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Liability-Driven Investment

An approach used by pension funds to match their assets to the pensions they must pay in future, often using borrowing and derivatives to increase their exposure to long-dated government bonds.

Key points

  • Protects pension funds against falling interest rates, which raise the value of their pension promises.
  • Leveraged LDI needs extra collateral when bond yields rise sharply.
  • Became widely known after the 2022 UK gilt crisis.

Example

If gilt yields rise sharply, an LDI fund's derivative positions lose value and it must post more collateral, often by selling gilts, which pushes yields higher still.

In history

After the September 2022 UK mini-budget, collateral calls forced LDI funds to sell gilts into a falling market. The Bank of England bought gilts temporarily to stop the spiral.

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