Investment strategy must be handled with care when it comes to buy-ins, particularly when it comes to managing inflation risk, says Mercer.

The financial consultant has made the warning following its turn as investment consultant in the Dairy Crest pension fund's purchase of a second bulk annuity to insure the balance of liabilities for pensions in payment.

Kevin McLaughlin, principal at Mercer's financial strategy group, warned that while removing pensioner mortality risk through a buy-in, they could leave themselves exposed to other risks such as inflation and interest rate changes. "Getting the deal right involved a lot of detailed work on the Fund's investment strategy. As a buy-in deal involves a transfer of a large amount of assets, it can have knock-on impacts for the overall investment strategy.

"While the buy-in policy removes a lot of interest rate, inflation and mortality uncertainty associated with the pensioner liabilities, Mercer worked with the Trustee to put in place an appropriate investment strategy for the non-insured deferred liabilities. Of primary concern was to ensure that sufficient long-term inflation cover was in place."

Mercer said companies must be aware of exposing themselves to these risks. "For example, many funds are holding long dated inflation-linked bonds which provide protection for the longer-term deferred member liabilities. This protection is lost if the assets are transferred," McLaughlin explained.

He added that recent activity in the buy-in market did not fulfil its potential as some deals had been put on hold due to companies failing to align their asset strategy with a targeted buy-in objective.

"The schemes that have been successful in completing a pensioner buy-in deal in recent months have recognised the investment strategy issues and made appropriate asset allocation changes in the lead up to implementing a pensioner buy-in."

- Pensions Age June 2009

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