Analysis: Consultants say bulk annuity pricing has never been so attractive, yet the majority of pension schemes see self-sufficiency as their likely destiny. Who is wrong?
Barring the potential for the inception of buyout-lite superfunds in coming years, closed defined benefit schemes have two options available to them in derisking; self-sufficiency or the transfer of liabilities to an insurer through buy-ins or a buyout.
Research from consultancy Aon released on Monday highlights improved affordability in the latter solution. In total, 2017 saw £12.3bn of liabilities passed to insurers via bulk annuity contracts, rising to £18bn of risk transferred when longevity swaps are included.
This isn’t a one-party decision, this is something you need to engage with the sponsor on
Richard Butcher, PTL
While this remains a paltry sum in comparison with the UK’s £1.6tn of aggregate liabilities as measured on a section 179 basis at the end of February, Aon and other consultancies expect the number of deals to continue rising.
Market is hotting up
This is driven in part by attractive pricing, as insurers find ways to include higher-yielding alternative assets in their portfolios within the Solvency II jurisdiction.
According to Aon senior partner and head of risk settlement Martin Bird, this pricing is not doomed to disappear when scheme demand picks up in coming years.
“There’s no economic reason why [strong pricing] shouldn’t hold together,” he said. “Don’t rush to market, get prepared.”
However, there is some evidence that preparing for risk transfer is not top of the list of priorities for trustees.
A Blackrock survey of global DB plans found that 73 per cent of corporate schemes have a derisking strategy in place, rising to around 90 per cent in the UK.
Of those schemes that are derisking, the majority expect “immunisation”, a low-risk self-sufficient run-off, to be their end strategy.
Fund managers doubt insurance capacity
That may be partly out of necessity. “We see the risk transfer market running at something between £20bn and £30bn a year, normally closer to £20bn,” said Andrew Stephens, managing director of BlackRock’s UK institutional business.
He added: “It’s unlikely that the capacity is going to be there to buy out or buy in all of [the UK’s] liabilities.”
He said that while schemes will of course be open to transacting with insurers, affordability may prevent them from doing so.
In the meantime, schemes targeting full funding on a conservative gilts-plus discount rate will have to start investing like insurers.
Stephens expected innovation from the asset management industry to help tackle non-investment risks like longevity, and schemes to branch out from corporate and government debt into “a broad mix of public and private market assets providing duration, inflation linkage, cash flow and return”.
But Bird said trustees have mostly made up their mind about their end point, and disputed that self-sufficiency would be an attractive solution to corporate sponsors where they can afford the insurance alternative.
“We actually see lots of schemes equally targeting... a zero-risk portfolio, which means gradually and efficiently putting together a series of insurance solutions,” he said.
In line with improvements in funding levels, he also expected to see more schemes transact on full buyouts, which were conspicuous in their absence last year.
Fundamentals are the same
“Actually I think they’re both right,” said Richard Butcher, managing director at professional trustee company PTL. “It very much depends on the sponsor’s attitude to risk and how much risk you want to retain.”
He said while schemes considering insurance are under much greater time pressure, the two derisking paths “are pretty analogous” and require a keen understanding of both assets and liabilities, aided by better quality data on both.
For trustees considering insurance in particular, communication is key. “This isn’t a one-party decision, this is something... you need to engage with the sponsor on,” said Butcher.
