The UK’s pensions risk transfer (PRT) market is one of the strongest growth opportunities in European insurance, according to JP Morgan.
A new report from the financial giant states that while there are high barriers for new entrants, there is at least a £600m growth opportunity over the next ten years.
This, write the authors, is due to what it calls the ‘onerous nature and volatility’ of defined benefit schemes, alongside improving funding levels and work from insurers in providing solutions.
Around the barriers to entry, the authors wrote, “Four insurers wrote 80% of PRT volumes in the past 15-20 years: two listed – Aviva and Legal & General; and two unlisted – PIC and Rothesay. The barriers to entry in this market are high (regulatory, capital, expertise, trust) leading to a long j-curve to establish a presence and high margins. We estimate a 14-15% IRR on PRT deals and see a small risk of increased competition. Insurers with in-house asset capabilities to originate long-duration illiquid assets to back these liabilities have a competitive advantage.”
They added: “There are >£2trn of defined benefit pension scheme liabilities sitting on the balance sheets of UK corporates today. These provide defined pension benefits to employees, based on years of service, and were seen as an attractive part of a typical benefits package in the 1980s-1990s. However, low bond yields, volatile markets and accounting rule changes have meant these schemes have become significantly underfunded (~75%) and have become a burden for most corporates.”
They went on: “We believe there is huge pent-up demand from corporates to pass these liabilities on to insurers or to de-risk – creating a substantial growth opportunity for UK life insurers focused on this segment.”
The risk of PRT deals within the UK market has been an increasingly common topic on these pages in recent years.
In February, Fitch Ratings wrote in a note that the UK life insurance sector was the only one with an improving outlook within Europe due to the increasing number of pension schemes looking to transfer risks. Back then, Fitch estimated that UK life sector buy ins and buy outs numbered 28 in 2021, slightly down from 32 the year before. However, it forecasts that this will rise to 40 and 50 this year and in 2023.
Fitch Ratings said: “Volumes of buy-ins and buy-outs declined in 2020 and 2021, which we attribute to the negative impact of pandemic-induced financial market volatility in 2020 on funding levels and confidence to transact. The transaction timeframe, from initiation to conclusion, is typically nine to 12 months.”
It has been no secret recently that pension risk transfers have been on the rise in the US and UK, with L&G predicting this week that the second half of 2021 was particularly strong for this sector. In the US, the company recorded an estimated $38-40bn (£28-30bn) in total annual transaction volume, which far surpasses the $27bn reached in 2020.
Also in February, Legal & General said that the global PRT market was to have a strong H2 2022, particularly in the US where potential transaction volume records were being set.
L&G’s Global PRT Monitor reported a strong second half of 2021 for both the UK and US markets as demand for PRT solutions continued to grow, helped by competitively priced reinsurance capacity. In the UK, the Monitor reported that the second half of the year was one of the largest and busiest six-month periods in the history of the market, with around £22bn of retirement income secured.
Overall, it estimated the total transaction volume for the year approached £30bn, with growing demand driven by a number of factors, including improved pension scheme funding levels and competitive longevity reinsurance pricing.
