MARKET COMMENT
Equitable Life Reduces Pension Values

By Stuart Watson (TMFTiger)
July 16, 2001

Great Titchfield Street, London -- The Equitable Life saga took another twist today as it made an announcement following the completion of its financial review. Due to the fall in UK stock market values since January 2000 and the fact its funds are closed to new business, it is to slash the value of its pensions.

Although the reduction has been earmarked as a reduction in the terminal bonus it appears to have been applied across all its policies. There will be a reduction of 16% for pension policies and 14% for life assurance policies. Therefore a pension contract with a total policy value of £50,000 on 31 December 2000 is now worth just £42,000, although if the guaranteed value of the policy is above £42,000 when it matures, the higher figure will be paid. In addition there will be no growth on policies for the first six months of 2001. The growth for the second half of the year is expected to be 6% per annum. Previously growth of 8% had been signalled for the whole of 2001.

The Financial Adjustment, or Market Value Adjustment (MVA), is to be reduced from a punitive 15% to a slightly more bearable 7.5%. The MVA is the charge levied if policyholders withdraw their funds early. On top of the 16% reduction above, this means that the pension valued at £50,000 is only worth £38,850 if the funds are withdrawn early.

With-profits funds are designed to smooth out the returns offered by the stock market with annual bonuses awarded that ratchet up the value of your pension pot. However, the combination of falling markets and overgenerosity with past returns has meant that some of these ratcheted returns are now unsustainable. Equitable Life is not the only company in this position. Friends Provident (LSE: FP.) used a large chunk of its flotation proceeds to shore up its funds and Scottish Mutual, amongst others, is reported to be considering a hefty MVA charge.

Whilst the smoothing of returns can give a certain peace of mind, the cost of this peace of mind is very high. With such funds there is only a limited amount of money to go round. When too many promises are made they can't all be fulfilled. When the "guarantees" are needed most, they have a nasty tendency to disappear altogether. The reduction in the Equitable's terminal bonus reduces the latest 20-year return on their pension policy to 11.1% per annum. Whilst this may appear respectable it looks a lot less impressive next to the 16.5% the UK stock market has returned over the same period. The effect of compound interest means that a fund growing at 11.1% per annum for twenty years, where regular contributions are made, has an end value that is just one-half that of one growing at 16.5%.

For the 1m policyholders left with Equitable Life the next step is the consultation process relating to compromise solution between the 90,000 Guaranteed Annuity Rate (GAR) members and the non-GAR members. Details are expected by the end of August followed by a vote in December.

More: Lifting the Lid on With-Profits Policies | Equitable Life discussion board | Today's statement