Budget 2015: Alongside Wednesday’s Budget, the government will launch a consultation on the viability of a secondary market to allow pensioners to cash in their annuities, but questions remain over who would buy them.
Chancellor George Osborne announced on Sunday that the government plans to extend the pension flexibilities to the 5m people who have already bought an annuity.
From April 2016, they will be able to sell the income they receive without unwinding the original annuity contract, with the income being repackaged and sold on to institutional investors.
The government’s statement said: “It allows the annuity holder to access the value of their property rights where they can find a willing buyer. The annuity provider would continue to pay the annuity payments for the lifetime of the annuity holder, but would reassign those payments to the purchaser.”
Jackie Wells, head of policy and research at the National Association of Pension Funds, said it was too soon to tell what the potential appetite will be from defined benefit pension schemes for investing in these repackaged second-hand annuities. “But it is an issue the NAPF will be watching very closely,” she said.
“Since most annuities in force are not inflation-linked, the match between the liabilities of DB schemes and the shape of the cash flow from a secondary annuity market may not be as strong as from some other assets.”
Wells said she hoped the consultation would address several unanswered questions, including “the potential volume and shape of secondary annuities, frictional costs, risk profile, communications and who will do the packaging”.
Risk assessment
Gavin Markham, an associate at consultancy Barnett Waddingham, said DB schemes would face significant challenges when considering investing in bundled secondhand annuities, which could render them less attractive than existing bulk annuities.
While attractive pricing may clearly be a driver for schemes that are looking for long-term regular income streams, as a way of managing their risks they would only provide a rough form of matching for the scheme’s own pension commitments
Gavin Markham, Barnett Waddingham
He said: “In principle, they would be exposing themselves to an uncertain return based on the life expectancies of the underlying individuals.”
Markham added that trustees would need a reliable way of assessing the risk and return characteristics of the investment, and how they fit with the scheme’s overall strategy.
“While attractive pricing may clearly be a driver for schemes that are looking for long-term regular income streams, as a way of managing their risks they would only provide a rough form of matching for the scheme’s own pension commitments,” he said.
“This is in contrast to purchasing a regular bulk annuity contract from an insurer where the scheme is explicitly removing the risks associated with its own liabilities, including the specific longevity risk of its members.”
However, Adam Michaels, partner at consultancy LCP, said the products could be an interesting area to help pension schemes manage their risks.
“But a key issue will be pricing,” he said, adding that the products would have to be “sufficiently cheap” to compensate schemes for the risk of matching their liabilities to other people’s lives rather than those of their own membership.
Michaels said secondhand annuities could provide schemes with longevity protection as well as some protection against interest rates and inflation. But he added they would also have to offer additional return to make them more attractive than a buy-in via traditional bulk annuities.
“It’s attractive from the point of view of hedging those risks… Pension schemes are looking for things with long-term inflation-linked cash flows,” he added.
