These are the schemes which would benefit most from the security and pooling of risks that insurance brings.
In a very early blog, I quoted Abraham Lincoln:
“I will prepare and someday my chance will come.”
For a growing number of schemes, their chance has come and many probably aren’t even aware of that.
At the time of writing that blog, I did not have the foresight to predict either a pandemic or a war in Europe. If I had, I’ve no doubt I would have thought both events would lead to doom and gloom for most UK DB pension schemes.
The 2021 Purple Book showed that the smallest schemes (fewer than 100 members) had an aggregate funding ratio to buyout of 78.4% at 31 March 2021. Fast forward to today and the position is likely to have improved significantly for many of those schemes. K3 Advisory’s Small Scheme Index shows that bulk annuity pricing has fallen by around 25% since the start of 2022.
In our experience, many small schemes are unhedged or significantly under-hedged against interest rate and inflation movements, which means their buyout funding level may well have improved by more than 20% over a short period of time. That means lots of smaller schemes are already in surplus to buyout or are within “cheque writing” distance.
We also find that many small schemes aren’t being robustly kept up to date with their solvency position. Over 2021 and to date in 2022, 13 schemes we have helped complete a bulk annuity transaction found themselves in surplus to buyout - many schemes just weren’t aware of their strong funding position.
With this recent material improvement in scheme funding positions, we are already seeing a large increase in enquiries from trustees and sponsors, but I think this is the tip of the iceberg and I’m certain there are many more schemes within that cheque writing distance. However, for the industry to cope with this, insurers and advisers alike need to provide the proper resource and to streamline their processes to encourage the market for small schemes to continue.
“Simple and certain” are words I use continually with any scheme I work with. Every action we perform for a scheme is designed to simplify the process and increase the certainty that the scheme is ready to transact. This also has the added benefit for trustees and sponsors of enabling transactions to happen faster.
However, one area which is still often an issue, and which needs continued improvement, is that schemes aren’t really prepared for a bulk annuity transaction, and so risk missing their chance of transacting at a favourable time.
What should schemes be doing to get prepared? This needs a longer blog but here is a starter for ten:
Data: Insurers hold capital for the risk that their assumptions are wrong. Schemes will almost certainly save money by not making insurers guess about things they don’t need to. Therefore, collect spouses’ information (i.e. marital statuses and spouses’ dates of birth) and calculate contingent spouses’ pensions (and don’t use estimates based on the scheme actuary’s assumptions about the lump sums members took at retirement, for example).
Benefits: This one is simple. Get the scheme’s administrators to write down accurately how they administer the scheme. Then get the scheme’s legal advisers to review that against the scheme’s rules.
GMP equalisation: Schemes don’t need to have dealt with it before transacting with an insurer, but they will look more prepared if this is given some thought and trustees have a plan for what they are going to do.
Affordability: Has someone told you what insurance is likely to cost (and is it a credible, unconflicted source)?
Assets: If you think you can afford insurance, then are the scheme’s assets suitable for the job? Putting insurance in place can take several months and it is not helpful if the value of the assets to fund the transaction is moving around differently to the way insurers price.
Governance: Do the trustees have experience of doing insurance trades? Can they meet at short notice? Do you have a detailed project plan for how the insurance trade will progress? Can decisions be made when needed?
So now trustees know what to do to prepare, the next question becomes when should they prepare. Our response is to begin today and start by getting an up-to-date confirmation of the scheme’s funding position.
Adam Davis, Managing director, K3 Advisory
