Tipping point

Ever since the appearance of the now defunct specialist insurers Lucida and Paternoster back in the heady pre-credit crunch days of 2006, regular predictions have been made heralding a period of frenzied activity for the bulk annuity market. And they have always fallen flat.

Last year’s significant increase in placed business, which saw £7.8 billion of bulk annuities placed on insurers’ books, almost matched the record set in 2008 of £8.1 billion, but hardly set the world alight in terms of the amount of actual recorded deals.

This year however, it looks as if the market has finally turned a corner, thanks to two events that took place in March.

The first of these was Chancellor George Osborne’s scrapping of compulsory individual annuity purchases in the Budget, which hit insurance companies’ shares and left many of their board directors wide awake at night contemplating the implications. The second was the announcement by Legal & General, which bought Lucida last year, of a buy-in arrangement with the ICI Pension Fund. Encompassing £3 billion worth of pensioner liabilities, it was the largest ever policy of its kind.

Both announcements have lifted the confidence that defined benefit pension schemes and their sponsors have in finding a suitable bulk annuity de-risking settlement.

Speaking about the surprise budget statement, Aon Hewitt senior partner and head of risk settlement Martin Bird says that the amendment to retirement rules has given insurers a serious jolt.

“What we’ve seen is that those insurers who had a big line of business writing individual annuities have said that they have now got significantly more interest in the bulk annuity market,” he says.

“And some that only had an appetite to write very small bulk annuities have now suddenly increased their size. If you take Aviva, they only used to quote to about £50 million and now they’re up to £200 million. And that’s as a direct consequence of the Budget.”

The shockwave sent through the industry by Osborne has also sped up the route for aspiring new entrants into the market, according to Rothesay Life head of business development Guy Freeman.

Specialist medical underwriters, such as Partnership, have already been looking at how they can adapt their individual impaired annuity products to a group scheme membership setting, and the revolution instigated by the Treasury will see them accelerate such plans.

“We would expect new entrants to start offering insurance to smaller schemes. It is a natural place to start in switching from individual annuities to bulk annuities,” says Freeman.

Given this new focus from providers, the consequent competition for business is set to make bulk annuity solutions a lot more attractive.

“Bulk annuity pricing is competitive at the moment and back at the levels of 2007 when the market really exploded,” says Bird.

The impact of the ICI transaction has been more nuanced, but could be just as important in helping transform the de-risking landscape, says Xafinity commercial director Ben Bramhall.

“The ICI deal has highlighted buy-in as a possible solution for larger schemes,” he says. “Before it there was a view that it wasn’t possible to do a buy-in transaction above a certain size, perhaps a billion or so. And ICI have shown that isn’t the case. They have opened it up.”

Better backing

As Legal & General head of bulk annuities and longevity insurance Tom Ground points out, the reason the larger schemes such as ICI can now come knocking on their door is down to greater experience and a broad skillset, as much as anything else.

“To develop the arrangement we leveraged both our 27 years’ experience in the bulk annuity market with our ability to transition assets using our investment management capability,” he says.

Bird says deals of a similar size to the ICI one could become more commonplace due to the implementation of specific collateral and security in the background.

Whereas most bulk annuity deals are unsecured, relying as they do on the strength of a single insurer, future ones will be able to take advantage of the reinsurance world’s ability to underwrite very large syndicated transactions.

Trustees of larger schemes can rest easy therefore, knowing that they are not only working with a strong insurer, but that they also have earmarked assets sitting in an escrow account, in some cases.

“If you’re someone like ICI and you’re paying £3 billion you want to make damn sure that your insurer coughs up the money,” says Bird.

No bottleneck

The concerns about the market’s ability to cope with a spike in interest in buyouts and buy-ins, now a distinct possibility following March’s seismic shift, have also been once again raised among some observers. But there does not appear to be much anxiety floating around about a squeeze on capacity.

Freeman says that – in the short-term at least – there is no significant risk of a restriction in supply. While there are currently fewer providers in the market than back in 2006, he maintains that competition remains strong for pension funds that have prepared well and are ready to transact.

“We have a strong appetite to write new business and that appears to be the case for our competitors,” he says.

From Legal & General’s perspective, says Ground, an increase in enquiries has all been planned for, as can be seen by the company’s recruitment drive over the last 12 months.

At the other end of the scale, Bird cites the imminent entry of players such as Partnership into the market as evidence that there should be no problem in accommodating smaller schemes who wish to de-risk.

Faster, smarter, easier

The confidence being shown by providers in meeting a wave of new demand stems, in no small part, from an improved ability to carry out transactions.

Bird has observed how some of the best ideas in investment banking have filtered through into the insurance world. As a result, providers have become far happier when putting together structured transactions that involve the movement of many assets.

Deals are speeding up as well. Last year’s Pension Insurance Corporation completion of the £1.5 billion EMI group pension fund, which saw the transfer of every member to its books, took place in record time and may become a common occurrence before too long.

As Bramhall explains, this ability to transact quickly is also due to the availability of better pension scheme asset and liability tracking tools.

“One of the problems before was that a lot of processes would start but never went through into a transaction - after taking up to six months sometimes - due to the pricing changing over the course of negotiations,” he says.

Now however, with real-time information at their fingertips, trustees and their advisers are able to track a scheme’s assets and liabilities in a far more accurate manner.

“So even if market conditions remain volatile as they still are now, funds will be better positioned to take advantage of the short-term positions than they have been in the past,” he adds.

This growing sophistication has meant that a much higher percentage of schemes also complete the buyout or buy-in process now, says Ground. He estimates that some 30 per cent of schemes reach the finishing line now. Not too long ago that figure would have been between 10 to 15 per cent.

Providers have also become a lot more eager to please.

“Insurers have been increasingly flexible,” says Bramhall. “They’ve been making buyouts and buy-ins more accessible to more schemes by doing things like deferring parts of the premium.”

Along with very favourable pricing and rising pension fund solvency levels, all of this points to not only the possibility of a record-breaking year for bulk annuities, but a sustained period of de-risking, encompassing the entire spectrum of private sector DB schemes.

“Every indicator says that the market will grow now,” says Bramhall. This time around, such confidence seems anything but misplaced.

Marek Handzel is a freelance journalist

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