The funding gap in British pensions has ballooned to the highest level on record.
Official figures from the Pension Protection Fund, the government agency that underwrites U.K. pensions, showed that, as of Jan. 31, Britain's defined benefit pensions expect to have to pay out GBP367.5 billion more than their assets will produce after the interest paid by U.K. government bonds fell in January.
The record deficit, which is a snapshot of asset values at one moment, is up GBP91.9 billion since the end of 2014, and compares to a much lower total deficit of GBP46.4 billion on the same day in 2014. The gap was accentuated by the sharp downward move in gilt yields in January this year. Pension funds discount their liabilities by the yield they expect to be able to get in the market in order to fund them, so when yields fall, the value of their liabilities rises.
"People were genuinely quite shocked and surprised at the movement [in yields] in January," said Mark Duke, a consultant at Towers Watson. "People think, "surely they can't get any lower?" And they go lower."
Yields on 15-year British government bonds fell 1.38% in January. Yields move inversely to bond prices, which were driven up in January as markets revised expectations that the Bank of England will raise rates this year, in the light of extremely low U.K. inflation and softening growth. The European Central Bank's quantitative easing program also pushed down European yields to historic lows and weakened the single currency, making gilts relatively more attractive than some euro-denominated government bonds.
Analysts at Citigroup said that the rising price of gilts has become "self-reinforcing," because it prompts pension funds to buy longer-dated gilts to protect themselves against the risk of yields falling even further. That worry then becomes self-fulfilling, as it pushes up demand for gilts now.
"Pension funds buy long gilts to protect against risks of even greater deficits if yields keep falling--and thereby keep long yields ultralow," they wrote in a note to clients.
The widening deficit is also weighing on British businesses. The Citi analysts said: "There is some evidence that high pension deficits in recent years have acted as a cap on business investment and other corporate activity."
The PPF said that there are now 5,165 defined benefit pension programs in deficit in the U.K., compared with just 885 that are running surpluses.
Write to Juliet Samuel at juliet.samuel@wsj.com
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This article appears in: Market News Headlines
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