Analysts at Moody’s have suggested that the UK’s Life & Health insurers will continue to benefit from sustained bulk purchase annuities (BPA) growth at still attractive margins in 2023 and beyond.
According to the analysts, BPA transfers have strengthened insurers’ earnings in the past, and are set to help offset lower fee income in 2023 as higher rates erode assets under management.
Moody’s writes, “BPAs have supported the UK life insurance sector’s earnings in recent years, including the pandemic-hit years of 2020-2022, when market volatility and lockdowns weighed on sales of other products. Pension transfers accounted for 63% of the cumulative earnings of the seven UK-based BPA writers between 2019 and 2022 on average.
“This underpins our stable outlook on the UK life insurance sector. The new IFRS 17 accounting regime will delay the recognition of BPA-related profit (in 2023), but the underlying cumulative cash-flows are unaffected.”
Moody’s analysts note that market participants expect BPA transfers to exceed £40 billion in 2023, supported by a greater number of large deals.
They explain that 2022’s interest rate rises have reduced the average projected time to reach buyout readiness by over five years, which may lead to over £200 billion of demand over the next three years, up from previous projections of £150 billion.
Further, market volatility and increased scrutiny from the pension regulator will encourage companies to offload their DB risks, says Moody’s.
Meanwhile, the barriers to competing in the BPA market, which requires illiquid asset origination expertise, remain high.
“There are only eight active players, which have completed deals totalling around £20-40 billion annually in recent years,” suggest the analysts.
They continue, “UK life insurers’ capital remains solid, boosted by rate rises, and the UK’s proposed Solvency II reforms may unlock some additional capacity. Nevertheless, capacity is limited and will likely fall short if demand for BPAs increases meaningfully.”
Among the active players, Moody’s states that L&G typically aims to write between £8 billion to £10 billion of UK pension transfers annually, but has stated it has the capacity and appetite to write significantly more, possibly over £20 billion in any single year.
Aviva wrote £4.4 billion of BPAs in 2022 but aims to write a total of £15 billion to £20 billion between 2022-2024, while Just Group plc, Phoenix Group Holdings PLC and Scottish Widows Limited have also become more active over the last 12-18 months.
Moody’s observes that insurers writing new BPA deals will increase their investment in illiquid assets, which generate the cash flows needed to back long-term annuity obligations.
On this note, the firm’s analysts conclude, “While the credit quality of certain illiquid assets is coming under pressure, we continue to see the sector’s exposures as credit positive overall.
“This is because long-dated illiquid assets deliver attractive yields and reduce reinvestment risk. UK life insurers also have strong liquidity positions and expertise in managing illiquid investments.”