PRT demand 'accelerating'; trustees urged to lock in funding improvements

Defined benefit (DB) pension scheme trustees have been urged to lock in funding improvements “as soon as they can” following the market volatility seen in the past week, with demand for pension risk transfers (PRT) "accelerating".

Speaking to Pensions Age, Mercer partner, James Brundrett, explained that recent market volatility triggered significant improvements in pension schemes’ funding level on a solvency basis, with clients who were five years away from buyout “now in touching distance”.

Indeed, the latest industry trackers showed that UK DB pension scheme funding levels have improved significantly amid recent market volatility, following to an 'unprecedented' increase in gilt yields.

“So all of a sudden there has been a huge rush with schemes looking to get quotes for a bulk purchase annuity,” Brundrett continued. “But those insurers are chockablock now; they were busy before and now they're even busier.”

According to Brundrett, this has left some schemes having to wait until next year for a potential quote from insurers.

However, Brundrett suggested that pension scheme trustees should “press ahead anyway”, encouraging trustees to get into a price lock “as soon as they can”.

“Pension trustees should also be trying to lock into that position by de-risking and getting their portfolio to a liquid place, because it's hard to transact with illiquid assets,” he added.

This is echoed by LCP partner, Charlie Finch, who stresses that, in the current market, it is more important than ever to do the right preparation ahead of approaching insurers.

"Otherwise the insurers will simply focus their limited resources on other more attractive opportunities and any quotations received risk being disappointing," he warned, raising concerns that insurers may face capacity issues.

"Many of the insurers already have an extensive pipeline of new business with limited capacity to take on more quotations," Finch explained.

"They have been recruiting heavily in recent months but, even taking this into account, I do not expect insurers to have the resource to quote on all of the opportunities that will come to market over the next 12 months."

Hymans Robertson senior risk transfer consultant, Iain Pearce, Senior Risk Transfer Consultant, painted a more mixed picture, predicting that some transactions in the de-risking market will accelerate as a result of the volatility, while others will slow down.

“Schemes close to buy-out that are well hedged with low levels of leverage may be well placed to weather current market volatility, but may need to refresh their analysis following the material changes in markets," he explained.

“Pension schemes looking to insure a proportion of their liabilities will also need to take another look at their portfolio after the current volatility, which may result in some decisions to reduce the size or defer planned buy-ins.”

However, Pearce also clarified that while insurers have been impacted by the volatility following on from the mini-Budget, they have proven more resilient to the market movements.

“Schemes can take comfort knowing that the Solvency II Matching Adjustment regime effectively requires insurers to adopt a “buy and hold” cashflow matching strategy and some are likely to have seen an improvement in their solvency coverage ratios,” he continued.

“As is often the case, insurers are expected to have been more resilient to market movements than typical pension scheme portfolios.”

Indeed, Legal & General published a trading update following the market volatility, stating that despite the prevailing macro conditions and a "significant" increase in volatility in H2, there has been a “limited economic impact” on L&G businesses.

In particular, the group said that its annuity portfolio has continued to perform well, with demand for global PRT “accelerating”.

“Despite volatile markets, the group’s annuity portfolio has not experienced any difficulty in meeting collateral calls and we have not been forced sellers of gilts or bonds,” it stated.

“One of the strengths of the UK insurance regime is that we regularly monitor and stress our capital and liquidity requirements to a 1 in 200 stress level so that we can withstand shocks like we have seen in the past few days.

“We hold considerable buffers over these prudent requirements and have a wide array of tools available to manage collateral calls – for example, being able to post a variety of different types of assets, or assets in different currencies, as collateral.”

The impact is already being seen in market activity, as L&G confirmed that it has transacted or is in exclusive negotiations with a further £1.3bn of PRT since H1, including two transactions signed last week, taking the total written year to date to £5.8bn.

More broadly, L&G explained that while recent increases in interest rates, and the unprecedented speed of those increases, caused challenges for the pension fund clients, the Bank of England’s intervention has “helped to alleviate the pressure” on clients.

“We are continuing to work closely with them to achieve appropriate hedging levels in their portfolios,” it stated. “LGIM acts as an agent between our LDI clients and market counterparties and therefore has no balance sheet exposure.”

L&G group chief executive, Nigel Wilson, added: “Our businesses are resilient, and we are on track to deliver good growth in key financial metrics for FY 2022.

"Rising interest rates are having a positive impact on demand for PRT, and on our EPS and solvency coverage ratio. Our balance sheet and liquidity position remain strong, and our businesses are highly cash generative.

"We continue to work closely with our customers to support them through this period of increased market volatility.”

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