There are just a few hours to go before the end of the Bank of England’s emergency bond-buying programme, brought in two weeks ago to limit damage to pension funds from a sudden fall in the value of UK government debt.
It is still unclear whether 14 days was long enough for the most at risk funds to shore up their cash reserves. When the bond market closing bell sounds at 4.30pm today, some of the weaker funds may face a cliff-edge.
Barring a U-turn – what more can the Bank do to protect pensions?
The Bank made two big bets when it stepped in to manage the market meltdown. First, that £65bn was enough to vacuum up UK bonds – known as gilts – being dumped on the market by pension funds scrambling to raise cash to pay their banks. Second, that two weeks would be enough time for that capsizing corner of the pensions industry to right itself and avoid another fire sale of assets.
The first bet seems to have been sound. The Bank has so far spent £17.8bn of the £65bn earmarked for the emergency intervention. On Thursday, it spent £4.7bn, its highest daily total so far, but still well below the £10bn daily cap. That number has provided some comfort. It suggests that demand was low, or that the Bank had the luxury of turning away sellers who set prices too high, and therefore were not as desperate as they seemed.
But the second bet is proving much more of a gamble.
The Bank has rightly put pressure on fund managers to get their act together, and try to cut down on complex hedging arrangements – known as liability driven investments (LDIs) – that were blamed for sparking the cash calls on pension schemes, and forcing them to dump assets including government bonds to raise money fast.
However, it is still unclear whether all funds have built up a big enough cash cushion to weather further storms.
The Bank seems to want to avoid an extension at all costs, stressing on Wednesday that “its temporary and targeted” programme to buy UK gilts would end on 14 October. But there are other ways in which it can help.
First, there is the so-called -temporary expanded collateral repo facility (TECRF), which was announced by the Bank on Monday. The facility will act as a sort of secured loan, giving pension schemes a chance to put forward a wide range of assets – including corporate debt, government bonds, and index-linked gilts – as collateral in order to obtain loans from commercial banks such as Barclays.
The central bank cannot lend directly to non-banks. So it will hold the asset, lend the money to a commercial bank, which in turn will lend to the pension fund, adding its own fees on top.
The idea is that it will give pension funds a source of quick cash, and deter them from dumping assets such as gilts on the market in a way that depresses prices, triggers further cash calls on their LDIs, and another round of asset sales.
That will run along some other existing schemes, known as the indexed long-term repo operations, which only accepts gilts as collateral against the loans.
The TECRF will run until 10 November, notably giving pension schemes and their fund managers some extra time to access loans if markets have another meltdown after the government updates its budget as expected on 31 October. However, firms will have to pay potentially high fees to access those loans, which will also be issued on whatever terms the commercial lenders set, which could reduce demand.
Furthermore, if the Bank wants to avoid a further fall in UK bond prices it could delay plans to sell off the stock of government debt it bought to support the economy after the financial crisis. That selldown was meant to start on 3 October, but was pushed to 31 October after last month’s market meltdown. There is no reason why that date could not be pushed out further.
And although the Bank wants to avoid extending the bond buying programme, its obligations to maintain financial stability could force it into an uncomfortable position. It may well have to step in, again, to mop up the market mess with another emergency scheme.
