Trustees are increasingly using buy-ins to reduce pensioner liabilities. But, as James Phillips discovers, they could be failing to extract maximum value from these deals.
Defined benefit (DB) trustees are not maximising value from their pensioner buy-ins as they are insuring the oldest tranche of members, Punter Southall has said.
The consultant said schemes would be better-placed for buyout if they had instead insured the youngest tranche of pensioners - those aged up to 70 - who have a longer time left in retirement.
Head of de-risking solutions Colette Christiansen said: "Over the next five to 10 years, the supply/demand balance is going to move in favour of the insurers, and therefore buying a tranche of bulk annuities now does make sense.
"We have seen a lot of schemes doing that, but what we haven't seen as much as we should have is people maximising the value from that transaction and really putting it into their journey plan."
She added: "The key question people don't necessarily ask is ‘when am I likely to be able to buyout?' We've seen schemes who did a pensioner buy-in in 2008 - after nearly 10 years a substantial number of those people are now dead. They've insured people who are no longer alive, which doesn't really get them further towards their goal."
Christiansen said this approach would be fine if the scheme only has a short amount of time left until it is in a position to be able to afford a full buyout, however. Yet, many schemes are not in this position, especially with recent falls in discount rates.
"If you've got a 10-year time horizon, don't insure people who are over 75 and insure the ones that are younger," Christiansen continued. "What you get is the older ones running off and then you've got the middle tranche insured. Then you get the pension freedoms kicking off with people transferring out at retirement. You get a controlled run-off to a point where you then just insure the bits round the edges to get to full buyout."
The current approach also means schemes run into investment difficulties, as buy-ins can absorb too much of a scheme's low-risk assets and leave it in a more precarious position if this is not hedged.
"If you insure too much you don't leave yourself with enough flexibility to protect the liabilities for your remaining members," Christiansen added. "We've seen people use all their low risk assets, by doing a full pensioner buy-in, and then they were left at the whim of the equity market because they didn't leave enough to do any hedging.
"Now they can't buyout and future buy-ins aren't really even on the agenda, because they're underfunded. It's a bit of a shame really, because if they did one half the size and used the rest of the money to do hedging, they would probably be in a better position, and could have done another few tranches and been nearly done by now.
"For some of them, de-risking has led to more risk."
More than £5bn of buy-ins were completed in the first half of this year, almost double the same period last year.
The Continuous Mortality Investigation (CMI) has found a lower cohort life expectancy for both men and women in its 2020 table, even after zero-weighting data related to Covid.
Rothesay has concluded a £120m buy-in with the West Ferry Printers Pension Scheme, covering all remaining pensioner and deferred liabilities.
The Metropolitan Tower Life Insurance Company (MetLife) has reinsured approximately $5bn (£3.6bn) of Rothesay pension liabilities.
Although 2020 was a challenging year, Aon's Dave Barratt says the bulk annuity market was very resilient, with a well-functioning insurance market, large volumes of business written and 2020 finishing up as the second busiest year on record.
The uncertainty surrounding the potential impact of so-called long Covid and behavioural changes heightens the need for schemes to increase their longevity hedging, says Prudential Financial.