This article has been updated to reflect recent guidance issued by The Pensions Regulator with regards to capital release for a pension superfund
Pension superfunds – consolidators backed by investors that help struggling defined benefit (DB) pension schemes in the UK to improve their funding status and achieve eventual buy-out – were seen as the saviour of under-funded plans, but progress has been slow and stymied by both a lack of investment and delayed legislation.
Superfunds are not an alternative to a fully funded insurer-led buyout; rather, they provide a bridge to one by acting as both a consolidator and intermediary, bringing in external investor capital and expertise to increase the scheme’s funding. When the scheme becomes fully funded, it can then seek the assumed protection of an insurer buy-out.
“There are three gateway principles for a scheme to enter a deal with superfund: That the scheme cannot access buy-out, then that it cannot be bought out in the foreseeable future, and third that trustees believe by transferring the scheme into a superfund the likelihood that members will receive their full benefits is increased,” said Will Griffiths, Director in WTW’s transactions team.
But in the intervening five years since the first superfund guidance first came out, the only provider to complete UK regulator The Pensions Regulator’s assessment process has been Clara-Pensions, which did so in 2021. Since then, Clara has completed two deals, taking on Sears in November 2023 and Debenhams – which it took out of the Pension Protection Fund (PPF) – in March this year.
Having one player in the market is not the only stumbling block the superfund concept faces. Griffiths said the slow process of implementing legislation around the issue of profit-taking had been keeping investors away; superfunds rely on cash from external investors, which, once the benefits of members have been secured, take their cut through making successful investment decisions.
While the pensions regulator updated its superfund guidance in July to permit capital release twice a year (subject to certain conditions), Iain Pearce, Partner and Head of Alternative Risk Transfer at Hymans Robertson, said that ultimately, the outcome of the superfund concept is a binary one.
“Our view is that the market can only go in one of two ways. It will either be unsuccessful, and in that scenario, Clara may exit the market. Alternatively, it will become successful and that will lead to new entrants coming into that market,” he said.
“Legislation will be a very helpful step, albeit one that’s not going to be imminent.”
Clara itself remains positive, and whilst legislation may not be imminent, it is being proactive to support the end goal of a legislative framework.
“Clara is supportive of further market innovation which provides more options for trustees to improve the security of members’ benefits. The success of Clara’s two transactions, with the Sears and Debenhams schemes, and our strong pipeline of further transactions, demonstrates the benefits of consolidation in improving member outcomes,” said Simon True, CEO at Clara.
“We are working closely with government on the permanent legislation for superfunds, to enable the consolidation model to deliver tangible benefits to pensions scheme members,” True added.
Meanwhile, Pearce added that the Mansion House proposal of having the PPF run a separate superfund may also be a disincentive.
“There will be a thought process, with these providers [potential entrants] wondering if this would undercut them on price. And also, will it be presumed to have an implicit state backing, so would the government actually allow it to fail?”
Market forces may be at work too. Griffiths said that in summer 2022, many DB schemes were around 80% to 90% funded (on a buy-out measure), enough to consider the superfund exit route, but a potential chunk of superfund business was impacted by the mini-budget-induced gilts crisis of September/October of that year.
“But when interest rates shot up, the buy-out funding levels went up. So, they went from being in that sort of target zone for the super funds of 80% to 90% on buyouts to being over 90% funded on buyouts, just because of how interest rates moved,” said Griffiths.
“So that pipeline of potential superfund business was removed in one fell swoop, because then those schemes were so close to buy-out, they no longer qualified for a super fund based on the gateway principles.”
Other market forces could work in the favour of superfunds. Griffiths said something such as a “swing in longevity expectations” might encourage more partially funded schemes to consider the superfund route.
“If you have a scheme that has a non-distressed sponsor and decides to enter into a super fund, such a scenario would be a sponsor with a profitable, successful business, but a swing in longevity expectations means the liabilities go up,” he said.
“So even though they’ve not got a sponsor that’s imminently going to go under, it’s easier to make the argument in that situation that the superfund is more likely to provide full member benefits than relying on the sponsor covenant.”
Both Pearce and Griffiths believe that the superfund market needs to have more than one player, and that while other entrants will be waiting in the wings, they will have a limited time frame in which to make their move.
“Over the next 10 to 15 years, a lot of schemes that will settle the liabilities will have done so in this market. The sooner you get in, the better,” said Griffiths.
There is also the huge to-do list trustees currently have, which may make even considering a superfund exit a luxury.
“There’s also such a lot going on in the pensions world at the moment. You’ve got the new general code, you’ve got your GMP equalisation, you’ve got more focus on data and benefits being clean and you’ve got pension dashboards to get ready for,” said Griffiths.
“So, as a trustee, if you’ve not got a distressed sponsor, and you’ve got all this other stuff you need to do, you’re going to be concentrating on that rather than worrying about a superfund transaction.”