Bank of England warns insurers over corporate pension deals

The Bank of England has told insurers planning a wave of corporate pension deals to “exercise moderation” in the face of “considerable temptation”.

Higher interest rates have driven up the funding levels of companies’ retirement plans, with the majority now in surplus. This turnround in schemes’ fortunes has catalysed the market for corporate pension deals, where schemes pay a premium to offload their liabilities to an insurer.

But as trustees and finance directors queue up to do deals, concerns have grown about the capacity in the insurance market to absorb these schemes. JPMorgan analysts have predicted £600bn of pension liabilities could be transferred to insurers over the next decade.

Charlotte Gerken, executive director of insurance supervision at the BoE’s Prudential Regulation Authority, warned on Thursday that insurers need to consider the risks of ramping up their activity.

“As deals become larger and increasingly focused on buyouts of complete schemes, we observe [insurers] expanding their risk appetite, sometimes outside their current core expertise,” she told a conference in London.

Insurers “need to balance the short-term financial and reputational incentives to grow rapidly, with long-term and enduring financial strength, to meet the long term needs of policyholders and the economy”.

Insurers that take on pension schemes will need to hedge their interest-rate and inflation risks, which may mean wider risks to financial markets.

“Insurers therefore need to understand, as they take on these vast sums of assets and liabilities, how they may become greater sources or amplifiers of liquidity risk,” she added.

Data published by the Pensions Regulator on Thursday showed around a quarter of the UK’s 5,200 corporate pension plans can now afford deals to take the scheme fully off the employer’s balance sheet, in what is known as a buyout.

For much of the past 15 years, employers sponsoring defined benefit pension plans, which promise guaranteed pensions, have diverted business cash into plugging scheme deficits largely driven by record-low interest rates.

But interest-rate rises over the past year have contributed to a dramatic improvement in funding levels for the plans, with around 80 per cent now in surplus.

“Trustees will need to consider if their long-term targets remain appropriate, whether buyout is viable, or to examine other endgame options,” said the regulator.

Some schemes are now facing calls from employers for reductions or suspensions to contributions, given the improved funding position, the watchdog said. Meanwhile, some members want increases to their pensions, given rises may not have kept pace with inflation.

“When considering such pressures, trustees should be mindful of their overall position, the resilience of their investment strategy to future financial market movements and the level of covenant support,” said the regulator.

John Dunn, head of pensions funding and transformation at PwC UK, the professional services firm, said TPR’s statement was an indicator of “just how much the pensions world has changed over the past 12 months”.

However, the regulator noted funding levels would have fallen for a minority of schemes. That includes some invested in pooled funds and others unable to meet the necessary collateral calls during last year’s market crisis exacerbated by so-called LDI hedging strategies.