Disastrous; catastrophic; calamitous. Whatever pejorative you decide to affix to former prime minister Liz Truss and former chancellor Kwasi Kwarteng’s infamous Mini-Budget of September 2022, there is no denying it was influential.
For one, the Mini-Budget appears to have led to a record year for bulk pension annuity (BPA) transactions, with current estimates from RBC Capital Markets set at £50 billion.
The previous record of £45 billion was set back in 2019.
Several jumbo buy-outs have contributed to this record sum, including the £4.8 billion Boots Pension Scheme buy-in with Legal & General Group PLC (LSE:LGEN) and Rothesay’s £2.7 billion takeover of the Thales UK pension scheme.
Those dramatic increases in bond yield prices following the Mini-Budget were evidently a mixed blessing; while supposedly risk-free liability-driven investments suddenly became riskier than previously imagined in the direct aftermath of the Mini-Budget, Britain’s stressed defined benefit (DB) schemes are now enjoying shrinking deficits as a result of higher yields.
This has made insurance buy-outs more affordable for sponsors desperate to transfer their pension liabilities from their balance sheets to the insurance market (something of a long-term ambition for legacy DB schemes).
“The seemingly impossible came within touching distance,” declared Beth Brown, partner at de-risking expert Arc Pensions Law.
Brown contended that these schemes are striking while the market is hot, lest they miss a small window of opportunity to de-risk at a good price. “Many schemes are keen to act quickly for fear of missing out and waiting too long so that the markets move again and the now possible will become seemingly impossible again,” she stated.
The groundswell in pension de-risking is unlikely to stop in 2023, with RBC estimating another record next year, preceding a staggering £70 billion in BPAs in 2025.
Impact on policyholders
Should plan holders be wary of insurance firms like L&G, Rothesay and Aviva taking on massive portions of these DB schemes?
Not necessarily, according to Mandeep Jagpal at RBC, who told Proactive: “The Solvency II regulatory regime which is followed by UK life insurers is prudent, with strong incentives for insurers to invest in high quality fixed income assets.
“Further, the performance track record for UK life insurers’ asset portfolios has been strong since the (global financial crisis), evidencing the conservative investment approach taken.”
However, Brown said that while insurance companies operate within a rigid and regulated regime, “rapid growth always brings challenges”.
Insurance companies’ reputations rest on the high standards and security they provide, so “it will be really important for insurers to make sure that the member experiences do not deteriorate as more and more deals are done”.
Booming BPAs have also led to a booming reinsurance market, leading to more risk for life insurers taking on more and more pension liabilities.
The Bank of England's Prudential Regulation Authority warned life insurers in November to limit counterparty risk in the reinsurance market, given the prevalence of offshore private equity players in reinsurance.
A consultation paper on the matter is due in February 2024.
A pickier pension market
Plan trustees are becoming more scrupulous when it comes to choosing a buy-out partner.
According to Brown: “While it is generally understood that insurance companies, through buy-outs, provide a certain level of protection to members and are well versed in looking after members, trustees are increasingly also finding out more about the insurer’s personality and corporate culture, how they treat policyholders and who they work with before proceeding with a buy-out.
“Trustees want to be sure that not only is buy-out right for their scheme at this point in time but that they have selected the right insurer.”