Brexit and pensions: what happens next?

3 August 2016

Brexit: a legal overview Katie Banks

3 August 2016

Hogan Lovells | 3

Before After

Brexit – Immediate impact

Stephen Crabb Secretary of State for Work and

Pensions

Ros Altmann Minister of State for Pensions

Damian Green Secretary of State for Work and

Pensions

Richard Harrington Parliamentary under Secretary

of State for Pensions

Jane Ellison Secretary to the Treasury

Hogan Lovells | 4

• Referendum is advisory not binding

• Article 50

– Covers exit arrangements

– Agreement by (1) European Parliament and (2) qualified majority of EU Council (20 out of 27)

– 2 year negotiation period (Greenland in 1982 took three years)

– Triggered by clear notice by UK

– 2 year period can be extended by unanimous agreement

• No mechanism for EU to eject UK

• Does Parliament need to vote on the trigger of Article 50?

• Other challenges

• No mechanism for UK to limit application of EU law in the period prior to exit; but may choose not to comply

• European Court of Human Rights is separate

Brexit – Process

Hogan Lovells | 5

• Government needs to decide on what relationship we have with the EU in future

• David Davis – Secretary of State for Exiting the European Union

• Post exit relationship with EU to be negotiated and agreed with all member states

• EEA – Norway, Iceland, Liechtenstein

• EFTA – Switzerland

• Pre-Referendum thoughts from David Davis

– Tariff free access to the EU

– But control of borders

– If not, income from tariffs to support British industry

– Trade agreements with Hong Kong, Canada, Australia, India, Japan, UAE and Indonesia

• Civil Service needs to up skill in trade deal negotiation

Brexit – What the future might look like

Hogan Lovells | 6

Full Divorce

(no special relationship between UK and EU)

Free Trade

(wide ranging free trade deal)

Pick & Mix

(free trade deal with greater alignment in particular areas)

Associate Membership

(EEA not EU; special status with some Single Market access)

Adjusted Membership

(UK still in EU on revised terms – possibly also changes in rEU)

Influence • UK outside policy process • UK outside policy process • UK outside policy process

• Consulted as "best friend"?

• UK outside policy process

• Consulted as a "best friend"?

• UK involved in policy development

Trade

• No guarantee of access to single market

• Tariff and non-tariff barriers possible

• Commitment to no barriers in most areas

• No regulatory alignment -"passporting" not preserved

• Commitment to no barriers in most areas

• Regulatory alignment to preserve "passporting" in some areas

• Access to single market

• Regulatory alignment to preserve "passporting" in some areas

• Access to single market

• Regulatory alignment to preserve "passporting" in most areas (with some enhanced carve outs)

UK Laws • No particular alignment of UK

and EU laws • No express alignment

between UK and EU laws • Alignment of laws in specified

areas • UK follows EU laws in many

current areas • UK follows EU laws in many

current areas

People

• Qualitative controls - no favourable UK/rEU terms

• Qualitative controls possibly with favourable UK/rEU terms

• Free movement to work with some enhanced specific "brakes" or qualitative controls

• Free movement to work with some enhanced specific "brakes"

• Free movement possibly with some enhanced specific "brakes"

Financial • No UK contribution to EU

budget • No UK contribution to EU

budget • Possible reduced UK

contribution to EU budget • Significant UK contribution to

EU budget • Significant UK contribution to

EU budget

Legal

• EU law no role in UK • EU law no role in UK except areas covered by trade agreement

• EU law no role in UK • EU law applicable in UK in various sectors

• Areas of dual competency?

• EU law applicable in UK

Future EU/UK Relationship – Some Possible Models

Hogan Lovells | 7

• Directives v Regulations

• Relevant regulations

– European Market Infrastructure Regulation

– Brussels Regulation

– General Data Protection Regulation

Brexit – Immediate Legal Impact

An Aon Hewitt Webcast

Implications for investment Donald Duval 3 August 2016

9

Aon Hewitt

Proprietary & Confidential | July 2016

Agenda

1. Economic background

2. How markets reacted

3. What did this do to pension schemes

4. The future outlook

5. What should you be doing

10

Aon Hewitt

Proprietary & Confidential | July 2016

Economic background

11

Aon Hewitt

Proprietary & Confidential | July 2016

What happened to markets over June 2016

85

90

95

100

105

31/05 07/06 14/06 21/06 28/06

UK

US

EUR

JPY

-0.5

0

0.5

1

1.5

2

31/05 07/06 14/06 21/06 28/06

UK

US

GER

JPY

100

120

140

160

180

31/05 07/06 14/06 21/06 28/06

UK

US

EMU

1.15

1.2

1.25

1.3

1.35

1.4

1.45

1.5

31/05 07/06 14/06 21/06 28/06

USD / GBP

EUR / GBP

Equity markets (local currency terms) Yields on 10 year government bonds

Investment grade spreads

Exchange rates

12

Aon Hewitt

Proprietary & Confidential | July 2016

What happened to your DB fund?

-10%

-5%

0%

5%

10%

Larger schemesSmaller schemes

Source: Risk Analyzer (Aon)

Changes in funding level 23 June to 23 July 2016

13

Aon Hewitt

Proprietary & Confidential | July 2016

What happened to your DC fund?

96.0

98.0

100.0

102.0

104.0

106.0

108.0

110.0

112.0

Cu

mu

lati

ve

re

turn

re

ba

se

d t

o 1

00

Retirement Pathway 2043-45 Fund

96.0

98.0

100.0

102.0

104.0

106.0

Cu

mu

lati

ve r

etu

rn

reb

ased

to

100

Retirement Pathway to Annuity 2016-18 Fund

Brexit

0.00%

2.00%

4.00%

6.00%

8.00%

10.00%

12.00%

Ret Pathway2043-45 Fund

FTSE All-ShareIndex

50% UK / 50%Overseas Blend

Returns 23 June to 1 July 2016

P R E B R E XI T P O S T B R E XI T

Level Annuity per £100,000

Male age 65

£5,088 pa

£4,902 pa

Brexit

14

Aon Hewitt

Proprietary & Confidential | July 2016

15

Aon Hewitt

Proprietary & Confidential | July 2016

UK GDP growth in 2017

0.0%

0.5%

1.0%

1.5%

2.0%

2.5%

IMF HSBC GoldmanSachs

Roubini JPMorgan

Pre referendum

Post referendum

16

Aon Hewitt

Proprietary & Confidential | July 2016

What will happen?

17

Aon Hewitt

Proprietary & Confidential | July 2016

Aon Hewitt Limited

Aon Hewitt Limited is authorised and regulated by the Financial Conduct Authority.

Registered in England & Wales No. 4396810

Registered office:

The Aon Centre | The Leadenhall Building | 122 Leadenhall Street | London | EC3V 4AN

To protect the confidential and proprietary information included in this material, it may not be disclosed or

provided to any third parties without the prior written consent of Aon Hewitt Limited.

Aon Hewitt Limited does not accept or assume any responsibility for any consequences arising from any

person, other than the intended recipient, using or relying on this material.

Copyright © 2016 Aon Hewitt Limited. All rights reserved.

Covenant – winners

and losers

Matt Harrison

3 August 2016

What Are We Covering?

19

1. Why is employer covenant important?

2. Implications of Brexit

– Macro-economic trends

– Potential winners and losers

3. TPR’s position

4. Practicalities for employers and trustees

Why is employer covenant important?

20

Confidence in covenant strength allows (all other things being equal):

– Less prudent actuarial assumptions

– More investment risk

– Credit risk to be taken for longer (e.g. longer recovery plan)

Are trustees comfortable their “underwriter” is robust post Brexit?

“The Employer Covenant … represents the extent of the Employer’s legal obligation and

financial ability to support the scheme now and in the future” TPR Code of Practice 03 –

July 2014

“Ultimately the Employer Covenant underwrites the investment risks and funding risks”

Macro-economic clarity is yet to emerge post Brexit

21

Some trends and long term expectations have started to crystallise

Picking on three key areas today:

– Foreign exchange rates

– Interest rates

– Economic confidence

How the UK Government will react to macro-economic trends?

Foreign exchange rates

22

Forward expectations for Sterling weaker since Brexit

Weaker Sterling is:

Manufacturers / Exporters

• Pharmaceuticals

• Motor vehicles

• Companies buying supplies from abroad

• UK travel companies / airlines

Good for…… Bad for……

1.1

1.2

1.3

1.4

1.5

1.6

Jan15

Mar15

May15

Jul15

Sep15

Nov15

Jan16

Mar16

May16

Jul16

Sep16

Nov16

Jan17

Mar17

May17

Jul17

GBP:USD – Post Brexit

1.1

1.2

1.3

1.4

1.5

1.6

Jan -15

Mar- 15

May- 15

Jul -15

Sep -15

Nov- 15

Jan -16

Mar- 16

May- 16

Jul -16

Sep -16

Nov- 16

Jan -17

Mar- 17

May- 17

Jul -17

GBP:USD – Pre Brexit

Interest rates

23

Lower for longer?

If money remains “cheap”……

…… it buys some time for highly leveraged

businesses……..

Continuing “march of the zombie companies”?

0.0%

0.5%

1.0%

1.5%

2.0%

2.5%

20

18

20

19

20

20

20

21

20

22

20

23

20

24

20

25

20

26

20

27

20

28

20

29

20

30

20

31

20

32

20

33

20

34

20

35

20

36

20

37

20

38

20

39

20

40

20

41

20

42

20

43

20

44

20

45

20

46

20

47

20

48

20

49

20

50

UK Spot Rates for Government Bonds Pre Brexit (22

June 2016)

Post Brexit

(27 July)

Economic confidence

24

Both consumer and business confidence has been hit

Reduced economic confidence is:

• Discounters

• UK holidays

• Big discretionary spend (cars, travel)

• “Play on GDP” businesses (banks)

• Reliant on stability / confidence (property)

Good for…… Bad for……

48

49

50

51

52

53

54

55

56

57

Jan

-15

Feb

-15

Mar

-15

Ap

r-1

5

May

-15

Jun

-15

Jul-

15

Au

g-1

5

Sep

-15

Oct

-15

No

v-1

5

De

c-1

5

Jan

-16

Feb

-16

Mar

-16

Ap

r-1

6

May

-16

Jun

-16

Jul-

16

UK Manufacturing PMI

101

101.2

101.4

101.6

101.8

102

102.2

102.4

102.6Ja

n-1

5

Feb

-15

Mar

-15

Ap

r-1

5

May

-15

Jun

-15

Jul-

15

Au

g-1

5

Sep

-15

Oct

-15

No

v-1

5

De

c-1

5

Jan

-16

Feb

-16

Mar

-16

Ap

r-1

6

May

-16

Jun

-16

UK Consumer Confidence Index

The early impact of Brexit on expectations

25

Two sectors hit particularly hard…..

€200

€210

€220

€230

€240

€250

€260

€270

€280

Jan

15

Feb

15

Mar

15

Ap

r 1

5

May

15

Jun

15

Jul 1

5

Au

g 1

5

Sep

15

Oct

15

No

v 1

5

De

c 1

5

Jan

16

Feb

16

Mar

16

Ap

r 1

6

May

16

Jun

16

Jul 1

6

Stoxx Europe 600 Travel + Leisure

Travel UK Property

£4.5

£5.0

£5.5

£6.0

£6.5

£7.0

£7.5

Jan

15

Feb

15

Mar

15

Ap

r 1

5

May

15

Jun

15

Jul 1

5

Au

g 1

5

Sep

15

Oct

15

No

v 1

5

De

c 1

5

Jan

16

Feb

16

Mar

16

Ap

r 1

6

May

16

Jun

16

Jul 1

6

iShares UK Property UCITS ETF

TPR’s view

26

Impact on sponsors can be “positive or negative”

Employer specific impact should be understood by trustees

Open and collaborative discussion with management

Understand the impact of Brexit on investment decisions and stakeholder dynamics

All in the context of the 2016 Annual Funding Statement

– Deficits are bigger…

– ….but financial strength of sponsors is also improving

– Ratio of deficit repair contributions to dividends had declined

“The pension funding dichotomy” – how will Brexit impact?

TPR issued 14 July 2016 statement on Brexit

Summary

27

There will be “Winners” and “Losers”

Work to understand the risks:

– Integrated thinking – Scheme VaR and “wrong way risk”

– Sustainable growth

Exposure to covenant risk likely to be for longer:

– Scheme cash flow dynamics

– Downside protection

Volatility and uncertainty reins

For many schemes covenant risk will increase and should be monitored

Legal implications for UK pension schemes

Duncan Buchanan 3 August 2016

A talk of two halves with a cinematic theme

What has Europe done for UK pensions?

Hogan Lovells | 30

What has Europe ever done for UK pensions?

• Equal pay and normal retirement ages – Barber 1990

• Part-time workers – Preston 2000

• Anti-discrimination laws now in Equality Act

• TUPE and the acquired rights directive – transfers of employment

• Protection of pensions on insolvency – Robins 2007

• IORP Directive 2003 – Pensions Act 2004 (Investment, funding, disclosure and Regulator)

Generally considered that these are the “Good” and unlikely that any changes will be made as a result of Brexit

Hogan Lovells | 31

• Cross Border Pension Schemes (2006)

• Pension rights on TUPE transfers Beckmann (2002)

• Life only members of occupational pension schemes (2006)

• Transfers to QROPS (2006)

• Equalising for the effects of unequal GMPs Allonby (2004)

• Unisex annuity rates? (personal pensions) – Test Achats (2011)

The “bad” (perhaps)

Hogan Lovells | 32

• IORP II (2016) – proposed solvency regime dropped at last minute

• Will it come back in the form of a holistic balance sheet?

• If it does will it impact on the UK post-Brexit?

The “ugly”

Hogan Lovells | 33

For more resources on readying your business for Brexit, including our Brexit toolkit and latest thinking:

• Visit our Brexit Hub at: www.hoganlovells.com/brexit

• Sign up for our Brexit Bulletin at: http://bit.ly/BrexitForm

• Contact us with any questions about Brexit at: Brexit@hoganlovells.com or via our Constitutional Change Taskforce www.hoganlovellsbrexit.com/contacts

Follow us on Twitter: @HLBrexit Join in the conversation #Brexiteffect

Brexit resources

Brexit and pensions: what happens next?

3 August 2016

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