The JEP report and it’s implications – some first thoughts

Following the report of the Joint Expert Panel on USS on 13th September, UCUAgenda asked Douglas Chalmers, Chair of the HEC, to give some first impressions on the report.

“I welcome the publication of this report. I think two things stand out – firstly it’s a vindication of our members refusal to accept the scrapping of our Defined Benefits Scheme and the shift to DC – now off the table completely as a result of the hard fought campaigns through the 14 days of strike action. Having just returned from the TUC yesterday, where our delegation made some key contributions in debate, I was asked to pass on congratulations of more than one union for the example our members delivered to the whole movement in this campaign. Secondly I think that the fact that the report is unanimous, including the views of both the managements Actuarial firm Aon, and our own First Actuarial, vindicated the fact that there is an alternative to the bankrupt view which USS and the pensions regulator were trying to push onto us all, and which we have now roundly rejected.

Branches now need to meet and discuss and feed their point of view into the debate, which both our Superannuation Working Group and our National Disputes committee will take forward – the latter meeting for the first time on October 5th. And colleagues should not forget the Special Conference on November 1st where these issues will be further debated, together with our views on the current Pay campaign.”

Report of the Joint Expert Panel examining the 2017 Universities Superannuation Scheme (USS) evaluation – September 2018. Available from here

This outlines the unanimous conclusions of the Joint Expert Panel set up by UCU and UUK, the university employers, following endorsement of this approach by 64% of the UCU members in the scheme.

Below I’ve highlighted some of the key contents of the report (the emphases in bold are my own):

Joanne Seghers, the chair suggests  in her introduction that if followed, the recommendations reduce the valuation estimates of the scheme to a point where it may be possible to reach agreement on the issues faced by the scheme:

On the basis of our analysis we have made a number of recommendations, the overall effect  of which would be to reduce the valuation estimates of the future service cost and deficit to  the point where the increase is small enough to allow the Joint Negotiating Committee  (JNC) to be able to reach an agreement so that the issues currently facing the Scheme can  be resolved, recognising that compromise may be needed on all sides. p5  

She continues: 

We recommend that the JNC and the Trustee come together to work at speed to agree a  process that will enable any changes resulting from our recommendations to be  implemented early in 2019. It will, of course, be for UCU and UUK (through the JNC and  their respective democratic structures) to determine the best way forward 

And adds:

This report is confined to the issues relating to the 2017 valuation, as defined in our Terms of Reference (ToR).  However, it is clear from our assessment of the issues that further work is required. This  should aim at delivering an approach to future valuations that is clear (and clearly  understood by stakeholders) and which can deliver both a sustainable Scheme and a shared  set of principles 

Some extracts from the report itself are below:

The remit:

This report focuses on the first phase of the Joint Expert Panel’s (JEP’s) ToR, namely to review the basis for the Scheme’s 2017 valuation, assumptions and associated tests.  This has included:   

A review of the 2017 valuation to date, including an assessment of the methodology, assumptions and process underpinning it; and exploring the scope for possible revisions to the methodology and assumptions to  allow the valuation to be completed without invoking cost sharing through rule  76.4-8 of the Scheme Rules.    

In undertaking its work, the JEP has been asked to take into account:  

the unique nature of the HE sector;
considerations of intergenerational fairness and equality;
the need to strike a fair balance between stability and risk; and  
the current legal and regulatory framework.   

The JEP has not, in this phase of its work, considered valuations beyond the 2017 
valuation. That would be the subject of a follow up report. However, we have taken the 
opportunity in this report to suggest areas for future investigation and consideration.  p6

The JEP itself has had 11 day long meetings between May – Sept, with 11 oral evidence sessions and considered 55 submissions from scheme members and participating employers.

On the considerations of the three ‘tests’ used by USS to assess the valuation, and particularly in relation to Test 1, which many have focused on as one of the key problems in the current valuation, the report says:

  • The Panel has spent a significant amount of time understanding and assessing the 
    three Tests, and Test 1 in particular. The Panel has concluded that the outputs of Test  1, while very specific and quantitative, are highly sensitive to the input assumptions,  many of which are very subjective. Consequently, we believe that Test 1 is given too  much weight in determining the valuation and its effects extend beyond its original  purpose. Rather than being used as a “stop and check” reference point, Test 1 is being  used as a constraint on benefit design and driver of investment strategy. The Panel  does not consider this helpful. It would be far better if Test 1, were its use to continue,  was used as a test that informed other aspects of the valuation and funding strategy  rather than acting as its lynchpin  (my emphasis) p8
  • On the valuation process and governance, the report states (p9):
  • One of the unique features of USS is its governance structure. Amongst other things, 
    this gives the Trustee unique powers through a unilateral right to set contributions  (subject to consultation). It is beyond the scope of this report to examine whether this  should change, but clearly the process does need to be managed more effectively in  terms of interaction with, and gaining the support and confidence of, employers and  members.  
  • With respect to assessing employer covenant, the Panel acknowledges it is not a  simple task to consult with 350 different institutions or to ascertain their risk appetite –  a consultation will inevitably generate a wide range of views and possible outcomes.  However, the framing and context of the questions asked of employers have, in our  view, produced misleading results. These results have been distilled into a single  number which feeds into Test 1, and which in turn affects contribution requirements,  future Scheme benefits, the investment strategy and the estimated deficit. These are  outcomes which, on exploration, appear to be inconsistent with many employers’  wishes.  p10 (my emphasis)

  The report goes on to say:

  • There is no formal mechanism for involving Scheme members in the valuation process or assessing their appetite for risk. This is of great relevance in the USS context given  the existence of cost sharing when additional contributions are required. It is beyond  the scope of this report to consider how member involvement could be achieved, but  this is an unresolved issue for the management of the Scheme.  

In consideration of future adjustment, the report states:

The Panel has developed five principles against which adjustments could be  considered 

  1. A re-evaluation of the employers’ willingness and ability to bear risk – this 
    would mean re-assessing the reliance on sponsor covenant.  
  2. Adopting a greater consistency of approach between the 2014 and 2017  valuations – this would mean changing the approach to deficit recovery contributions.  
  3. Achieving greater fairness and equality between generations of Scheme 
    members – this would mean smoothing future service contributions.  
  4. Ensuring the valuation uses the most recently available information – this would 
    mean using latest available data and taking account of recent investment 
    considerations and outcomes. 
  5. Taking the uniqueness of the Scheme and the HE sector more fully into 
  • The Panel believes that making adjustments in each of these areas would have a  material impact on the scale of the 2017 deficit and resulting contribution increases.  We also believe this would create a space within which employer and members can  find common ground so that the issues around the valuation can be reconciled. It is  also our view that the adjustments proposed are consistent with the Trustee’s  fiduciary duties and the objectives of the Regulator.  (my emphasis)
  • If agreed and implemented, these changes would avoid the need for the very steep contribution increases envisaged in the Scheme Rule 76.4-8 (cost sharing) process.  This would create the space for the stakeholders, through the JNC, to consider  some of the longer term issues facing the Scheme and establish a stable platform  for a further review of the Scheme by the Panel.  (my emphasis)

Looking forward the panel suggests:

  • We have also made recommendations as to revisions to the 2017 approach that would enable the 2017 valuation to be concluded, whilst creating some space for the Trustee and JNC to consider the necessary short and longer term reforms to the  Scheme.  
  • However, it is clear that there are a number of issues that remain to be resolved. Whilst  the JEP has commented on the many elements of the valuation, we have not opined on whether there is a different way of reaching a conclusion that could provide long term  stability to the valuation process and have the support and confidence of all parties.  The Panel believes this should be a core element of the second phase of its work.   
  • The second phase of work should also include a wider review of the approach and involvement of UUK and UCU in future valuations so that a more collaborative  approach can be adopted and industrial action, such as that witnessed earlier this year,  can be avoided. This would require examining the interaction of the various bodies with  a formal role in the valuation process; considering the potential for the involvement of  Scheme members in the valuation process; and considering how more effective  engagement with employers can be achieved.   (my emphasis)
  • We have recommended that in view of the need to start to prepare for the 2020 
    valuation, work on Phase 2 should start as soon as possible. However, this work will  require a firm foundation and cannot, therefore, be concluded until the 2017 valuation  itself is concluded.

Some further extracts from the JEP’s findings during their investigation:

On Test 1:

  • Whilst a test of self sufficiency and employer reliance is a useful principle for the basis  of a valuation, Test 1’s formulation, application and implementation is very rigid with  the result that Test 1 has led to a valuation that is model driven rather than model  informed. As suggested by other commentators, alternative ways of arriving at a  valuation of technical provisions are open to USS and should be explored.  
  • Test 1 drives the investment strategy towards a low return investment strategy that  results in a higher deficit and higher contributions than would be the case if the current  investment strategy were maintained.   
  • The Panel believes that the Scheme’s advisers have put forward a clear, reasoned, well evidenced and positive analysis of the sector which provides overwhelming support for  the assessment that the covenant is strong.  
  • However, it is not clear that the employers’ appetite for risk has been assessed  appropriately, particularly in relation to the delicate balance between investment risk,  funding levels and contribution levels.   
  • USS’s approach to meeting Test 1 implies a de-risking of assets. A number of other  paths are open to USS and could be explored.    
  • The assumption of gilt yield reversion has become the focus of attention for some critics  who believe that USS’s assumptions are too optimistic. However, so long as USS holds a  diversified (i.e not ‘de-risked) portfolio, the failure of gilt yields to revert will be  accompanied by a change in the expected returns on other assets. The assumption of  reversion is by no means as critical as some observers believe.
    (Summary page 24)

Effects on contributions:

Here the panel suggests that

  • Based on the Panel’s understanding of cost sharing, the contributions without matching  could result in member contributions of 9.11% and employer contributions of 20.071%.   It will ultimately be for the JNC to determine how any new contribution rate is split between  employers and Scheme members. (P 60)

This compares to the current rate of 26% (18% of salary paid by employers 8% by employees), and the rate of 36.6% from April 2020 which is proposed by USS based on the valuation as it stands.

How will the union take this forward? 

The relevant decisions taken at Higher Education conference can be found here: MOTIONS re USS (HESC2018)

The coming weeks and months will give the members of our union the opportunity to decide the next steps in this process of guaranteeing a decent Defined Benefit Pension scheme worth the name.