March 27, 2023

Insurers expect more UK companies to offload their pension schemes to them after surging government bond yields increased the appeal of such deals and the market turmoil underlined the risks in managing retirement plans.

Over the past two decades, the UK has seen the emergence of the so-called bulk annuity market, where specialist insurers take over defined-benefit pension schemes.

The market already had enjoyed fresh momentum earlier this year from the increase in government bond yields as inflation and interest rates rise. Rising yields reduce the scale of the long-term liabilities pension funds have to meet, making it more attractive for insurers to take on the responsibility for the schemes.

There could be up to £50bn of such deals a year between now and 2025, LCP, a consultancy, estimated this year. That forecast was before chancellor Kwasi Kwarteng’s announcement of unfunded tax cuts in last month’s mini-Budget triggered a dramatic move higher in gilt yields.

The rise blew up the so-called liability driven investing (LDI) strategies that use derivatives to help pension funds manage the risk of changes in interest rates and have been widely adopted in the industry over the past decade.

Andy Curran, chief executive for savings and retirement of the Phoenix Group in the UK and Europe, said the rise in bond yields would encourage schemes to seek buyouts from insurers.

“The mini-Budget would probably have improved the funding of already well-funded schemes and, with that, the corporate or the finance director will more likely take the opportunity to pass the liability to the BPA market,” Curran said. “Going forward, the market will probably just get stronger.”

Two other insurers told the Financial Times they shared Curran’s assessment. Curran also suggested the shock of the LDI crisis might also encourage further moves to offload schemes, a view echoed by the other insurers.

The rapid rise in yields wrongfooted those pension funds that had used LDI hedging strategies, forcing them to sell gilts to meet margin calls and threatening a “doom loop” of relentless selling that was only averted when the Bank of England intervened in late September.

“The desire is still there,” Curran said of pension scheme trustees’ wish to transfer liabilities to insurers. “I think this, just by virtue of its profile if nothing else, will sharpen the mind and could indeed see demand to transact increase.”

In August, JPMorgan estimated that £600bn of the roughly £2tn of pension scheme liabilities sitting on UK companies’ balance sheets could be transferred to insurers over the next decade.

While insurers are optimistic about the outlook for the market, Curran and other insurers cautioned that there would probably be a pause in the deals in the short term as investors took stock.

The transfer of a scheme’s pension liabilities to an insurer had a “long gestation period”, Curran said, adding that some might “take a breath”.

“Others may say, ‘Well, actually that fundamental LDI issue doesn’t really affect us very much and we’ll continue to progress,’” he said.

Curran said it was difficult to look past the turmoil caused by the “mini”-Budget but that, other things being equal, deals were growing more attractive.

“We think that the market will remain strong or very strong on the back of the fundamentals and what’s happening with yields,” he said.

Letter in response to this article:

Insurer-managed pension funds come with a caveat / From Gayatri Raman, European President, Clearwater Analytics, London EC2, UK

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