Not only many professional groups are affected financially by the corona crisis, also the pension funds. This is why.
Charles Kalshoven has a background in economy, scenarios and investing. As a senior investment strategist at APG he advises pension funds on their investment policy
You probably had the flu at some point in your life. Not nice, but eventually you recover and feel as fit as a fiddle again. It is a very different story when it comes to Covid-19. The intensive care units of hospitals become overloaded and over 300,000 people worldwide have meanwhile not survived the infection with the corona virus. Imagine this being your beloved.
Many people do not realize that this pandemic can also have an impact on the pensions. Pension funds are also not ‘immune’ to Covid-19. To prevent the disease from spreading, governments placed the economy in an artificial coma. Entire industries came to a standstill which lasted for weeks. The hospitality industry, hairdressers and dentists were not allowed to open their doors. The automotive and kitchen showrooms attracted only little attention. Consumers have the tendency to postpone large purchases in times of uncertainty. Only supermarkets and DIY stores went through golden times.
The economic consequences are unprecedented, even worse than during the credit crunch. That is affecting you, as an employer, entrepreneur, and pension participant. Let me explain this: companies witness their profits disappear and have to file for bankruptcy sooner. That causes a drop in equity rates and, with that, the assets of pension funds.
Usually, it never rains, but it pours. The interest rate also dropped due to the economic crisis. That decline also has consequences for pension funds. For every Euro of pension in the future, they now have to put more money aside. That works more or less like this in the current pension system: image you want to go on a trip around the world in 10 years' time and you need 10,000 Euro to make this happen. If you have 6,000 Euro on your savings accounts right now and the interest rate is 5 percent, you can stop putting money aside. The amount increases on its own. But when the interest rate drops, you have to deposit more funds. At an interest rate of 1 percent, you will now need 9,000 Euro instead of 6,000 Euro. That is 50% more. The numbers are different, but the principle is the same for pension funds: when the interest rate drops, the pension funds have to put more money aside for the future.
That results in a double hit: the assets decrease and the obligations increase. The coverage ratio of a pension fund is nothing more than the ratio between these two numbers. And that ratio has deteriorated significantly due to the corona crisis.
Recovery or complications
The key question here is the time it takes for the pension funds to recover. The honest answer: nobody knows. I can tell you what is needed to make a fast recovery happen: a considerably higher interest rate, a rebound of equity prices or a combination thereof.
It is not inconceivable but could only happen if not too many things go wrong in the quarters to come. The virus has to be under control to such an extent that the economy is allowed to wake up from its artificial coma quickly. Because the longer it takes, the higher the risk of complications - think about bankruptcies and persistent unemployment. That would have an instant effect on families. A continued crisis would also deteriorate the outlook for economic growth later on. In that case. the lower equity prices and interest rate even worsens the position of pension funds.
Let me end with a hopeful note. Covid-19 is more than just a flu, but in terms of the economy it may possibly not go any further than temporary (severe) shivers. Yes, we are experiencing an economic recession, but not caused by financial excesses or a natural disaster that has wiped out our production facilities. If a vaccine or drug is developed quickly, we can resume our operations with all the lessons learned in the past few months in our back pocket. That also benefits your pension (fund).