850,000 pension savers could be sleepwalking into a bond market nightmare

But now the monetary policy backdrop is changing. Inflation is back, and the Bank of England is expected to raise rates aggressively this year. The result is that bond yields have been rising, and bond prices have been falling. In the last two months the 15 year gilt yield has risen from 1% to 1.7%, and the average lifestyle fund has fallen by 13% (Sources: Refinitiv and FE). Despite this recent rise in bond yields, they are still at historically low levels, and there could be more to come.

While savers aren’t likely to question an automatic investment strategy which produces a healthy bump in their pension pot just before retirement, they may be less forgiving if it delivers a significant loss. If this happens, the explanation that fund values may have fallen, but annuity rates have risen at the same time, probably won’t play well with the nine in ten pension savers that aren’t planning on buying an annuity. The veil of falling interest rates, which has masked the shortcomings of lifestyling strategies since the pension freedoms were introduced, may be starting to fall away.

What can investors do?

Lifestyling strategies usually shift out of equities into annuity hedging funds over a period of five or ten years, and they do so automatically. Pension savers approaching retirement should therefore take stock of their position, and their retirement plans, and adjust their investment strategy accordingly.

Those who plan on buying an annuity might consider sticking with their lifestyling strategy, as it should hedge annuity rate movements. In a rising interest rate environment, they may be better off switching into cash or low risk multi-asset funds, but that doesn’t protect them if interest rates and bond yields fall back again. That looks unlikely, but it is possible, and could be prompted by a resurgence in the pandemic, or a conflict in Ukraine, or an unforeseen catalyst which derails the global economic recovery.