JUST GROUP PLC Annual Report and Accounts 2020
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market context
DEFINED BENEFIT DE-RISKING SOLUTIONS Defined benefit pension schemes have an obligation to pay members a retirement income based on their earnings history, length of employment and age. Operating these schemes has become unattractive and more costly for employers over the last decade and this has created an opportunity for guaranteed income providers to de-risk, fully or partially, an employer’s defined benefit obligations to its members. Defined benefit de-risking can occur via a Buy-in, whereby a pension scheme pays a premium to an insurance company to purchase an income stream that matches its obligations to some or all of its members, but retains legal responsibility for those obligations. An alternative is to Buy-out, where a pension scheme removes its obligations by purchasing individual insurance policies to pay the benefits of some or all of its members, who then become customers of the de-risking provider. DELIVERING BETTER OUTCOMES FOR CUSTOMERS Structural drivers in our markets mean we can grow profits while delivering better outcomes for customers
CURRENT MARKET AND OUTLOOK 2019 was a record year for de-risking transactions, with a total market volume of over £40bn driven by a number of megadeals. Megadeals have been largely absent from the market in 2020, providing an opportunity for more sub-billion transactions to secure insurer interest. Volatility in financial markets and subsequent illiquidity, both caused by COVID-19, provided both challenges and opportunities for schemes. As credit spreads widened, exceptional value in pensioner Buy-in and Buy-out pricing relative to holding gilts was available between April and July for those schemes ready and able to transact quickly. Since then, pricing still represents better value than before COVID-19 and where schemes have the funding in place, they’re keen to transact. As a result, the market size in 2020 is estimated to have exceeded £25bn (source: LCP), making it the second busiest year on record. There are an estimated £2.4tn of UK defined benefit pension scheme liabilities which have yet to be secured with an insurer (source: PPF) and the drivers remain in place to ensure continued high demand for de-risking solutions. The draft of the Pensions Regulator’s defined benefit funding code is expected in spring 2021. The regulation is expected to ensure pension schemes are managing their risks appropriately and are on track to be fully funded by the time their cash flows turn negative, or face a bespoke approach to regulation. As a result we expect more schemes will have the funding in place to de-risk. Research by LCP in 2020 found that 80% of defined benefit schemes expected to reach their endgame within ten years, with steady annual demand for de-risking volumes forecast to be in excess of £30bn until 2029 (source: Hymans Robertson). In their outlook for 2021, Fitch also believe that the strong demand for defined benefit de-risking is likely to continue. Even with self-sufficiency and commercial consolidation as possible endgames, we believe trustees will be competing for insurer attention. While insurer capacity to write a higher volume of individual transactions will increase in the long term, over the medium termwe believe the demand for the number of de-risking transactions will exceed the supply available from providers. The seasonality in the defined benefit de-risking market has become less prevalent, with strong demand across the year. The exception in 2020 was in the months immediately after the first COVID-19 lockdown in March, when demand fell sharply but recovered again to pre-pandemic levels by early summer. Heightened government, regulatory and fiduciary focus alongside consumer activism has pushed environmental, social and governance (“ESG”) up the agenda for UK defined benefit pension schemes. Many trustees considering de-risking seek assurance that ESG considerations underpin the asset choices in the insurer’s investment portfolio. At Just, our assets are invested sustainably in line with our ESG policy and the Green Bond we issued in October, the first by a UK insurance company, demonstrates how we’ve embedded ESG into our investment strategy. In June 2020 the Pensions Regulator issued their guidance for so called superfunds, a pension consolidation solution for schemes and sponsors to transfer risk where they cannot achieve a Buy-out from an insurance company. The interim guidance sets out the standards the regulator states must be met in the period before longer-term legislation is in place. Regulation by the Pensions Regulator is outside of the insurance regime and so these new consolidators would not be subject to the more robust capital requirements of the Solvency II regulations. If these new arrangements are regulated as proposed, they would provide a cheaper solution to a Buy-out of liabilities for some pension schemes, although at the cost of reduced protection for members compared to an insurance solution. One of these new consolidation models is a bridge to Buy-out and so schemes entering would eventually come to the insurance market. This new superfund regime could provide additional competition for parts of the market we target. This won’t be clear until the government and regulator have established rules for superfunds.
TAKING THE RISK OUT OF PAYING COMPANY PENSIONS
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