DB pensions and their wasteful risk-transfers.

William McGrath when running Aga Rangemaster.

Pension actuaries have got it wrong “It’s not an endgame –  it’s “play on””, William McGrath  of C-Suite told those enjoying coffee at the Pension PlayPen this morning.

With a windfall gain of 3-5% coming the way of schemes with the publication of the next set of CMI tables, McGrath said it’s time that the “risk-transfer industry” lost its free-pass to mess with DB assets,

“The financial record of risk transfers in the last two decades is just dire ” he continued “It’s time for a time-out on risk transfers” –

McGrath called for action to

“Consider Discretionary Pension Payments for Past and Present Employees”

Four case studies explained “wasteful risk-transfers”.

Case study one – how an insurer can relieve its own scheme of a potential surplus.

Aviva, a sponsor whose scheme took a hit on 3 buy-ins in ” Other Comprehensive Income” (OCI) showed a £1.5bn  loss in its pension accounts  but a £739 implied profit  in the Aviva  Group Accounts.

A case of “accounting for growth” as Terry Smith would call it,  certainly “creative”!

This is a kind of risk transfer, I – as a member – would not want to see. It looks like my scheme has become weaker because of buy-ins that have gone badly – meanwhile the buy-ins appear mysteriously to have strengthened Aviva’s financial statements. The member might well ask “who is sponsoring whom?”

This appears to be a case of legitimate accounting procedures being used to disguise what has actually happened, a potential scheme surplus has been returned to the sponsor who underwrote the buy-ins.

Case study two- how longevity swaps lose schemes money

ITV’s  DB scheme has   lost  £600m through a longevity swap that didn’t pay off. In 2011, the swap was widely publicised as an innovation. The FT told its readers it was a “first” for the UK pensions industry and went on

According to advisers familiar with the arrangement, the longevity swap is significantly less expensive than a buy-out or buy-in with an insurer because it does not require a transfer of assets to another party.

Much is said of these “risk transfers” at the point of transaction, little is said of how they have done in subsequent years. McGrath’s analysis shows that almost all longevity swaps are currently “under-water”.

McGrath described these advisers as an “Industry prone to self-congratulation – ‘needing  a bucket of iced water in the face'”

Case study 3; bank dumps pension scheme , members lose discretionary increases

McGrath, himself a member of the Commerzbank Scheme pointed to the  £233m written off when Commerzbank paid off its members with an insurance policy. Once again, the money washed through OCI. The crystallised loss  mean that member never exceed 5%.


The insurance industry currently holds all the cards. Schemes queue up to be bought out, it is a buyers market but sellers are being told that terms have never been so attractive. Meanwhile the one competitor to the insurer’s hegemony, the pension superfunds, are sidelined. I struggle to understand how Pension Superfund and Clara have not been allowed to compete and relieve some of the demand on insurers.

McGrath questions whether all buy-outs are on competitive terms and wonders why insurance company profits are currently so high and member increases capped at between 25 and 50% of inflation.

Case study four – actuarial against actual pounds

Actuarially speaking, Britvic may be in a stronger position to meet its liabilities today than a year ago. Using the actuarial discount rate, Britvic’s liabilities may have reduced by more than its assets. But Britvic’s pensioner payroll (in real pounds) actually went up £1.8m last year and scheme assets now only cover just over 19 rather than 31.5 years.

Actuaries may argue that in their pounds , the scheme is better off, but the reality is that members now have less protection from future cash flow calls on the fund. The LDI crisis showed how little TPR, schemes and their advisers had modelled the risk of gilt yields spiking. The spike was blamed on irrational policy but lightening can strike twice. What if, for instance – a future Chancellor were to cap tax-free cash at a time in the future? This could lead to a race to retire early and grab cash, would schemes such as this one have the cash to pay claims. With only £2.1m in equities, liquidity looks scarce.

The fall in assets , has another impact – and again this should worry members.  The scheme is now rather less attractive to take on from an insurer’s perspective – because of diminished assets (Nigel Wilson, CEO of L&G made this point at a recent inquest into LDI in the House of Lords). The lower the terms offered at buy-out, the less the opportunity to distribute surpluses.

Side (but important) issue;  how life expectancy is used to help with risk transfers.

McGrath pointed to the heroic life expectancy assumptions for the scheme – a 45 year old female in the scheme is expected to die at 91!

These factors offer insurers a chance to show off competitive pricing when they quote against more normal assumptions. It’s a slight of hand used by schemes to make them more attractive to insurers but once again the risk transfer is an arbitrage against the member.

McGrath argues that the wide ranger of longevity assumptions in schemes can often  be explained, not by scheme demographics, but by the need to show itself either as more attractive to an insurer or (where longevity is depressed) more attractive to the Pensions Regulator.

Trapped surplus or an opportunity to exercise discretion to members?

Having talked the meeting through these four examples where risk-transfers were not all that they were made out to be. McGrath briefly touched an alternative to handing over the scheme to the insurers.

The DB surplus does not have to be returned to the employer (with a 35% tax charge), nor does it need to be given away to an insurer.

Sophia Singleton, in her podcast appearance on Nico and Darren’s VFM series, explained that her consultancy XPS, is setting up new DC schemes within DB trusts to reward members with a bonus from the DB assets. This could be an opportunity for CDC schemes to be seeded.

But for this kind or thinking to happen, explained McGrath, there has to be a commitment from employers to view the DB scheme as something to be prized and cherished by the sponsor. He explained – from his position as a former CEO of Aga Range master, that many in the C-Suite understand the importance of pensions to the financing of their businesses and bemoan the lack of equity funding brought about by de-risking.

There are a number of schemes that have not de-risked, Terry Smith (the Smith in Fundsmith) provided personal guarantees to enable Tullet Prebon’s DB scheme to invest primarily in equities and avoid the PPF. His sponsorship saw the scheme recover its solvency and is a remarkable testament to the advantages of adopting a positive attitude to growth (rather than accounting for growth using OCI and similar).

Several such schemes were present at the coffee morning and bore testament to sponsors who see things William McGrath’s way.

It was an inspiring meeting and it was good to follow up later yesterday with William McGrath to write this blog.



About henry tapper

Founder of the Pension PlayPen,, partner of Stella, father of Olly . I am the Pension Plowman
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2 Responses to DB pensions and their wasteful risk-transfers.

  1. jnamdoc says:

    Great blog. We are told that the pipeline for Risk Transfer to insurers has never been ‘better’ – why wouldn’t insurers continue to mop up these overfunded gems…?. TC Jefferson is right on Linkedin advocating we would be better referring to this as “Pension Reward Transfer” – if correct, the c17% insurers profit noted in the above Aviva example is eye-wateringly poor value for Trustees. And that is before we get back to my old-hobby horse about the dire impact on our economy of the subsequent and consequential seismic mis-allocation of capital this induces.

    This whole area is in need of urgent and coordinating long term policy thinking and intervention from Govt. Its too important to leave to the insurers / actuaries and the similarly minded souls at TPR to further bog us down in mis-guided regulation and increasing the complexity premium being paid by Trustees (ie this all sounds a bit complex, backed up by the threat and risk of prosecution under Pension Act, so let’s hand it over to those that have made it complex)

  2. Bob Compton says:

    William McGrath made many insightful comments at yesterday’s playpen session, and Henry your expansion on the impact of those observations is spot on. Further jnamdoc’s comment above is also on the mark.

    The very real problem is that current TPR policy on DB funding is directly encouraging “risk transfer” to underwriters who will profit at the expense of Sponsor shareholders and scheme members and has overseen the destruction private sector DB provision.

    I would suggest the DWP and new Pensions Minister may need help. Would it be an idea to create an independant working group to input to the DWP on the lines jnamdoc suggests, with truly independent thinkers. It is for us to create otherwise nothing will change.

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