LONDON: Insurers hit by a UK government shake-up of pension rules are set to make up some of their lost business by ramping up the number of retirement deals they sell to companies rather than individuals.
The industry was dealt a surprise blow in the March budget after retirees with pensions reliant on financial market returns, so-called defined contribution schemes, were told that from April 2015 they would no longer have to buy an annuity, or income for life, at retirement.
For insurers with a big annuity business, such as Resolution and Legal & General, this raised fears of a slide in profits. Resolution’s shares have plunged 15 percent since the budget and those of L&G, which last year generated 29 percent of cash flow from its retirement division, 8 percent.
The full impact will not be known until the changes come into force, though Standard Life said last Wednesday that sales of annuities, which accounted for 6 percent of the group’s operating profit in 2013, had already fallen by 50 percent in the weeks following the budget. But the blow could be softened by demand from defined benefit — or final salary — pension schemes, many of which are seeking to hive off their exposure to the risk that scheme members live longer than expected or that interest rates rise, in so-called “bulk-annuity” deals. The Pension Protection Fund reckons total liabilities in UK final salary schemes top £1.2 trillion ($2 trillion), almost the size of the UK economy.
This year has already seen a record-breaking £3bn deal between L&G and now defunct chemicals firm ICI. “You’re going to have to sell quite a lot of individual annuities to make that kind of money,” said Martin Membery, head of insurance at law firm Sidley Austin. “So you can see why these types of deals could be almost a direct replacement for what they’re otherwise losing.”
While companies can write a derivative contract to remove their exposure to the old-age concern in a so-called longevity swap, insurers will be hoping they opt for the bulk annuity deals, which are more profitable and give the insurer all the assets upfront to invest. In such deals, the pension scheme sheds responsibility for paying its members their retirement income, either through a buy-out, where the insurer takes over everything, or a buy-in, where the scheme remains the administrator. The demand for bulk annuities is already strong, with a record £7.5bn ($12.7bn) of deals struck in 2013.
While the first bulk annuity deals were agreed in the 1980s, tougher accounting standards and EU funding requirements, as well an increasing number of final salary schemes closing, have combined to drive up demand from pension schemes.
Consultant Hymans Robertson expects at least £20bn of bulk annuities to be written in 2014 and more than that next year. 18 FTSE 100 firms have taken part in such pension scheme risk transfer deals, and the consultancy expects that number to increase to 50 by 2017.
If that’s right, Membery said, there will be a “massive amount of activity” over the next few years. He also pointed out, though, that the market is finite — with final salary schemes being phased out, bulk annuity deals can only live as long as their members. So far the bulk annuity market has been dominated by a handful of players — last year just eight insurers wrote 186 deals — but that could be set to change. Reuters
