Professional Pensions spoke to leading independent trustees to understand how schemes are approaching the de-risking process and what effects insurer innovation and capacity is having on journey plans.
In this interview, conducted in March 2020, PP spoke to Chris Martin of Independent Trustee Services.
PP: What are your long-term de-risking objectives for your DB schemes?
For virtually all our clients, we target full risk transfer to either an insurer or a consolidator. There may be one or two exceptions where the long-term outcome is low dependency, remaining attached to the sponsoring employer, but by far the vast majority would be looking for that risk transfer. That will be shared with the corporate as well in terms of their objectives.
From time to time there is a lack of capacity and that drives pricing up, which of course makes it unaffordable. A lot of large transactions have come to market over the last couple of years in particular, which has squeezed out smaller schemes, both from a pricing and a process perspective, so the ability to get a price has been difficult for smaller schemes.
Generally, the direction of travel for most trustee groups and corporate sponsors when they think about the end game for DB schemes is a risk transfer.
PP: What strategies are your DB schemes using in order to get to a risk transfer position?
Most of our schemes are now, and have been for some time, setting long-term objectives as opposed to just looking at technical provisions objectives. The timescale to get there varies from scheme to scheme, and from the corporate sponsor's perspective they don't want to pay any more than they have to. It's about balancing out the contributions, the investment returns, and the risk we want to take.
What has become more prevalent with schemes over the last few years is dipping into the risk transfer market along the way: buying out a tranche of pensioners as and when you can, rather than waiting to get to full buyout. We definitely see more of that.
When trustees think about that as part of a long-term objective plan, it makes sense to think about what other options they might want to offer members along the way. I don't think schemes see these so much as liability management exercises these days, more as ensuring your members have access to all the available options.
These could be cash equivalent transfer values or early retirement offers to over 55s. It could be a pension increase exchange. The consequence of offering these may improve the funding position, but the motivation for doing so isn't necessarily to do that. The motivation is optionality. The by-product is improvement in the funding position.
PP: Are there any differences in approach to the insurance market between smaller schemes and larger schemes?
Smaller schemes probably don't have the same access to market. In a crowded market they get less traction because they're less attractive, so that gradual risk transfer process is much harder to execute. They are slightly more constrained and need to wait until they get to the big bang moment to be able to do the full buyout. There isn't an appetite with most insurers to do tranches of £10m worth of pensioner buy-ins. It's quite an expensive process for the schemes as well: there is a lot of actuarial and legal work involved, so for a £10m buy-in it's disproportionate to the value of the risk transfer.
PP: What would you say the knowledge level for trustees is like around the de-risking process and options?
It varies from scheme to scheme. Trustees are often they are unaware that you can offload liabilities in gradual steps, and that the first one may not be that far away.
Each time you transact, you take a bit more of risk off, so overall your volatility is reduced, which should improve the certainty of getting to the ultimate goal.
If you are going to eat an elephant, you need to eat it in small bites. If you're looking 10 years out for the big buyout, what you do today feels irrelevant. But it's a really empowering process once you explain to trustees that they can do work today that will bear fruit in three years' time.
PP: What could small schemes be doing that could help them?
Things like tidying up your data and your benefits in a way that an insurer will expect to see them, which might be a different standard to the regulator. There is absolutely no reason why you can't be doing all these things in advance. It's never going to be wasted effort, it's good governance.
The reluctance is that trustees can't buyout straight away, so why bother doing this now? But my view would be if the market does turn in your favour then you want to be ready to take advantage of it. Getting your house in order now is just a good investment.