A growing number of large pension risk transfer deals in the U.K. and U.S., coupled with an anticipated influx of deals across both markets, have left industry executives split over the potential for a capacity crunch.
Some market participants are worried the reinsurance market, which ultimately takes on the majority of liabilities taken off plan sponsors' balance sheets through buyouts, buy-ins or longevity swaps, will struggle to cope with demand for an increasing number of transactions.
“Last year's buy-in and buyout business volumes (in the U.K.) were around £8 billion ($13.5 billion),” said Jay Shah, London-based co-head of origination at Pension Insurance Corp. Ltd. “That represents about 0.5% of the total £1.5 trillion of final-salary (pension) liabilities in the U.K. private sector. It wouldn't take a lot — if that became 1% or 5% — before we start to see capacity constraints coming into play,” he said, because insurance companies writing the business have to hold solvency capital against the transferred risk.
The concern is that capital and other resources, such as executives with the right expertise, at the longevity reinsurers, will not be sufficient to cope with this increased demand.
With £70 billion and counting of longevity risk transferred by U.K. pension plans since 2008 — including a record deal by London-based Aviva PLC in March to transfer £5 billion of risk to three reinsurers — “a supply-and-demand tipping point is expected to be coming soon,” said Suthan Rajagopalan, London-based principal, financial strategy group at Mercer Ltd. “What happens when the longevity reinsurance market hits capacity? Prices may well go up.”
Reinsurance firms are also concerned. “Reinsurers have large mortality books, which to date have provided capacity,” said Martin Lockwood, London-based head of longevity at reinsurance company Munich Re — one of the reinsurers in the Aviva deal in March. “But as there is over £1 trillion in the U.K. of defined benefit liabilities, (and) a further trillion in Canada and Holland, it is likely capacity will become an issue. Additionally, we are seeing increased demand/interest from insurers in several jurisdictions. We would imagine the introduction of Solvency 2 (capital requirements rules) will only further increase this.”
However, other executives working in the risk transfer market disagree. Matt Wilmington, partner at Aon Hewitt in London, thinks the volume of transferred assets is merely “a drop in the ocean relative to available capacity. There is a lot of capacity in the market. The global reinsurance market is now happy to take on billions of liability at a time for these deals.”
The bigger deals that have taken place across the globe are proof that capacity is not an issue, said Amy Kessler, Woodbridge, N.J.-based senior vice president and head of longevity reinsurance in Prudential Financial Inc.'s retirement business. “A lot of things have changed in the last two or three years — after General Motors Co. (which transferred $26 billion of pension obligations to Prudential in 2012) and Verizon Communications Inc. (which transferred $7.5 billion of pension obligations to Prudential in 2012) in the U.S., it became evident to the U.K. market participants that the global reinsurance community had more capacity to reinsure the transactions in the U.K than people thought,” she said.
Progressively larger deals in the U.K., she said — citing Aviva's £5 billion deal and London-based ICI Pension Fund's £3.6 billion transaction with Legal & General PLC and Prudential Retirement Income Ltd. — show “there is not a meaningful constraint at this point.” And any threat of constraint is likely to ease given that “companies from places as far as Southeast Asia are beginning to think about putting their capacity into the mix for longevity insurance in the U.K.,” she said, and that changes in U.K. financial rules should encourage new entrants.
