U.S. corporate pension plans have reached a sweet spot in their derisking journeys that will enable them to pull the trigger on pension risk transfer transactions, including plan terminations.
Their funding levels have risen primarily due to rising interest rates that are lowering pension liabilities even as plan assets have fallen due to the challenging return environment that has characterized the first half of 2022.
"For corporate pension plans, this what they've been waiting for, for years," said Michael Moran, New York-based senior pension strategist at Goldman Sachs Asset Management, in a phone interview. The closer a plan is to being fully funded, the more cost-efficient a buyout transaction is because premiums are dependent on the ratio of assets to liabilities.
During the second quarter, the Moody's Aa corporate bond yield, which is often referenced as a proxy for pension discount rates, increased 95 basis points to 4.49% as of June 30. As a result, the value of aggregate pension liabilities among S&P 500 companies with defined benefit plans fell about 11.1% during that quarter alone, according to estimates from Goldman Sachs Asset Management.
According to Mercer LLC, the monthly estimated aggregate funding ratio of defined benefit plans sponsored by S&P 1500 companies totaled 102% as of July 31, up from 93% a year earlier.
Matt McDaniel, Philadelphia-based partner in Mercer's wealth business, said in a phone interview that the pension risk transfer market shows no sign of slowing down.
The first half of 2022 saw at least 204 buyout transactions totaling $17.1 billion in volume, compared to 128 buyout deals totaling $8.7 billion during the first six months of 2021, according to a midyear report from Aon PLC.
It represents a record transaction volume for the first half of any calendar year. PRT transaction volume traditionally increases in the third and fourth quarters of any given year.
"There's a lot of activity in the pipeline," Mr. McDaniel said. He noted that there are a couple of larger deals out in the market right now, and a record level of volume is possible this year if those close before Dec. 31.
U.S. corporate pension plan buyout sales totaled $34.2 billion in 2021, the highest volume since 2012, according to the LIMRA Secure Retirement Institute.
Mega-deals by General Motors Co. and Verizon Communications Inc. made up the majority of the total $36 billion in buyout sales in 2012.
Ari Jacobs, Norwalk, Conn.-based senior partner and global retirement solutions leader at Aon, said in a phone interview that the U.S. market remains robust.
"Insurers are very engaged in this market, there are new insurers entering the market, advancing solutions in the market. That part of it is robust," Mr. Jacobs said. "Plan sponsors are continuing to look for ways to settle risk differently, to look at PRT transactions either for their retiree populations — the more common approach — or broader populations all the way up and through plan terminations. The interest level on both sides remains high."
Among the new insurers entering the market in the past year are Brookfield Annuity Co. and Reinsurance Group of America Inc. There are now more than 20 insurers serving the U.S. market and that creates greater capacity for all kinds of deals, Mr. Jacobs said. It also allows plan sponsors to get more competitive rates, he said.
"That brings a lot of opportunities for both sides in this," Mr. Jacobs said.
"It creates different competitive pressures and complexities." More insurers in the market also means each can provide a different level of customization to specific kinds of transactions, he noted.
Some insurers, for example, may specialize in deals of only under $100 million, which carves out a specific potential population of plan sponsors that may work with them, he said.
By type of pension buyout transaction, retiree liftouts — in which simply a portion of liabilities are transferred from a plan — continue to represent the majority of deals in the U.S., although plan terminations — in which all liabilities are transferred via lump sums to participants and an annuity contract with an insurer — are on the uptick, said Beth Ashmore, a St. Louis-based senior retirement consultant at Willis Towers Watson PLC.
More clients are inquiring about plan terminations rather than retiree liftouts, Ms. Ashmore said.
Sponsors may think, "Well, I'm well enough funded to make a termination happen," she said.
Mercer's Mr. McDaniel echoed Ms. Ashmore's sentiments.
"The mix of deals is definitely becoming more termination-heavy compared to where it was five years ago or even three years ago," he said.
The plan termination process can take anywhere between 12 and 24 months because of IRS and Pension Benefit Guaranty Corp. regulatory requirements.
One notable termination announcement made recently was The Clorox Co., Oakland, Calif., announcing in its Aug. 10 10-K filing with the SEC that its board of directors in May voted to terminate the household products company's primary U.S. pension plan.
The company said the termination will be completed in up to 18 months after distributing lump sums to participants who select that option, following the purchase of a group annuity contract from an insurer to transfer liabilities.
A Clorox spokeswoman said the U.S. pension plan had $484 million in assets as of June 30, and the plan is over 100% funded.
She would not provide further information.
The elevated interest in plan terminations may lead to more pension buy-in transactions, Mr. McDaniel said.
Pension buy-in transactions, in which a plan sponsor keeps the liabilities on their balance sheets but purchases an annuity contract to insure them, is common in the U.K. but has traditionally been very rare in the U.S.
"We're starting to see some innovation in that space, though, where plan sponsors enter into a buy-in contract at the start of that 18-month process with the intent of converting to a buyout at the end," Mr. McDaniel said.
"It locks in insurer capacity, so you don't get in 18 months from now and the market has tightened up for some reason. (It also provides) more certainty of pricing up front again, one of the challenges of the full plan termination."
According to LIMRA, there were four U.S. buy-in contracts totaling $2.7 billion in the first quarter of 2022, compared with one buy-in contract totaling $2.8 billion in all of 2021.
GSAM's Mr. Moran also noted that while plan terminations are on the uptick, some organizations are opting to simply chip away at their liabilities over time.
"They've done it multiple times now, so I think that's a theme that I call the 'return to market' theme," Mr. Moran said. "They may say 'We actually want to terminate the plan, but that's very expensive,' so for these organizations it's just about chipping away, coming back every year or two to chip off a little more and more."
Pittsburgh-based Alcoa Corp. is one such organization. The firm disclosed in an Aug. 8 news release it plans to close $1 billion in pension buyout transactions later this month.
The aluminum company purchased group annuity contracts from two Athene Holding subsidiaries to transfer about $1 billion in U.S. pension plan liabilities.
It is the third major pension buyout move by Alcoa in the past year. In December, Alcoa purchased group annuity contracts from Athene subsidiaries to transfer about $500 million in U.S. pension plan liabilities, representing about 2,600 participants.
In November, the company purchased contracts from the Athene subsidiaries to transfer about $1 billion in U.S. pension plan liabilities, representing about 11,200 retirees and beneficiaries.
In total, Alcoa has executed pension buyout deals to transfer $3.3 billion in U.S. and Canadian pension liabilities since April 2018.
As of Dec. 31, Alcoa's global pension plan assets totaled $4.3 billion, while projected benefit obligations totaled $4.59 billion, for a funding ratio of 93.7%, according to its latest 10-K filing.
By comparison, four years earlier, as of Dec. 31, 2017, Alcoa's global pension plan assets totaled $5.322 billion, while PBO totaled $7.639 billion, for a funding ratio of 69.7%, according to that year's 10-K filing.
Alcoa spokesman Jim W. Beck said in an email the company has made progress in strengthening its balance sheet in reducing pension liabilities and declined to comment further.
