Head of Defined Benefit Solutions on how recent funded status roller coaster has sparked greater appetite for de-risking
The past two years have brought tectonic changes, and the world has yet to clear the rubble and clouds of uncertainty left in the pandemic’s wake. Given the surfacing threats of inflation, interest rates, and geopolitical tensions, there’s a lot of volatility to be seen in the financial markets.
Against that backdrop, it’s no wonder pension plan sponsors are looking for a little more certainty in their portfolios. According to Brent Simmons, Head of Defined Benefit Solutions at Sun Life, the Canadian group annuity market hit a record $7.7 billion in transactions last year, covering approximately 25,000 plan members.
“Plan sponsors have been on a bit of a roller coaster ride over the last 20 years,” Simmons told Life and Health Professional. “They've seen their funded status have some ups and some downs. And most recently, with the pandemic, they saw a really sharp decline in funded status and a really sharp bounce back. So I think a lot of plan sponsors are looking to de-risk their plans.
To get off that funded status roller coaster, Simmons says plan sponsors are looking for safer ways to provide benefits to their employees. A lot of de-risking is happening among ongoing pension plans that might purchase annuities for their current group of retirees, and two years later purchase annuities for the new people that have retired.
Another factor in play, he says, is that many plan sponsors are seeing 10- to 20-year highs in funded status, which means they have money to put towards de-risking solutions. Beyond that, he says annuity pricing has gotten “incredibly attractive”: while the popular view is that an annuity would offer lower yield than a bond portfolio because of the risk transfer, recent trends show annuity yields being higher than that for a passive bond portfolio.
“For at least the last 10 years, annuities have had a higher yield than a passive bond portfolio,” Simmons says. “More recently, just during the pandemic, annuities have had a yield that's similar to a corporate bond portfolio. So we saw a bit of a disconnect then with the pandemic that caused annuity pricing to be even more attractive than it had been historically.”
With those three tailwinds, the momentum in Canada’s group annuity market picked up last year, with a record number of 22 deals over $100 million – triple the activity seen over the previous year. The last four years have seen a doubling in the market for group annuities, and Simmons says the market has gotten naturally more comfortable with supersized deals, with the $1.8-billion General Motors single-day transaction in 2020 being the largest to date.
“What it really means for plan sponsors is if they do have a large pension plan, they don't have to break it up into pieces anymore,” he says. “They might have historically brought it to market a piece at a time over several years. But now, the markets evolved to the point where they can just bring it all at once, which is, I think, really, really helpful from a plan sponsor point of view.”
According to Simmons’ estimates, around 300 plan sponsors participated in group annuity transactions over the past 5 years, with more than 70 transactions last year. At least 15 of those were repeat buyers, pointing to annuities being used as an ongoing risk management tool.
Insurers have stepped up to address the market by increasing their capacity; over the last four years, Sun Life has doubled the amount of business it can write in a particular year. Simmons also noted a trend of specialization and segmentation where rather than bidding on every annuity that comes to market, insurers are developing to focus on a preferred type of business.
“Just from a resourcing point of view, with so many deals coming to market, an insurer can't possibly bid on every single one,” he says. “The market is still very competitive; as long as you have two to four insurers bidding, you can be fairly confident as a plan sponsor that you’ll get a good price and have a competitive bidding process.”
According to Simmons, the total assets held in Canada’s defined-benefit pension fund market today amount to roughly $1.8 trillion. In contrast, the market for group annuities last year was around $7.7 billion, which he says doesn’t even cover the interest accruing on the DB pension market’s $1.8-trillion AUM. The group annuities market is poised for even more growth, he adds, as some open pension plans are still just jumping in.
“I think the market has a lot of longevity in Canada, and we're just getting going,” he says. “There are plenty more defined benefit pension plans with liabilities that need de-risking, and we'll be here to help.”
