UK life insurers are expected to increase pension exposure from corporates looking to offload risks in their existing defined benefit schemes as well as from a new government initiative to automatically enrol all employees in a company pension scheme, according to Fitch Ratings.
Pensions are an opportunity for growth for life insurance companies, in an industry that has seen net outflows every year for the last 10 years. The retail distribution reform, which bans insurers paying independent financial advisors a commission, is likely to trigger a further drop in sales in other savings products.
Pension deficits at UK corporates are increasing because of low interest rates. The actuarial consultant Lane, Clark and Peacock is expected to say tomorrow that the cumulative deficit of 83 of the FTSE 100 companies more than doubled to GBP41bn from GBP19bn in 2011, according to the Financial Times.
Life insurance companies’ involvement in pension funds has largely been through either buying out the scheme and transferring all the assets and liabilities to the insurer or simply insuring the liabilities. In addition to these methods we expect to see an increase in corporates insuring particular risks, the most important being exposure to increases in life expectancy.
Pilkington, ITV, Rolls Royce and AkzoNobel have all hedged their exposure to increases in life expectancy through longevity swaps. Banks compete with insurance companies in this sector because the transactions are large enough for banks to syndicate the risks to their clients. We expect insurance companies to write more of this directly as average contract size shrinks and pricing becomes more uniform.
The longevity swaps offer significant administration fees and premium for insurers. This is usually shown as an immediate increase in the corporate pension fund’s liabilities. For example, when ITV entered a longevity swap on GBP1.7bn of its pensions, the result was an increase in liabilities of GBP50m – or about the equivalent of a one-year change in life expectancy.
Insurers’ involvement in the UK government initiative to offer a defined contribution pension scheme to all UK employees is likely to involve significantly larger volumes of assets but be only marginally profitable. The number of people in the UK with a defined contribution pension scheme is expected to rise to 16 million from 7 million as a result of the initiative, according to the Pensions Policy Institute. Most of these schemes are likely to be simple and pay a minimal fee to a third party for running the pension.