Top 5 PRT trends for 2023
Aysha Patel, New Business Origination Lead at Legal & General, shares her top five trends that are set to shape the pension risk transfer industry in the new year and beyond.
In the UK, the race for the traditional Christmas number one spot seems to have lost much of its lustre in recent years judging by the annual exultation of sausage rolls. If we cast our minds back two decades, you may recall that Michael Andrews and Gary Jules upset the bookies in 2003 by pipping The Darkness to the top of the charts with their haunting cover of the Tears For Fears classic, ‘Mad World’. It may be almost 20 years later but that song title certainly resonates in 2022.
This year continued volatile financial markets – reflective of ongoing geopolitical and economic uncertainty – have seen interest rates rise and credit spreads widen, contributing to hugely improved funding levels that have greatly accelerated the journey to buyout for many pension schemes. Almost half of pension schemes are now 90% funded or above. LCP recently projected that this will translate into rising market volumes, with the potential for over £200bn of demand over the next three years.
In 2022, Legal & General, the UK’s longest standing bulk annuity provider, celebrated 35 years in the market. As we approach the festive period, we’re pleased to share our own top five trends that are set to shape the industry in the new year and beyond.
1. A shift towards full scheme transactions
We expect to see a shift in transaction structure from partial buy-ins to full scheme buyouts, as many schemes can now afford to fully insure their liabilities. An illustration of this point: around 18% of schemes were estimated to be fully funded as at 30 September 2022, compared with around 5% the year prior. Furthermore, during the period of volatility following the "mini-budget", some schemes needed to raise liquidity to meet collateral calls linked to their liability driven investment (LDI) portfolios which meant selling assets at a time when prices were being driven down. Schemes have historically used excess gilts that they didn't need for LDI collateral to fund partial buy-ins. However, it's likely schemes will now value their liquidity more highly and be less inclined to use any excess to fund a buy-in - instead choosing to self-hedge before full buyout.
2. A return to mega deals
With full buyout increasingly affordable, the market is eagerly anticipating the return of multi-billion-pound transactions. 2019 was dominated by six transactions over £2.5bn but since then we have only seen two in total. This is almost certain to change in 2023.
We’re increasingly seeing larger schemes adopt a partnership model in their approach to the market, where they work collaboratively with an insurer in an open and transparent way to achieve their buyout goal. In this model, the insurer and the scheme benefit from greater execution certainty and the ability to work dynamically to take advantage of pricing opportunities when they arise. Even if schemes opt for a traditional auction approach, in a busy market it will be important for schemes to working closely with insurers before they come to market to ensure they get the best outcome.
3. Bespoke solutions to help schemes manage their asset strategies
Innovation across the market can help schemes to accelerate their de-risking journey. For example, a scheme's existing journey plan may have timed the runoff of illiquid assets with the expected timing for full buyout funding. Given recent events, many schemes are now finding that they have reached full buyout earlier than planned but still have a significant illiquid asset holding. Insurers are looking at how they can support schemes to achieve buyout using the illiquid assets in a cost-effective way – from accepting these in-specie as part of the premium payment to allowing schemes to defer part of the premium to coincide with the redemption or run-off timeframe.
A significant proportion of schemes are also still on their journey to buyout. For these schemes, reviewing their asset strategy and considering how this compares to an insurer’s strategy is an important step in planning their journey. They can then work with their advisors and investment managers to implement a dynamic hedging framework to capture favourable market movements and lock in gains in the buyout funding level. It is important to remember that every scheme is different and there’s no one size fits all when it comes to de-risking so schemes will need to work with their advisors and insurers to navigate the best route.
4. Standardisation and streamlining to create opportunities for smaller schemes
As demand has surged over the last five years, the headlines have been dominated by larger transactions. However, with close to 75% of UK DB pension schemes having assets of £100m or less - there is clearly huge demand from small and mid-sized schemes. In a busy market, these schemes may feel crowded out or find it more challenging to get insurer engagement. We have a streamlined small scheme proposition to make the process more efficient for this area of the market and we continue to focus on making the process more efficient as projected demand increases.
5. Preparation is key to ensure pension schemes are 'transaction-ready'
With more schemes approaching the market than ever before, insurers are unable to quote on all transactions so it’s vital for schemes to stand out. Schemes that can demonstrate that they are ’transaction-ready’, with clear objectives and efficient governance, will be best equipped when we're considering their case alongside scores of other requests. To help with this, we have created a simple step-by-step guide, on how to secure DB pensions in a crowded market.
Alongside other insurers in the industry, we are stepping up to the challenge to increase capacity. We’re hugely excited for the years ahead but would emphasise that preparation is paramount. To conclude where we started: “When people run in circles it's a very, very mad world” - and in the context of the current market environment, getting the engagement right between trustees, sponsors, advisers, and insurers will be the surest route to a successful outcome.