Standard Life’s Kunal Sood gives an insurer’s perspective on how buy-ins and buyouts are priced.
Pricing is typically considered to be one of the most important factors when it comes to securing a bulk annuity transaction with an insurer.
This is reflected in our research with defined benefit (DB) pension scheme trustees who say that negotiating a good price is absolutely vital to them. However, our research also indicates that price isn’t the only factor at play, especially with scheme funding levels soaring over the last 18 months.
From an insurer’s perspective, a multitude of factors are considered when setting a bulk annuity premium, not limited to considerations such as longevity risk, operational costs, and investment approach – all of which are key drivers that will ultimately inform the final bulk annuity premium.
Our starting point is to project how much we expect to pay the scheme’s members over their lifetime. We build on this by considering our capital requirements, and as an insurer, we hold a margin for uncertainty. This solvency capital is a buffer to protect against adverse events.
The premium set is dependent upon availability of assets to back the insured liabilities, alongside quotations received from the reinsurance market. Uncertainties and complexities also need to be factored in, such as pension increases, which in some cases may be very complicated to hedge.
What trustees can control
While many of these factors remain out of trustees’ control, there are a number that trustees can influence that will have a significant impact on the pricing process.
One such factor is ensuring adequate transaction preparation, which is critical to insurer engagement and transaction efficiency. In an ideal scenario, this would involve a trustee having the data cleansed and the benefit specification finalised before approaching an insurer.
Certainty that the trustee wants to transact, that they have estimated affordability and that the scheme sponsor is fully engaged to avoid any last-minute blockers can also make for a much smoother transaction process.
Early exclusivity on a transaction can have a significant impact on insurers, motivating them to participate or prioritise a deal.
While some trustees and advisers may be hesitant due to the importance of ensuring value for money through a wider tender, insurers are incentivised to offer competitive pricing and risk transfer brokers, with insight into various market transactions, can provide guidance on pricing levels.
How important is price?
Our research among DB pension scheme trustees reveals the importance of negotiating a favourable price in bulk annuity transactions.
Among trustees not prioritising buy-in or buyout strategies, nearly all (95%) emphasise the significance of price. That said, only 38% consider price to be “very important”, indicating the influence of other considerations.
Non-pricing factors are beginning to climb up the agenda for trustees, with a particular focus on administration capabilities, member experience and ESG credentials.
Administration capabilities and member experience come hand in hand. An insurers’ ability to adequately service schemes may depend on the number of schemes in their pipeline for buyout transition.
Member experience is also critically important, and getting this right can lead to positive outcomes such as high levels of member engagement, awareness, and understanding of retirement benefits.
Half (50%) of DB pension trustees say an insurer’s approach to sustainability is one of the key decision-making factors when considering a bulk annuity, and a further two fifths (42%) say it is one of several factors.
Tailoring an insurance proposition, such as providing premium certainty via a price lock in line with a scheme’s current holdings is vitally important. This demonstrates an understanding of trustees’ unique needs when designing bespoke solutions.
This year is likely to be another record-breaking year for the pensions de-risking market, and many schemes are ahead of schedule on their endgame journey.
In this vibrant market, it’s crucial for trustees to establish upfront the key decision-making criteria to guide insurers towards what truly matters. While the premium is significant, effectively communicating non-price factors is increasingly vital for a seamless and successful transaction.
Kunal Sood is managing director for DB solutions at Standard Life, part of Phoenix Group.
