The increasing role – and influence – of ‘private equity’ firms in the US pension risk transfer (PRT) market in recent years has caught the attention of the media, regulators, and litigators, as questions have arisen about the suitability of the private investments that these firms make as the assets that they invest in underpin literally millions of American retirees’ pensions.
Only that ‘private equity’ is not really the correct term to use. Whilst firms in the space such as Apollo (which has merged with insurance company Athene), Blackstone and KKR might have got their start in the leveraged buyout world, these firms are now multi-asset managers, and listed companies, so the terminology is wrong for starters.
‘Asset managers’ is closer to correct. But terminology aside, what is the reality of more of these firms coming into the US PRT market? After all, in the primary market – defined benefit (DB) pension to insurer – there were 21 insurance companies writing business as of December last year, according to WTW. On the surface, numbers-wise, that would seem like a competitive field (at least compared to the UK, where there were only ten at press time).
So, if you’re an asset manager looking at buying an insurer now, are you too late?
“From the pension plan perspective, there is still room for more insurers. On a given deal you don’t often see more than five, six or so bidding as insurers operate at different ends of the market,” said James Walton, Managing Director at consultants Agilis.
“We see PRT market growth in the US as robust – growing by double digits, as strong equity returns, and interest rate rises of recent years are likely to spur further pension plans to transact in coming years. If you’re talking about coming in and taking a 20% share then I think those day are gone, but I don’t see why a few more insurers couldn’t enter and pick up some share that’s enough to justify entering – but any new insurer would be required to have some kind of pricing edge if they are to compete in the market,” Walton added.
That pricing edge depends on the ability of the insurer to generate returns on the underlying assets. The greater the return, the lower the premium they can charge to the defined benefit pension scheme, other things being equal. And one of the ways that insurers differentiate themselves is through access to private market opportunities, whether that be through an affiliate or wholly owned asset manager, or whether the arrangement is through some kind of partnership.
The regulatory burden placed on life insurers in the US, while strong, is arguably less onerous than those placed by the Solvency II (S2) regime in the EU. Even the UK’s adjustments to the regulation – Solvency UK – has maintained many of the original features of S2, the result of which means that a significant amount of the assets backing schemes across the pond are more liquid fixed income, such as government and corporate bonds. Whilst private assets still make it onto the balance sheet of life insurers in Europe, there is more scope for these opportunities stateside, which is what is driving the increased participation from asset management firms.
“The involvement of asset managers in insurance to date has been about utilizing their investment capabilities in forms of private credit and structured credit. Insurers in the US generally don’t need help with public bonds as they have their own teams already for this. But they don’t always have a competitive advantage in private asset opportunities. Any new entrant would likely need these capabilities in order to be successful,” said Walton.
The term ‘private equity’ is arguably more a political term these days. Indeed, the SECURE 2.0 Act of 2022, which came into law in late December of that year, directed the Department of Labor to review the Employee Benefits Security Administration’s Interpretive Bulletin 95-1 ‘to determine whether amendments to Interpretive Bulletin 95-1 are warranted.’ The report, published in June last year, uses the term ‘private equity’ 54 times.
IB 95-1 is a foundational regulatory pillar of the US market as it states that DB schemes transacting with an insurer must use the ‘safest annuity available’, and lawsuits have been filed against plan sponsors that claim otherwise.
Just recently, the ERISA Industry Committee (ERIC) and coalition allies (the amici) filed an amicus brief in the US District Court of the Southern District of New York to dismiss Doherty v. Bristol-Myers Squibb (Doherty). In its brief, the amici asserted that the plaintiffs lack standing and argued there was no viable claim for relief.
“Like the 401(k) fee class actions that came before them, this new wave of pension risk transfer litigation appears to be the next proverbial pot of gold for the plaintiffs’ bar,” said Tom Christina, Executive Director of the ERIC Legal Center.
“If meritless claims like this advance beyond swift dismissal, there is significant risk the floodgates will burst open, and plaintiffs’ firms will get a big payday while employers and employees will be faced with big legal bills and an even bigger threat to the retirement system we know today. This would be devastating to plan sponsors and, in turn, to the participants who rely on them for jobs and benefits.”
Market participants will likely be keeping a close eye on any developments here. But regardless of the outcome and the potential impact of the outcome, for Walton, there is still scope for more asset managers to enter the market.
“It is important to remember that only around 10% of the entire universe of DB schemes in the US has transacted so far,” he said.
“As I said, any new entrant will likely need some kind of pricing edge. But, thanks to the macroeconomic environment of the past few years, combined in many cases with contributions paid into plans, there are an enormous amount of US DB plans that will be looking to transact. I’ve seen some insurers turn away bids because they were simply too busy working on other deals. There is room for more insurers, but they will have to differentiate their offering and have reasonable expectations around overall volume.”