Early July, BT announced with great publicity that it executed a £16bn longevity hedging deal with Prudential Insurance Company of America.

It is easy to get caught up in the media hype and “heat of the moment reactions” on this mega deal. However, from my time as CEO and CIO of Invensys Pension Scheme, it became clear that trustees need to ask the right questions to find the right solutions for a particular scheme. With this in mind, I try to put myself in the shoes of a pension fund trustee director and wonder: 

“What questions should I, trustee, ask my advisers about… longevity?”

What does BT’s mega deal mean for the pension fund industry in general, and more specifically, what can I, and my fellow Trustee Board members, take away from this announcement?

A.    Impact on the industry
1.     It is the first un-intermediated longevity deal of its kind with a non-insurance company. Does this mean it paves the way to more similar deals, as BT’s success proves it can be done? (BT established a wholly-owned insurance captive that transacted with Prudential Insurance Company of America, a re-insurance company; pension funds cannot transact directly with reinsurers).
2.     It does seem however that the structure used by BT is suited only for the largest and most sophisticated pension funds; does this mean the intermediated model experienced to date in the UK will remain applicable to most funds?
3.     Does that also mean there is strong appetite from re-insurers for longevity risk hedging at the moment and, if so, how long is it going to last?
4.     And finally, should the price to hedge that type of risk therefore remain competitive, at least in the short- to medium-term?
B.    What about my fund?
What questions should I be asking my advisers to allow me to make an informed decision on the next step I should be taking in relation to the longevity issue within my fund?

I.        Understanding longevity/mortality

1.     Has the fund actuary spent enough time ensuring the Board members fully understand the concept of longevity/mortality?
2.     Do I understand the assumptions used by the actuary to quantify the impact of mortality on the fund:
a.    The base table (to reflect the fund’s current mortality experience); and
b.    The allowance for future improvement?
3.     Is the actuary using the fund’s own experience to determine the mortality assumptions?
4.     If he/she isn’t, how can I be reassured that the choice of tables, and any adjustment, are appropriate for our fund?
5.     Has the actuary included a margin for prudence and am I comfortable with his justifications?
6.     How do the actuary’s assumptions for improvements compare to that used by other pension funds? (that data is usually publicly available through annual reports or through the KPMG survey, for example)
7.     Has the actuary illustrated the effects of different mortality assumptions in ways that I can understand and which allow me to appreciate the financial effect on the technical provisions?

II.        Understanding the risks related to longevity
Assumptions related to life expectancy are generally based on industry mortality tables. The risk that pension plan members will live longer than expected (based on the assumptions) is referred to as longevity risk.

1.     Have I received sufficient training on why and how longevity risk manifests itself in my fund?
2.     How large is the longevity risk run by the fund, in absolute terms and relative to the fund’s other key risks:
a.    Corporate sponsor;
b.    Interest rate;
c.    Inflation;
d.    Equity;
e.    Other investment-related risks: credit, return-seeking assets…?
3.     If the longevity risk appears (currently) not to be a key risk (say in the top 3 risks), should I still allocate some of the fund’s limited resources to addressing it?

III.        Mitigating longevity risks

1.     If I am considering longevity hedging, do I understand what the relevant and fund-specific options are available for our fund?  For example, “longevity insurance” vs. “longevity swap”?
2.     Should I also investigate the consequences of hedging longevity with a non-UK based provider?

IV.        Consequences of longevity risk hedging

1.     Do I understand the consequences that longevity risk hedging introduces for our fund and for the individuals who manage it? Consequences may include:
a.     Potential introduction of additional risks such as

                                         i.    Counterparty risk
                                         ii.   Rollover risk
                                        iii.   Basis risk
                                        iv.   Legal risk

b.    Some complexity and its costs
c.    Collateral management if transacted through an unfunded structure
d.    Personal data risk management
e.    Immediate impact on your funding level
2.     Do I feel the fund has the appropriate (human) support and adequate controls, oversight and systems to manage these risks?

If you are a trustee thinking about your fund’s longevity risk, asking these questions to your advisers is a very good place to start.
For more information on this topic, please do get in touch with the team at Redington.

Please note that all opinions expressed in this blog are the author’s own and do not constitute financial legal or investment advice. Click here for full disclaimer.


Author: Robin Claessens

Robin joined Redington in May 2014 and is Managing Director in the Investment Consulting team. He was most recently CFO of BBOXX Ltd, a young and ambitious start-up which designs and manufactures “plug and play” solar-based electric systems. Prior to this, he was CEO and CIO of Invensys Pension Scheme (85,000 members, ca. £4.5bn of assets). He also oversaw the Scheme's Trustee Board and Governance & Audit Committee and chaired its Asset and Liability Management Committee. Robin started his career at Goldman Sachs working initially in Corporate Treasury before moving into the Corporate Pension Advisory Group where he advised European and US corporations and their pension scheme on all aspects of pension strategy. He is a member of the Milken Institute Young Leaders’ Circle.