Insurers brace themselves for DB superfund disruption

Many people in the pensions industry see commercial consolidators, which sever the employer link but continue to operate in the pensions regulatory regime, as a more efficient and less expensive way for schemes to secure legacy liabilities.

If you assume there is money to be made by consolidating pension schemes and running them for a number of years... then any commercial organisation in pensions will be looking around thinking, ‘well is that something I can do?’

Paul McGlone, Society of Pension Professionals

Insurers have been less than enthusiastic about the creation of these vehicles. While superfunds are not designed to replace the so-called 'gold standard' of insurance, they are still seen as competition.

Insurers create new solutions

For insurers, setting up consolidation vehicles of their own may be an attractive option, but stricter capital requirements under Solvency II regulation mean this may not be possible.

However, this has not prevented them from setting up new solutions designed for schemes who cannot afford to buy out, or decide not to.

Legal & General, for example, has recently launched its Insured Self Sufficiency product for defined benefit pension funds.

“ISS is similar to the consolidator model in that the solution has been designed for schemes that either cannot yet afford buyout or choose not to”, according to L&G.

“In addition, both ISS and the consolidator models involve a third party (L&G in the case of ISS) providing additional capital to the scheme,” the insurer added.

However, it said ISS innovated within the existing risk transfer space from both a commercial and regulatory perspective, rather than seeking to replace it.

L&G also pointed out that there are “important structural differences” between ISS and consolidators.

“ISS is a combination of a cash flow-matched investment strategy and insurance protection up to a capped amount. It is intended primarily to enhance the sponsor covenant rather than replace it,” said the insurer.

L&G claims that it offers pension schemes “immediate, affordable, derisking, along with a path to buyout in the medium term” and anticipates that it will be cheaper than consolidator pricing.

Govt does not seem keen

In its consultation on consolidation, the Department for Work and Pensions states: “There may be a need to guard against incentives for insurance companies to establish a vehicle outside the current regulatory structures to acquire, or conduct, business that would otherwise have been acquired by the insurance company itself which could weaken the current regulatory framework for insurers.”

A DWP spokesperson said: “We have set out the criteria an organisation must meet to enter the DB consolidation market.”

The spokesperson added that it will consider all responses to the consultation, which concluded on February 1.

“The regulatory regime that insurers operate within is incredibly stringent so it would be down to the [Prudential Regulation Authority] to decide whether insurers could operate a so-called superfund and whether this would be under the Solvency II regime,”said a spokesperson for the Association of British Insurers.

Insurers unconvinced

Sammy Cooper-Smith, business development at insurer Rothesay Life, said: “There is little doubt that insurers could operate in the space – the risks are the same and the liabilities are the same. The only difference between the two regimes is the level of capitalisation required.”

Mr Cooper-Smith added that, if the gateway test for schemes to consider consolidators is set correctly, “then the addressable marketplace for consolidators will be quite small, so you wouldn’t need too many”.

He also argued that the more consolidators, “the greater the chances of a scheme or two getting stuck in a vehicle where the backers have chosen to withdraw, leaving the scheme with no obvious route out”.

Richard Priestley, executive director at Canada Life, said any DB consolidator should be subject to the same governance and oversight requirements as insurance companies. “The key point here is that this should be a level playing field for insurers and consolidators to protect customers,” he stressed.

Mr Priestley added that Canada Life is not actively considering such a vehicle: “The existing insurance buyout proposition already offers members the benefits of both scale and the additional protection that arises from the level of capital insurers have.”

Home team advantage

But Paul McGlone, president of the Society of Pension Professionals, said the idea of insurers setting up their own consolidators might make sense commercially.

“If you assume there is money to be made by consolidating pension schemes and running them for a number of years – and the Clara model suggest that is the case, and the SuperFund model suggests that is the case – then any commercial organisation in pensions will be looking around thinking, ‘well is that something I can do?’”

He added: “As an insurer, if it was feasible to set up a feeder scheme of some sort – a consolidator that brings it into insurance companies’ business but not as an insurance product, they have to have sort of home team advantage when it then comes to rolling it into an insurance arrangement.”

However, he admitted that the way in which insurers are regulated, for example, means it might not be viable.

Indeed, Wayne Segers, principal at XPS Pensions Group, said: “I think, unfortunately for them, they genuinely can’t compete because they would be caught by their own regulatory regime, which would impose additional requirements.”

Mr Segers added: “That’s why I think [insurers] are being quite vocal at the moment about it, and we have sympathy for that, which is why we’re saying there’s a role for superfunds, but it’s not to offer a long-term alternative to insurance.”

Regulatory concerns

Commercial consolidation vehicles will be overseen by the Pensions Regulator. However, in its response to the consultation, the Pension Insurance Corporation argued that “if superfunds are to be multi-billion pound for-profit commercial financial institutions, they should be authorised and regulated as such by the PRA and FCA [Financial Conduct Authority]”.

PIC added: “Government should not risk the possible systemic financial risks that under-regulation would pose.”

There needs to be an appreciable difference between what consolidation offers and what is offered by the bulk annuity insurance market… insurance is the gold standard, and we need to be careful not to create something that is confusing

Adam Saron, Clara Pensions

The insurer also said the consultation does not provide enough detail on the modelling to be applied to assess potential capital adequacy levels, adding that “it is possible that superfunds will operate at capital levels at which an insurer would be clearly deemed insolvent”.

Two consolidators have been announced so far – Clara Pensions, which works as a bridge for members and sponsors to the insured market, and the Pension SuperFund, which accepts bulk transfers of DB assets and liabilities and pools them together into one large scheme.

Distracting comparisons

Luke Webster, chief executive and co-founder of the Pension SuperFund, argued there has been a level of distraction introduced by the comparison with insurance.

“What we’re talking about is a better way to organise pension funds. Insurance clearly has a role to play in that, and I think the attempts to kind of compare consolidators directly with insurers are very unhelpful and distract from the main issues,” he said.

He rejected the “myth” that superfunds are financial institutions attempting to escape regulation, branding it as “completely false”.

“We’re enthusiastic in accepting the same fitness and propriety qualifications and systems and controls requirements that other financial institutions might have; what we’re saying is that we’re not insurance and therefore the insurance capital adequacy regime shouldn’t apply,” he said.

Mr Webster also said he does not see how superfunds would damage the insurance market. He used Clara Pensions as an example, highlighting that their intent is to transfer to insurance.

“While it is not our strategy to buy out, we have absolutely no doubt there will be times in the future where it will make sense from a risk management perspective to either buy in or buy out parts of our liability,” he added.

Principles, not rules

In its response to the DWP consultation, Clara Pensions said the authorisation and regulation regime for consolidators should be based on principles rather than rules.

“It should be flexible so that it can respond to innovation, new entrants and market conditions,” the consolidator argued.

Adam Saron, Clara’s CEO, called for “a regime that allows for flexibility, that allows for innovation and allows for change over time”.

He said: “This is new, and what we know today will be different from what we know in a year’s time and so forth, so it is important the regime can evolve”.  

Clara Pensions has also stressed that DB consolidation is not a threat to the insurance market.

“There needs to be an appreciable difference between what consolidation offers and what is offered by the bulk annuity insurance market… insurance is the gold standard, and we need to be careful not to create something that is confusing,” Mr Saron said.