Legal & General’s heads have laid the blame for the UK’s pension fund liquidity crisis two months ago squarely with the previous government’s “mini” Budget.
The chief executive and chair of one of the UK’s biggest providers of liability-driven investment strategies defended their risk management and the use of leverage within these products.
They granted however that the FTSE 100 insurer should be on a closer lookout for such “black swan” events.
“No one involved in this, the regulators, the central bank, the government, the advisers, the funds, the sponsors, or us, believed that it was a plausible scenario that the government would do something that would create such extraordinary instability in the market in two trading days,” said Sir John Kingman, L&G chair. “That’s what really happened here.”
He and chief executive Sir Nigel Wilson were answering questions on the episode from the House of Lords’ industry and regulatory committee.
They identified as the overriding factor the significant fiscal loosening in Liz Truss’s growth proposal, which compounded market nerves over the Bank of England’s plan to reduce its stock of gilts and sent government borrowing costs higher.
Wilson said the speed of the bond sell-off “caught us all by surprise”, and added: “Our modeling had never taken into account the degree of stress that there was in the market.”
Such a scenario will now be incorporated, he added, and LDI strategies are being run with more “headroom” against a sharp rise in interest rates.
L&G, in a report last week, estimated its profits had been trimmed by £10mn after clients sold out of certain other funds to meet collateral calls.
It was insulated from further damage as it takes no balance-sheet risk in LDI strategies, instead acting as an agent between pension funds and investment banks.