Last year was a bumper year for the pension buyout market. As funding levels increase and economic uncertainty recedes, 2014 looks set to be another record-breaking year. However, capital and resource constraints in a market containing a mere handful of insurance companies, could lead to disappointment for all but the very best schemes. Pension funds will increasingly have to compete to attract buyout providers’ attention.
The UK bulk annuity market grew by over 25% in 2013, transacting £5.7bn in total volume compared to £4.5bn in 2012. In July, the record for the largest ever deal was set when Pension Insurance Corporation (PIC) bought out £1.5bn in liabilities covering 20,000 members of the EMI Group Pension Fund.
This year looks set to break fresh highs. According to Roger Mattingly, director of PAN trustees and president of the Society of Pension Consultants: “The volume of buyout deals could rise to around £15bn in 2014. As bond yields rise, that should make buyout more attractive as less capital needs to be injected by the sponsors to bridge the gap.”
Better funding, better buyout
Analysis from JLT Employee Benefits shows pension deficits among the FTSE 250 companies fell nearly two thirds (£5bn) during the first half of 2013 to around £3bn by 30 June. The fall was driven by the improved economic conditions as well as corporate funding of around £1.2m.
The subsequent improvement in funding levels makes buyout economically viable for more schemes and corporates, particularly in light of the future direction of gilt prices and yields.
Martyn Phillips, director at JLT says: “Schemes are sitting on enormous amounts of gilts at present, which creates a risk or derisk conundrum. Many view gilts as overpriced and could fall sharply in value when quantitative easing reverses. Investors wanting to sell gilts need to consider whether to go to a buyout or buy-in, or whether to take on more risk. Many recent deals have been fuelled by concern over falling gilt prices.” Falling prices also mean rising yields, which reduce funding levels further. Many schemes are believed to have set target yield levels at which they will de-risk.
David Collinson, head of business origination at Pension Insurance Corporation believes: “Larger schemes looking to close out interest rate and inflation exposure and de-risk will have set trigger points for doing so, such as the 30-year gilt yield.” From the corporates’ perspective the attractiveness of buyouts is also increasing as the additional funding required to plug holes decreases. The FTSE 100 companies’ cash stockpile reached an all-time high of £166bn in September 2013, according to Capita Asset Services.
“Sponsors are less keen to put money in pension funds when the economic environment is uncertain,” explains Sadie Hayes, transaction specialist at Towers Watson. “Now the economy is more settled, buyout is seen as a reasonable use of the war chest. Once a scheme has closed, it is a question of when, not if, they go to buyout.”
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