Data from consulting firm WTW in its De-risking report 2024, published at the beginning of this year, shows that aggregate longevity swap insurance premium in the UK pension risk transfer (PRT) market was the lowest for at least five years, with only a little over £10bn in aggregate value being seen in the market.
That figure is notably less than 2020 (£25bn), 2021 (£15bn) and 2022 (£16.5bn). But the drop-off in longevity swap activity should not be surprising, as in recent years, higher interest rates have reduced the present value of future pension scheme liabilities, driving the defined benefit (DB) pension fund market to record surpluses; this funding status improvement has enabled activity in the buy-in and buy-out market, the other two types of bulk purchase annuity transaction in the market, to thrive.
But the longevity swap market has not gone the way of the dinosaurs just yet. In early December, for example, the Merchant Navy Ratings Pension Fund (MNRF) entered into a longevity swap transaction with MetLife, worth approximately £450m.
The arrangement provides long-term protection to MNRPF against costs resulting from pensioners or their dependants living longer than expected and enhances security for MNRPF members.
Shelly Beard, Managing Director at WTW, and lead adviser to the trustee of MNRPF, said that the deal shows that these types of transactions still have a place in the UK PRT space.
“Different schemes are at different points on their de-risking journey, and different transactions appeal to schemes for different reasons,” she said.
“While it’s true that buy-out is still the ultimate goal for most schemes, longevity swaps are also playing a strong role in protecting scheme members, particularly for smaller tranches of liabilities.”
Unlike buy-in and buy-out transactions, longevity swaps see the pension scheme retain both the assets and the liabilities associated with the scheme; pension plans bullish about their ability to wring out better returns on their own are natural bedfellows here, as are those which have a significant amount of higher-yielding, but riskier, illiquid assets, as selling these at a discount (to realise liquidity quickly) might not be desirable.
And they provide the plan sponsor with more flexibility. As Beard alludes to above, longevity swaps can be customised to cover specific portions of a scheme’s population.
Still, buy-in and buy-out transactions have been much more commonplace in the UK market, at least in recent years, with the latter being something of a ‘holy grail’ endgame solution for DB pension schemes as they completely remove longevity risk, inflation risk, regulatory risk and investment risk from the sponsor, not to mention the administrative costs of maintaining the scheme.
The MNRPF deal aside, 2024 has been something of a dry patch for the longevity swap market, as firms have been rushing to get a buy-in or buy-out completed. And the recent cuts in interest rates by the Bank of England will not cause schemes to become underwater from a funding perspective, as many would have implemented a hedge to lock in their funding status to provide cover for such a situation.
That means that it’s unlikely that activity in the longevity swaps part of the pensions de-risking market will see a return to the halcyon days of the recent past, at least in the short term, unless something extraordinary happens at the mortality level.
Insurance actuaries use general mortality tables – and their own datasets – as inputs into the price they calculate that they will eventually charge to schemes for the insurance premium. In the UK, life expectancy at birth has been steadily rising in the past century, reaching 82.1years in 2022. If an extraordinary occurrence were to happen that would impact population mortality, such as a cure for cancer, then you might see some schemes rushing to get a longevity swap done quickly.
But, for now, it is likely that the composition of the market in terms of transaction types will be similar going forward as they have been in the past couple of years – at least, in the short term.
“Longevity swaps are definitely not going away, but the structural features of the market – plenty of well-funded schemes, good options for schemes in terms of insurers, and competitive pricing – means that buy-ins and buy-outs will continue to deliver the lion’s share of the activity in the space in 2025, and likely beyond,” said Beard.
“But for schemes out there that are looking for flexibility, cost control and investment control, longevity swaps are still very much an option, and I’d urge them not to discount it.”
