Insurance solutions for pension schemes

Transcription

1 Insurance solutions for pension schemes Insurance Provider Survey July 204

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3 Contents Summary Introduction 5 Why insure? 6. Insurance solutions available 7. Traditional bulk annuities 8.2 Longevity only.3 Medical underwriting 3.4 The Irish market 5 2. Structuring a deal 7 3. Characteristics of insurers 9 4. Insurers market outlook 2 Contact us 23 Insurance solutions for pension schemes 3

4 DB pension schemes Solvency II Longevity Reinsurance Wind-up Reinsurance De-risking Medical underwriting Free asset ratio Affordability Deal structure Market outlook Medical underwriting Deferred premium Buy-in Sovereign annuities Data Free asset ratio Predictability Collateral Risk Predictability Market outlook Pricing Pricing Sovereign annuities Insurance Buy-in Wind-up Wind-up Free asset ratio Data Pricing Insurance Sovereign annuities Reinsurance Deferred premium Wind-up Pricing Wind-up Market outlook Collateral Data Buy-out DB pension schemes Insurance Solvency II Deal structure Affordability Deferred premium Market outlook Collateral Affordability Deal structure Market outlook

5 Introduction Although Defined Benefit ( DB ) pension schemes are becoming rarer as a vehicle for companies to provide pensions to current employees, the size of accrued benefits mean that they remain a challenge for sponsors and trustees looking to manage the risk that they pose. The market for insured solutions has changed a huge amount over the last ten years, from the early 2000s when there were just two providers in the UK focussing on insuring schemes in wind-up to the mid 2000s when a large number of new companies joined the market. Although many of these new entrants have since left the market or been consolidated, today we see a well established market with a number of players committed to offering insured solutions as a way of de-risking schemes. In order to assist companies and trustees who are considering insured solutions for their scheme, we conducted a survey in early 204 of the main insurance companies who participate in this area in the UK and the Republic of Ireland. The focus of this survey was on the insurers who have written business directly with pension schemes. For this reason, we have not included the longevity reinsurers who operate in this market. This report sets out the results of that survey and offers some insights into the market from the perspective of insurers. We would like to thank the following insurance companies for participating in the survey: Abbey Life (and Deutsche Bank London in its capacity as a derivative solution provider) Aviva Just Retirement Legal & General Partnership Pension Insurance Corporation Prudential Rothesay Life Swiss Re In addition to the above UK providers, two insurers who operate solely in the Republic of Ireland also participated in the survey. Please note that the survey results are shown on a no-names basis. Where relevant, the insurers have been allocated a reference number but this changes in the different tables. We hope that you find the report interesting and informative. Iain Brown Partner and Head of Pensions Advisory July 204 Insurance solutions for pension schemes 5

6 Why insure? For both companies and trustees, the impact of volatile pension deficits can be significant and detrimental. An increasing number of companies and trustees are looking at options to remove or reduce pension risk. An effective way of removing risk is through the purchase of insurance products; there are a wide range of options offered by insurers to help companies and trustees to derisk their pension schemes. There are a variety of benefits in using insurance solutions for both trustees and employers: Trustees: Insurer covenant - Insurance generally increases member security as an insurer covenant is typically stronger than an employer covenant. Insurers are subject to strict regulatory requirements and are required to hold a large amount of capital to cover their liabilities Employer covenant - Trustees can use insurance solutions to reduce their reliance on the sponsor and therefore reduce the pension scheme s exposure to a deterioration of the sponsor s financial position Predictability - The steady cashflows promised by insurers will be desirable for many trustees Administration costs When schemes reach a certain maturity, it will often be more cost effective to secure the benefits with an insurer rather than continuing to run the scheme. Employers: Risk reduction - Insurance solutions can be used to remove the risks associated with DB pension liabilities, e.g. investment, longevity, inflation and interest rate risk Strengthened balance sheet - Depending on the structure of the deal, the employer can transfer the responsibility for the pension liabilities to the insurer and remove the liabilities from the company balance sheet Tailored risks - Specific types of risk, such as longevity risk, can also be removed or reduced separately Cash cost stability - The future funding costs of an insured pension scheme are typically much more predictable and less volatile at future valuations. Insurance solutions for pension schemes 6

7 Section Insurance solutions available The market for insurance solutions for UK pension schemes is sophisticated and constantly evolving. New products and options are being developed all the time and in recent years, insurers have developed a range of solutions to help pension schemes meet their specific needs. Figure. below shows the amount of business written during 203 by the insurers in our survey, split between bulk annuities and longevity-only transactions: Figure.: Business written in bn Comp A Comp B Comp C Comp D Comp E Comp F Comp G Comp H Comp I Comp J Bulk annuity Longevity-only Medical underwritten bulk annuity EY insight In terms of business written, the market in 203 was relatively concentrated, with three major writers of bulk annuity business and two of longevity only business who write directly with pension schemes. However, this hides other trends, such as the development of the medical underwriting market. Insurance solutions for pension schemes 7

8 . Traditional bulk annuities Bulk annuity insurance policies are an effective way of removing pension risk and can be broadly split into two categories: Buy-in (or partial buy-in) the purchase of a bulk annuity contract that covers all or some of the pension payments. The contract is held as an asset of the scheme Buy-out the purchase of a bulk annuity contract that covers pension payments. Members are provided with individual annuity contracts removing the scheme s liability to pay pensions completely As shown in Figure.2, different insurers target different sizes of liabilities. The providers can be thought of as falling into two broad categories: Whole of market players companies who target all sizes of liabilities Providers who focus on a certain segment of the market (for example larger sized deals) The market for mid-sized deals is the most competitive with most insurers being willing to quote for deals between 50m and 500m in liabilities. Generally, there appears to be a competitive market for most sizes of deal however, it can be challenging to obtain competitive quotes for very small liabilities, depending on the capacity of the insurers who quote at those levels. Some insurers set minimum levels for liabilities and would only consider any deals above the minimum level. The size of liabilities that an insurer will be willing to take often varies and depends on a variety of commercial and economic factors. EY Insight When considering a bulk annuity transaction, it is vital to understand the insurers who operate in the market, the size of liabilities they target and the solutions they offer. Figure.2: What size of scheme liabilities are you prepared to write a (traditional) bulk annuity contract for? Number of responses Less than 20m 20m - 50m 50m - 00m 00m - 500m Greater than 500m Size of liabilities Insurance solutions for pension schemes 8

9 . Traditional bulk annuities (cont d) The majority of providers adopt a flexible approach to meet the specific needs of the client in order to help them achieve an optimal solution for their pension scheme. The table below shows some of the wide range of options offered by insurers for bulk annuity contracts, along with some issues to consider: Option What is it? Benefits/issues to consider Deferred premiums Delayed pension payments Exclude cover for deflation risk Full risk transfer Future accrual for active members Salary linkage for deferred members Profit sharing Progressive/staged risk transfer Option to fully insure members benefits but part of the premium will be payable over a specified future period to meet the employer/scheme s requirements. The trustees continue to make pension payments until the insurer takes over, i.e., delayed pension payments from insurer. The trustees decide on when the insurer starts making payments. Employer support will be required in the period where the scheme continues to make pension payments. Schemes insuring pension benefits typically protect against deflation risk, which arises when schemes are unable to reduce inflation-linked pensions when inflation is negative. Insurer takes on full responsibility for all pension scheme risks including data issues, GMP reconciliation, GMP equalisation, etc. Transaction where the ongoing accrual of liabilities for active members is insured. Transaction where salary linkage for deferred members is insured. Insurer makes payments to the trustees/sponsor if the experience under the contract is better than assumed in the insurer s pricing. A transaction completed in pre-determined stages, where liabilities are transferred across from scheme to insurer (possibly according price or funding related trigger points). This allows the employer/scheme to remove risk/volatility and lock into pricing at attractive market conditions. Further, companies can defer payments until they become more affordable and have more certainty over future contributions. This can also be structured to tie in with an existing Recovery Plan. This is a useful option for underfunded schemes; the later the insurer starts making payments, the lower the cost of the insurance. Insurers are likely to offer this option to schemes where the employer is unlikely to become insolvent during the period where the scheme makes payments. Insuring for deflation risk can be expensive due to a lack of liquidity in the swap markets and insurers in our survey have noted that excluding deflation pricing could reduce pricing by a reasonable amount (depending on the period that cover is excluded). Schemes should consider the state of their data and determine whether the additional premium payable for this option is worthwhile. The insurer is unlikely to accept the risk of the employer paying higher than expected salary increases. The insurers in our survey generally did not offer this option. This is a relatively unusual feature of transactions, though certain insurers may consider it on a case by case basis. This allows the employer/scheme to manage the work involved in such exercises in stages and also to transact when conditions are favourable. Insurance solutions for pension schemes 9

10 . Traditional bulk annuities (cont d) The range of options available vary by insurer and buyers should carefully consider the options available. In our discussions and experience of the pension de-risking market, insurers are happy to revise their proposition to meet the needs of the trustees particularly for larger schemes. Figure.3 shows how many of the insurers surveyed were willing to offer the options set out in the previous table: Figure.3: Which of the following options would you consider offering pension schemes when writing bulk annuity contracts? Deferred premium payments from schemes 6 Delayed pension payments from insurer 8 Exclude cover for deflation risk 8 Full risk transfer 6 Insurance of future accrual for active member liabilities 3 Insurance of salary linkage for deferred members with a salary link 0 Medical underwriting 4 Profit sharing if experience is better than assumed on pricing basis Progressive/staged risk transfer Number of responses EY Insight It is often thought that a scheme must be 00% funded for an insurance deal to be possible. One insurer noted that many of the flexibilities shown above will help address problems of affordability (for example, deferring part of a premium or excluding deflation cover from the contract). Insurance solutions for pension schemes 0

11 .2 Longevity only What is it? Longevity only transactions (often referred to as longevity swaps ) can be used to transfer the risk of scheme members living longer than expected to a counter-party (generally an insurer or bank). Typically, under a longevity swap: The pension scheme agrees to pay a fixed series of payments based on the expected benefits, including a margin to the counter-party for covering this risk The counter-party agrees to make payments based on the actual mortality experience The first longevity swap in the UK was carried out in Since then, several dozen deals have been completed and there are several providers who have shown an interest in writing business in this area. Figure.4 shows that there are potentially up to five providers who will write longevity only transactions. It should be noted at this point that we have only considered providers who have written longevity only business directly with pension schemes. We are aware that there are several more reinsurers who are willing to ultimately accept this longevity risk from schemes, but via a traditional insurer. We re also aware of at least one reinsurer that is establishing a direct insurer for this purpose. In a recent longevity transaction, one insurer reinsured its pension scheme using its own life company as the direct insurer. Although more complicated, this route would be open to other companies if they are prepared to set up a captive insurer to act as the direct writer. Figure.4: Do you offer longevity only deals? In certain circumstances No Yes 4 6 EY Insight Although longevity only transactions have generally been restricted to larger schemes so far, one insurer noted that a key business objective was to take longevity insurance to a much wider range of schemes. Deal size The chart below shows the minimum size of liabilities that insurers would be willing to cover as part of a longevity only transaction. Figure.5: For named-life longevity only deals, what is the minimum size of liabilities you would be prepared to transact on? 500m+ 300m 50m Number of responses As can be seen from Figure.5, providers still target larger liabilities (typically over 500m). Generally, deals for larger liabilities have been completed on a named life basis (i.e., the provider is insuring the longevity risk of the actual scheme population). However there is a push from some insurers to offer longevity swaps to smaller schemes. For example, one provider has developed an index-based solution specifically to target smaller schemes Number of responses Insurance solutions for pension schemes

12 .2 Longevity only (cont d) Deal structure Longevity only transactions can be structured in the following ways: Insurance contract insurance regulations and capital requirements apply for these contracts. Most of the longevity risk is passed onto the reinsurance market Derivative contract banking regulations and ISDA requirements apply for these contracts. In addition to being reinsured, longevity risk can also be passed on to capital market investors Figure.6 shows that most providers will only structure a longevity swap as an insurance contract, although one provider is currently willing to offer this as a derivative contract. Figure.6: How would you structure the contract for a longevity only deal? Derivative contract Insurance contract Number of responses Almost all of the longevity swaps that have been completed so far have covered current pensioner liabilities only. However, some providers are willing to cover deferred pensioner liabilities too (at least under certain conditions) see Figure.7. 5 Figure.7: Would you cover deferred pensioner liabilities as part of a longevity-only deal? In certain circumstances No Yes Number of responses The willingness to cover deferred liabilities ultimately depends on the terms offered by reinsurers. Generally, deferred liabilities will be more expensive to cover than pensioner liabilities, although this will depend on age for example it s possible that older deferred pensioners (near or at retirement age) may be available at a similar price to current pensioners. One of the perceived drawbacks to longevity swaps is that it can be difficult to buyout the scheme once longevity insurance is in place. However, most of the insurers surveyed said that they would consider insuring a scheme (through a buy-in or buy-out) that already had longevity insurance in place - see Figure.8. Exactly how this would be done would depend on the specific circumstances of the scheme but is most likely to involve novation of the existing longevity swap to the new insurer. Figure.8: Would you consider writing a buy-in or buyout contract for a scheme that already had longevity insurance in place? In certain circumstances 3 4 No Yes Number of responses Insurance solutions for pension schemes 2

13 .3 Medical underwriting What is it? Medical underwriting is well established in the individual annuity market but is a relatively new feature for the UK bulk annuity market. In a traditional buy-in, the insurer s pricing is typically based on readily available information such as age, pension amount, postcode, occupation, etc. With medical underwriting, the members involved in the buy-in are assessed in further detail so that the insurer obtains a more complete picture of their health and lifestyle, for example, whether the member smokes, if they have any illnesses such as cancer or diabetes, etc. Medical underwriting may (or may not) lead to a reduction in the insurer s price depending on how the member s actual health compares to the insurer s expectations. Insurers offering medical underwriting Currently, there are four insurers who provide medical underwriting for bulk annuity transactions. These insurers have carved out a niche in this area and their processes are becoming more streamlined as they gain more experience in carrying out medical underwriting for bulk annuity transactions. EY Insight One insurer noted that the use of medical underwriting can deliver a far more accurate price than under a standard bulk annuity contract. However, this can increase as well as decrease the price depending on the health of the scheme members. Figure.9: Do you offer medical underwriting for buyouts? When should schemes use it? Generally, an insurer will offer a lower price if the health of the underlying population is worse than the insurer would otherwise assume. Medical underwriting can be an effective option for: No, 7 Smaller pension schemes (fewer than 400 members) Subsections of larger schemes Yes, 4 Schemes where a small number of members make up the bulk of the scheme liabilities Schemes considering this option should have some insights into the health of their pensioner population. There may be data available which may flag up an unhealthy membership, for example, a high level of ill health early retirements. Medical underwriting is typically not used for larger numbers of members as the overall health for a larger population tends to become similar to the general population, i.e., unhealthy lives are balanced out by healthy lives. Insurance solutions for pension schemes 3

14 .3 Medical underwriting (cont d) Data collection There are different approaches to collecting the data for medical underwriting: Telephone interview with scheme members Questionnaire sent to members GP s report on health of members Some combination of the above may also be used (for example, a questionnaire followed by a GP s report where further information is deemed necessary). Whilst different insurers in this sector have different approaches, it is also possible to agree a consistent method where more than one quotation is being sought. Further considerations Insurers have noted that the average cost can decrease when medical underwriting is used. However, it could increase the price if the membership is healthier than expected. Further, once a scheme has received a medically underwritten quotation (even if it does not transact), this will need to be disclosed to any future insurer approached for a quotation. Most insurers in our survey noted that they would insure or consider insuring schemes that have previously insured some of their membership via a medically underwritten buy-in, as shown in Figure.0. However, use of such insurance, or even obtaining such quotes, can constrain the ability to insure the remaining liabilities. The impact on price is likely to depend on the specific characteristics of the liabilities that had previously been medically underwritten. EY Insight Based on the survey responses, having a previous medically underwritten quote will not necessarily make it impossible to later seek a standard annuity quotation. However, we would suggest that trustees/companies considering medical underwriting should initially have a reason to believe that this approach will be beneficial. In addition, most insurers would also insure or consider insuring schemes that received a medically underwritten quote but had not transacted. See Figure.. Figure.0: Would you insure a scheme that had previously transacted on a medically underwritten buy-in? In certain circumstances, 4 No, 3 Yes, 3 Figure.: Would you insure a scheme that had previously received a medically underwritten buy-in quote, but had not transacted? In certain circumstances, 4 Yes, 4 No, 2 In the cases where insurers are willing to insure a scheme that has previously received a quotation on a medically underwritten basis, this is likely to be reflected in a higher premium or at the very least greater due diligence by the insurer. Insurance solutions for pension schemes 4

15 .4 The Irish market Two of the insurers surveyed operate solely in the Republic of Ireland. Much like the UK, the Irish bulk annuity market has evolved from being almost entirely focussed on securing benefits for schemes in wind-up to also being used by trustees/sponsors to de-risk their schemes. Whilst the market for insurance solutions in Ireland is smaller relative to the UK, it has experienced significant growth over the last couple of years and business levels are expected to remain high into 205 as shown below in Figure.2. Figure.2: Expected size of bulk annuity market in Republic of Ireland bn Our survey showed that the two insurers were both open to insuring liabilities of most sizes within the Irish market as shown in Figure.3. EY Insight Bulk annuity Although smaller than the UK, the Irish market has grown significantly and is expected to continue to do so. Figure.3: What size of scheme liabilities are you prepared to write a bulk annuity contract for? (Irish responses only) Number of responses Less than 25m 20m - 00m 00m - 500m Size of liabilities A different market compared to the UK? There are some differences between the UK and Irish markets. Some of these differences arise from the fact that the two countries have different legislative frameworks. For example, there is no equivalent to the UK debt on employer regulations in Ireland. For this reason, companies in Ireland who choose to insure benefits arguably have more scope to restructure the benefits than their counterparts in the UK do. This has led to the innovation of products such as sovereign annuities (explained below) that do not exist in the UK. In addition, a scheme that is winding up can require deferred pensioners to take cash transfer values, rather than having to secure these benefits with an insurer as would generally be the case in the UK. Despite these differences, insurers may find opportunities to apply UK developed solutions to the Irish market. Greater than 500m Insurance solutions for pension schemes 5

16 .4 The Irish market (cont d) Sovereign annuities One key difference between the UK and Irish markets is that legislation recently introduced in Ireland permits the use of sovereign annuities by occupational pension schemes. Sovereign annuities are a form of bulk annuity where the payments are linked to the performance of specified government bonds. For example, in the case of a default by the government on its bond, this would be reflected in the payments made by the sovereign annuity too. Both insurers surveyed in Ireland offer sovereign annuities. For this purpose, the sovereign annuities are linked to Irish Amortising Bonds issued specifically for this purpose by the National Treasury Management Agency (NTMA) Due to the nature of sovereign annuities, a discount against standard pricing is typically available. This could be up to around 5-7% based on current conditions. It is worth noting that at points during 203, a larger discount against standard pricing was available. This was one reason why the majority of the business written in 203 was done via sovereign annuities. Due to this discount, often a higher proportion of a scheme s benefits can be insured than would otherwise be the case. Sovereign annuities can also be used to restructure the benefits of a scheme. Longevity only in Ireland Although longevity swaps are possible in principle, the insurers surveyed indicated that pension schemes in Ireland were generally too small to support a longevity-only market similar to that which exists in the UK. One insurer noted that they would consider writing a longevity swap but only if the liabilities were at least bn. There are very few schemes of this size in Ireland. Further, an insurer noted that there was a lack of published mortality data for Irish annuitants, and that additional data would be helpful in developing this market. Scheme funding considerations In March 204, the Pensions Authority issued revised guidance on scheme funding for Irish schemes. The new rules, which will require underfunded schemes to take definite actions to address ongoing deficits, may force more sponsors and trustees to look at the full wind-up option. We expect this change will increase the demand for buy-outs of pensioner liabilities. EY Insight A large proportion of the bulk annuity business written in Ireland is done via sovereign annuities. These offer schemes and companies additional flexibility when considering insured solutions. Insurance solutions for pension schemes 6

17 Section 2 Structuring a deal This section sets out some issues to consider when structuring a deal. CPI-linked benefits As a result of UK government announcements in 200, many pension schemes switched from Retail Price Index (RPI) inflation to Consumer Price Index (CPI) inflation for the purposes of statutory minimum pension increases in payment and deferment. Given the lack of CPI-linked financial instruments in the market, there is the perception that CPIlinked benefits are difficult to insure. In practice, the majority of insurers are willing to cover benefits linked to CPI inflation. However, whilst a margin of RPI-% might typically be used by schemes/sponsors for funding/accounting purposes, insurance is very unlikely to be available at this level. Insurers indicated that a margin of 0.2%-0.5% against RPI might typically be reflected in pricing. The margin will vary based on insurer and the price at which they are able to hedge the risk themselves. It is common for schemes taking out buy-in contracts to convert CPI linked benefits to RPI or fixed benefits where possible or simply to take out an RPI-linked contract with the option to convert at some point in the future. Pricing movements Once a deal has been agreed in principle, different insurers use different methods for updating the price to allow for changes in market conditions before deal completion. See Figure 2. opposite. The different approaches include linking the price to: A specific agreed index or formula A portfolio of gilts or swaps (which the scheme can also hold to immunise itself against adverse pricing movements) The price of the assets the insurer will use to back the liabilities Figure 2.: How does pricing move once a deal has been agreed in principle? Market conditions/agreed index Portfolio of gilts/swaps Backing assets Asset transfers All the insurers said that they would accept an in-specie transfer of assets, subject to being offered appropriate assets. Figure 2.2 shows the types of asset accepted. In some cases, the insurer would look to sell the assets, in which case a key criteria is liquidity. Generally, bond-like assets of an appropriate duration are most popular with insurers, i.e., similar to what insurers use to back the liabilities. Figure 2.2: Which assets would you accept for an inspecie transfer? Property Swaps Corporate bonds Government bonds Number of responses Number of responses Insurance solutions for pension schemes 7

18 Collateral Collateral is a common issue arising in buy-in insurance transactions. Typical collateral might involve the insurer ring fencing the premium paid on its balance sheet (so that it is available to the trustees in the event of the insurer becoming insolvent). Collateral is often viewed as attractive by trustees as it adds security. However, insurers will charge for this additional security and collateral arrangements can add complexity to the transaction process (e.g., legal costs). Figure 2.3 illustrates insurers view of collateral; almost twothirds of insurers are willing to offer collateral to a scheme. It should be noted that collateral is generally only available for larger deals (as a result of the added complexities). From the responses in our survey, generally insurers required the liabilities to be at least 500m for collateral to be offered as an option. As mentioned previously, most insurers will increase the premium charged if collateral is offered but the actual cost can vary significantly depending on collateral structure. Based on the responses in our survey, the cost can vary from 0.5% up to 4%. Figure 2.3: Would you offer collateral to a scheme as part of a buy-in? In certain circumstances, 4 Yes, 2 No, 4 EY Insight Trustees who take out collateral as part of a buy-in contract may find that this raises an issue when it comes to ultimately converting the buy-in to a buy-out. This is because the collateral will need to be relinquished as part of the buy-out meaning that in certain circumstances it could be viewed that moving to buy-out has actually reduced security for individual members rather than increasing it. Trustees should therefore consider this issue at the outset. Insurance solutions for pension schemes 8

19 Section 3 Characteristics of insurers This section concentrates on internal factors for insurance companies to the extent that they will impact on bulk annuity transactions. Insurer covenant We would always suggest that trustees/sponsors seek to understand the strength of an insurer when considering a bulk annuity or longevity only transaction. Insurers are subject to minimum capital requirements in order to ensure the security of any insurance contracts. The free asset ratio is the ratio of the insurer s assets to its liabilities where the liabilities are calculated using prudent assumptions. A high free asset ratio suggests a strong financial position where the insurer holds enough sufficiently high-quality assets to cover their obligations, and vice versa. In practice, most insurers hold more than the minimum requirement and the assets held are actually determined by the insurer s risk appetite The average free asset ratio was around 200% from our survey responses (with the highest responses received being over 300%). It should be noted that this is a relatively crude test of financial strength given the deficiencies of the Solvency I regime and we would recommend that due diligence on the insurer is carried out. Figure 3.: What is your free asset ratio (based on latest FSA returns)? Over 300% 250% to 300% 0 Reinsurance Insurers in most lines of business use reinsurance to reduce their risks. The level of reinsurance will be determined by the insurer s risk appetite and the terms offered by reinsurers. Insurers are likely to include an allowance for reinsurance costs in the pricing of their products. Figure 3.2: How much longevity risk do you typically reinsure? Less than 50% 50% to 75% Over 75% Not disclosed From our survey, there is wide variation in the amount of longevity risk that insurers reinsure - see Figure 3.2. The average amount of longevity risk reinsured was 43% (with a corresponding median of 65%). From a trustee perspective, the key consideration is whether the availability of reinsurance is key to the deal. In our experience, the initial quotation is generally not subject to reinsurance. It is only the larger deals that are the possible exception to this (e.g., greater than billion) Number of responses 4 200% to 250% 4 50% to 200% Insurance solutions for pension schemes 9

20 Section 3 Characteristics of insurers (cont d) Team size The pension insurance market has existed for many years and the main insurance providers are well-established companies. The survey respondents imply that pricing team sizes tend to fall into two broad categories: larger teams of at least 30 people and smaller teams of less than 0. It is interesting to note that some insurers are also willing to outsource pricing to support deals if required. Solvency II for insurers Solvency II is scheduled to come into effect on January 206. One of the main impacts will be the amount of capital insurers must hold to reduce the risk of insolvency. The majority of survey respondents confirmed that they do not anticipate significant changes to their pricing following the introduction of Solvency II. In other words, the current understanding of Solvency II is factored into pricing. and for pension schemes? There has been much discussion over recent years about whether Solvency II will be extended to cover pension schemes in the UK. The latest draft of the Institutions for Occupational Retirement (IORP) directive released by EIOPA sets out certain requirements for pension schemes taken from the Solvency II regime for insurers (for example covering disclosure and risk management requirements). The most controversial proposals around introducing Solvency II style funding requirements for pension schemes were not included. However, there is a reasonable chance that such requirements will be introduced by EIOPA in the future. If this does materialise, we would expect to see a large increase in interest for full buyouts by pension schemes and sponsors as this will be seen as preferable to running schemes subject to such prudent funding requirements. EY Insight No significant step change in pricing is expected with regard to the introduction of Solvency II for insurers. However, Solvency II capital requirements for pension schemes could fundamentally change the market through a large increase in demand. Insurance solutions for pension schemes 20

21 Section 4 Insurers market outlook Figure 4.: Expected size of UK market (average from insurers in survey) bn EY Insight Bulk annuity Longevity-only.0 One insurer expressed that they would like to write as much business as they can, as long as the price is right and it fits their risk profile. UK The insurers surveyed currently hold 55bn of bulk annuities on their books. However, we estimate that this only represents 3% of total DB liabilities in the UK. This suggests that there is a significant opportunity for growth in this area. There is a general consensus from the insurers that the size of the UK bulk annuity and longevity market will each be around 0bn over the next 2 years, with some modest growth from 204 to 205. It is worth noting that since the survey was completed, several large bulk annuity and longevity deals have been announced which could mean that the market in 204 will be even larger than shown. These views suggest a positive outlook for the UK buyout market in the short to medium term, and reflects the strong demand for buyout solutions from private sector DB pension schemes. Most companies participating in our survey did not disclose their sales targets for 204, but did note a large appetite for deals. Some insurers suggested that ultimately the size of the UK market is constrained by the availability of longevity reinsurance. 204 Budget In his March 204 Budget speech, the Chancellor announced that individuals retiring from DC schemes would be able to take all their funds as cash at their marginal rate of taxation. This is likely to have a significant impact on individual annuity business written by insurers. Several of the insurers who participated in this survey also write individual annuities. If demand for individual annuities reduces significantly, these insurers may choose to place more emphasis on their bulk annuity business which could lead to a more competitive bulk annuity market. Insurance solutions for pension schemes 2

22 4. - Top business issues for insurers Figure 4.2: What are your key business issues? EY Insight 6 Transaction process Asset transfers Data 2 2 It is sometimes thought that data must be perfect for a transaction to go ahead. In our experience and from conversations with insurers this isn t the case and there are options available where concerns exist over the data. 6 6 Client solutions Expansion into other countries Other We also asked insurers to comment on the top business issues that affect them. The responses can be broadly put in the following categories: Solutions -There was a strong focus from insurers to develop client-specific solutions to help both trustees and employers achieve de-risking objectives. In particular, firms emphasised a willingness to transact with underfunded schemes and could provide a range of options to make a transaction more affordable, e.g., underwriting, deferral of premiums, using illiquid assets or implementing trigger monitoring. Firms also expressed a desire to provide longevity insurance to a wider range of market participants (currently, this is mainly offered to larger pension schemes). Transaction process - Given the complexity, time pressure and costs involved in these transactions, it is essential that advisors ( for example actuarial consultants and lawyers) and insurers work together co-operatively to ensure an efficient and pragmatic process. Some insurers will notify advisors when there is an opportunity to transact within their client s budget. Further, some firms are selective with who they choose to quote with and might only quote on deals with a high likelihood of completing a transaction. Data - Having good data (including an accurate benefit specification) was a key emphasis for most of the insurers in our survey, as poor quality data can delay transactions. However, it was noted that the data did not need to be perfect in order for a transaction to be successful. Asset transfers - Some firms also noted that asset transfers from existing fund managers can be challenging, particularly with the increase in new business premiums. Firms with an inhouse investment management function are generally better equipped to deal with asset transfers. Expansion overseas - There were firms who are seeking to apply the expertise gained from the UK de-risking market into other countries. Specific territories mentioned include Jersey, Channel Islands, Netherlands, USA, Canada and Europe. Other - Irish insurers also noted that there was a lack of published mortality data on Irish annuitants. Additional data could help reduce margins and make pricing more affordable. Insurance solutions for pension schemes 22

23 Contact us For further information or an informal discussion about the insurance market for pension schemes, please contact one of our team listed below. Alternatively, please visit EY client contacts EY insurance specialists Iain Brown Partner Tel: Mobile: Sean Bottomley Director Tel: Mobile: Andrew Stoker Partner Tel: Mobile: Christopher Bown Director Tel: Mobile: Vicky Paramour Senior Manager Tel: Mobile: Christian Maleedy Manager Tel: Mobile: Matthew Mignault Senior Manager Tel: Mobile: Adam Poulson Senior Manager Tel: Mobile: Kenny Cheng Executive Tel: Mobile: Philip Wheeler Senior Manager Tel: Mobile: pwheeler@uk.ey.com Robert Heaton Senior Manager Tel: Mobile: rheaton@uk.ey.com Melanie Xu Executive Tel: mxu@uk.ey.com Insurance solutions for pension schemes 23

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