, the Bank itself is now also better prepared. At the end of January, it opened a new Contingent Non-Bank Financial Institution Repo Facility for applications from DB schemes, insurers and others. The facility can be activated during “severe gilt market dysfunction” to help protect the UK’s financial system. 

   

Black does not seem to think markets were at that point yesterday.  

“One, it's not quite as quick as what happened under the Truss government a few years ago and two, the lessons from that for those who were caught out do seem to have been learnt,” he said.  

An environment of higher yields could even offer opportunities for underhedged schemes – they might be able to increase their hedge at lower prices, Black said.  

There has not been any out of the ordinary LDI activity by pension schemes so far, agreed XPS Group chief investment officer Simeon Willis, who said the resilience of pension scheme arrangements to withstand volatility in this regard was “considerable”. 

  

Despite the current pause in tariffs, uncertainty remains. Noting that gilts are driven by US Treasury moves, Willis said Treasury market participants are concerned some international investors could boycott the market, reducing demand. Meanwhile, US inflation concerns also push up yields. 

 

“However, in addition to this, it appears the US considers the safe-haven status of US debt to have contributed negatively to the strength of the dollar, leading to undesirable suppression of exports from the US. This perspective appears inconsistent with the Trump administration’s objective to lower Treasury yields, so is on the face of it quite puzzling,” Willis said. 

While the threat of another death spiral in LDI appears to have gone away for now, schemes have an opportunity to position and protect themselves in case of any further market shocks.  

Developments are fluid and unpredictable at the moment, with uncertainty trumping quantifiable risk, noted Chris Wagstaff, senior visiting fellow at Bayes Business School.   

 

“That said, with so many moving parts, invariably opportunities will arise from the dislocation experienced by so many markets over the past couple of days. However, for now, scrutinising the myriad risk management levers for their likely resilience to... tail risk – think US dollar and US Treasuries – should be the principal focus."