The UK has led the charge on insurance based de-risking solutions, but there’s a capacity crunch around the corner, finds Sara Benwell

“We are the pioneers,” said Amy Kessler, head of longevity risk transfers within Prudential’s pension risk transfer business. She was addressing an audience of practitioners, academics and policy makers at the 12th annual international longevity conference in Chicago. 


There’s danger ahead

She was talking about the decade of innovation in insurance, which has created a vibrant market with new solutions to help jumbo schemes de-risk.

Such innovations have been gladly welcomed by companies across the globe. DB pensions schemes are a volatile liability sitting on corporate balance sheets, so most financial directors would jump at the chance to hand them over to an insurance company if the pricing was right.

This quest to sort out DB liabilities is why there has been more than £280bn in pensions risk transfer in the UK, US and Canada alone.

The growth of longevity de-risking, according to Kessler, is as a result of three key trends:

1) Customisation and capacity

2) International spread of UK trends

3) Support for companies to achieve their aims, whether that means multiple transactions or global de-risking

She points to the companies that have managed to do global de-risking deals simultaneously (something she calls “shooting the moon”) as evidence of the new ways that companies are managing to de-risk their schemes. The Phillips scheme took this a step further by breaking down their US scheme into three different transactions with different insurers to get better pricing.

Meanwhile, in Canada, Sun Life brought together two separate companies with divergent (and tricky) risk profiles to create transactions that were complementary. Kessler explained: “Each on their own would be difficult to hedge, but there was alchemy in closing the two transfers together.”

She also pointed to the creation of longevity swaps in the UK (since adopted in Canada) as another innovation to deal with the growing problem of longevity risk.

There was alchemy in closing the two transfers together”

In fact, innovation has been so successful that Kessler believes that there is a solution for every scheme’s needs. “The UK market now has a complete set of longevity risk transfer solutions for jumbo pension schemes,” she explained.

But there’s a cloud on the horizon and it’s a dark one. The insurance and reinsurance market no longer has the capacity to meet the demand from schemes to de-risk.

The problem is stark. Hymans Robertson predict that there will be £350bn of demand from UK pension schemes alone, which would exhaust three quarters of the global demand. Meanwhile demand for insurance-based de-risking continues to grow in the US, Canada and Europe.

But Kessler is a woman on a mission – and she believes she has the solution the capacity crunch problem facing the insurance market.

Meet sidecars – not a cocktail (as I initially thought) – but an innovation in the property and catastrophe reinsurance market to make more capacity available where insurance and reinsurance markets cannot bear the load.

This is a solution that has sprung up in Bermuda, which gives capital investors (like hedge funds) access to diversified risks (like hurricanes).

The alternative is a world where insurance based de-risking suddenly looks very expensive”

Kessler believes that this solution can be adopted for the longevity market and provide more capacity for insurance-based de-risking – which would be good news for schemes.

There are a number of challenges, however, not least the aversion of many investors to take on long dated risk. However, small strides have already taken place. One annuity-based deal has already worked with a sidecar solution – although there wasn’t much longevity risk involved.

A panel of experts including Kessler argued that the solution was imminent, with everyone agreeing that we should expect the first deal within five years, and one academic stating that he would be very disappointed if there wasn’t $10bn worth of deals in that timeframe.

But Kessler believes the industry needs to work together if the solution can be brought to market. UK DB schemes will be hoping the insurance market can do this, particularly since the alternative is a world where insurance based de-risking suddenly looks very expensive. 

Financial directors will be even more keen, after all the problems faced by BHS and Tata Steel in recent months demonstrate just how dangerous DB pension liabilities can be.