How should schemes react to stagnating life expectancy?

The figures have actually reduced by 0.1 years in Scotland and Wales, as well as for males in Northern Ireland.

The two obvious approaches are either to make very prudent assumptions or to rely on an ongoing employer covenant to cover extra costs that might emerge over time

A similar stagnation applies to the life expectancy from age 65 that drives pension costs, with a man expected to live a further 18.6 years after 65 and a woman expected to live another 20.9 years after that age.

2015 saw the highest percentage increase in deaths since 1968 and there were more deaths in 2017 than in any year since 2003.

Wide variations across the UK

Regional differences have reduced recently but there is still a clear north/south divide, with 2012-2014 data showing a life expectancy of 21.6 for men aged 65 in Kensington and Chelsea, for example, compared with 15.9 in Manchester.

Trustees in London could therefore need as much as an extra third of their scheme assets to pay the same benefits as their counterparts in Manchester.

Few membership profiles are quite that specific but there are clearly wide variations in expectation, even before allowing for pension incomes, former occupations and other relevant factors.

All these longevity figures are ‘period’ expectations, which make no allowance for any future improvements and so will probably understate how long people will actually live in practice.

Is this a blip?

Pension schemes use ‘cohort’ mortality projections to estimate how long their members will live. The challenge then becomes how to allow for the uncertainty in the projected improvements now that they have slowed down so dramatically in the UK.

Is the slowdown just a blip or will we see a return to the fast improvements seen at the start of the century?

The two obvious approaches are either to make very prudent assumptions or to rely on an ongoing employer covenant to cover extra costs that might emerge over time.

History shows that different countries have taken the lead in mortality improvements from time to time, but with a reliable global trend upwards.

ONS figures released in August suggested that improvements in the UK had slowed to a quarter of their previous level, but that USA improvements had fallen to a tenth.

Spain, Germany, Portugal and Sweden had all seen dramatic slowdowns too, though only falling by 30-40 per cent.

Switzerland has not seen any fall in the improvement rate, despite having the longest-lived people already, and Japan has bucked the trend entirely with accelerating improvements after a period of low gains.

The UK life expectancy of 18.6 for men at 65 is ahead of the US at 18.0 and Belgium at 18.5, but behind France at 19.4 and Switzerland at 19.8. Perhaps there is scope for our longevity improvements to return and allow us to catch up with those ahead of us.

Take steps to manage funding

Most defined benefit schemes in the UK do not even use the ONS statistics to calculate their funding needs.

The vast majority sensibly use the self-administered pension schemes tables that reflect the specific mortality of their members, who are typically better off in retirement and may therefore expect to live longer.

However, most DB schemes have fewer than 500 members and a third of all these schemes have fewer than 100 members.

This means that even if we can identify exactly the right chance of each member dying each year in the future, there is a significant risk of random variation that could add 10 per cent or more of the total reserves needed for a scheme with 100 members (unless they are planning to insure the pensions). 

While that may not sound terrible, it would treble the deficit for a scheme that was 95 per cent funded.

Despite the uncertainty, trustees can take steps to manage their scheme funding. This includes adjusting their longevity expectations to fit their membership, considering whether the scheme needs an extra reserve for random variation, and taking steps to prepare for when their assumptions are wrong.

Hugh Nolan is director and scheme actuary at Spence and Partners