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LDI pension managers dismiss claim that leverage strategies caused gilts turmoil

Some of the UK’s biggest asset managers have rejected claims by the Bank of England that “poorly managed” leverage was the root cause of September’s gilt market crisis.

The use of leverage in the non-bank sector is being scrutinised by UK policymakers after turmoil in the gilt market prompted a £65bn emergency intervention by the central bank. Liability-driven investing (LDI) strategies that were used by thousands of UK pension schemes to invest in growth assets using leveraged gilt funds were at the centre of the crisis.

Weaknesses in the strategies were exposed after an unprecedented rise in gilt yields in the days after the government of former prime minister Liz Truss unveiled its “mini” Budget. The crisis led to urgent collateral calls on pension plans by LDI managers, triggering fire sales of assets.

Giving evidence to MPs on Wednesday, the chief executive of Insight Investment, which manages around £680bn, said he only “partially” agreed with the Bank of England’s view that “poorly managed leverage” was the root cause of the crisis.

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“I don’t agree that it [poorly managed leverage] was the primary cause,” Abdallah Nauphal said, when asked to respond to remarks by Sarah Breeden, executive director for financial stability, strategy and risk at the Bank, in November.

“It was a confluence of factors that came together that created this very unique event,” Nauphal said, adding that markets had been “jittery” on the long-term outlook for the UK even before the “mini” Budget.

“You have a jittery market that turned into panic on rumours and then confirmation of the mini Budget. And that was a primary cause of the sell off and led to an increase in risk premia across the board.” A second “substantially relevant” issue was how dysfunctional the gilt market had become during the crisis when small trades could move prices “very significantly”, he said.

Kerrin Rosenberg, chief executive of Cardano, said a “complete lack of confidence in the gilt market was the cause of the crisis” although he acknowledged that “at the margins” some schemes had poorly managed leverage.

The work and pensions select committee is one of several parliamentary groups investigating the LDI crisis, which has focused global attention on the risks that hidden leverage pose to the wider financial system.

The Investment Association, an industry body, told the committee that LDI managers had since doubled the size of collateral buffers and lowered leverage on the strategies, which were originally designed to reduce the volatility of pension liabilities on company balance sheets.

Schroders, which has £773bn in assets under management, said the oversight of data by regulators needed to be improved.

“What needs to be in place is the ability for aggregate data to be visible and shared,” said Charles Prideaux, group head of strategy and solutions and chief executive with Schroders Investment Management.

MPs also heard that some actions by managers had contributed to losses during the crisis, typically in pooled LDI funds.

“There will be losses, particularly for schemes who had their hedge position reduced,” said David Fogarty, of Dalriada, a firm of professional trustees.

“There will be [also] losses from the selling of assets at distressed prices. The haircuts for certain assets might only be small, single percentages, but in some assets, they might be more than 15 per cent.”


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