Kunal Sood, managing director of defined benefit solutions and reinsurance at Standard Life, part of Phoenix Group, comments on the positive outlook for the bulk purchase annuity market in 2023 and key trends schemes should be aware of as they look to derisk.
The rollercoaster end to 2022, as schemes navigated the liability-driven investment crisis, has resulted in sponsors becoming laser focused on finding solutions for their legacy defined benefit pension arrangements.
Schemes that successfully navigated that period may have a much improved buyout funding position, vaulting them forward on their derisking journey, with insurance remaining the gold standard for trustees, sponsors and members.
This sets up 2023 to be a record year for the pension risk transfer market, as schemes look to capitalise on their improved funding levels through insurance derisking.
Aside from data and benefits, it is crucial that schemes have clarity on their requirements and objectives, and strong governance to enable them to manage a fast-moving market
Volumes are expected to exceed £25bn for the fourth consecutive year, despite unprecedented market volatility during the second half of the year, which – adjusting for rising interest rates – is the second-highest annual volume to date.
As such, we expect to see a variety of themes at the forefront of the derisking market in 2023.
Accelerated demand for buy-ins and buyouts
For several years, market commentators have predicted surging bulk annuity demand as most trustees select insurance as their destination, and affordability comes within reach.
Funding level improvements for many schemes in 2022 appeared to have exacerbated that effect, as schemes expecting to reach buyout funding in three to five years suddenly found themselves within cheque-writing distance.
As a result, we expect an acceleration of short to medium-term demand for buy-ins and buyouts in 2023, with volumes topping the £44bn record.
The record annual bulk annuity volume, set in 2019, was buoyed by a handful of multibillion-pound transactions. Since then, we have seen relatively few buy-ins or buyouts of that magnitude, but such “mega” transactions seem set to re-emerge in the coming months.
Conversations are already happening with some of the largest DB schemes in the UK, which may have traditionally thought of themselves as targeting self sufficient run-off. Indeed, as buyout affordability has come within reach, these schemes are now focusing on buyout as their preferred endgame.
Dominance of full-scheme transactions
Over the past two years, we have generally seen an even split by volume of schemes looking to complete a pensioner buy-in or full-scheme transaction.
Increased focus on liquidity means pensioner buy-ins may no longer fit the investment strategies of some schemes, leading them to consider alternative derisking solutions ahead of buyout, such as longevity swaps.
Add to that many schemes being much closer to buyout, and the result is a dramatic shift in the mix of transactions. Indeed, over the past couple of months around 90 per cent of new quotation requests are for full-scheme transactions.
That said, pensioner buy-ins continue to offer an attractive solution for schemes looking to lock down risk and partner with an insurer on its journey to buyout, with strong insurer pricing and a competitive market.
Illiquid asset holdings to play bigger role in buyout planning
As many schemes have found themselves on an accelerated buyout journey, it is vital that trustees have a revised plan for how to manage illiquid asset holdings as they approach buyout. It is likely 2023 will see an increased number of schemes looking to buy out with a large portion of illiquid assets.
The market is looking to deliver solutions for schemes with illiquids to enable them to secure their liabilities. There are several options that could be explored to manage this dynamic, such as deferral of part of the premium to tie in with illiquid run-off or settlement timelines, or passing the assets to insurers in-specie.
Preparation remains key
In an even busier market, it is crucial schemes are well prepared to maximise insurer engagement. When thinking about preparation, data and benefits should be high on trustees’ agenda. These are the crucial building blocks of any transactions.
While data and benefits do not have to be perfect for a viable transaction, it should be internally consistent, with key pricing data complete to allow insurers to assess risk.
Equally important is a clear, easy-to-follow and unambiguous benefit specification, avoiding unnecessary back and forth, uncertainty and time spent dealing with queries.
Aside from data and benefits, it is crucial that schemes have clarity on their requirements and objectives, and strong governance to enable them to manage a fast-moving market.
The potential for the derisking market in 2023 is huge, with around £1.4tn of outstanding liabilities, only around 10 per cent of which are currently insured. As such, we expect to see market volumes grow significantly over the coming years.
Kunal Sood is managing director of DB solutions and reinsurance at Standard Life, part of Phoenix Group
