LONDON, 12 December 2014 - Aon Hewitt, the global talent, retirement and health solutions business of Aon plc (NYSE:AON), has welcomed the wide range of developments seen in the longevity swap market during 2014 but has warned trustees and sponsors that they need to ensure they fully understand some of the obligations they may be taking on.

So far, pension fund longevity swap transactions have involved the use of one or more global reinsurers.  However, reinsurers are unable to write business directly with UK pension funds and therefore a third party intermediary is required.

Martin Bird, senior partner and head of risk settlement at Aon Hewitt said:

"Intermediaries in longevity swap transactions typically carry out a number of functions.  Primarily, they allow the fund to access the reinsurance market, but they also carry out the lion's share of the servicing of the contract and perform all the necessary calculations, as well as providing credit risk protection against the reinsurers – many of whom like to use offshore subsidiaries to write this type of business."

Traditionally, a UK bank or insurer has acted as the intermediary and until the start of this year all of the longevity swap transactions completed had used this model.  Legal & General and Deutsche Bank are currently the most prominent intermediaries in the UK market.

Martin Bird added:

"2014 has seen a major change in the approach to intermediation.  We have advised on a number of new solutions which have made the headlines over the year.  The Phoenix Group Trustees, having the benefit of an insurance sponsor, has carried out a longevity swap transaction using a sponsor owned insurer as the intermediary, and Aviva has done the same.  The BT Trustees have set up and own their own insurance company in Guernsey to carry out these intermediation functions. All of these new structures are known as ‘self-intermediation’.”

However, setting up and owning an intermediary is not without its risks and complexities.  The traditional market has reacted to these changes quickly and is offering a number of new solutions designed to mitigate the risks associated with self-intermediation - but still offering most of the price improvement.

Matt Wilmington, partner in the risk settlement group at Aon Hewitt said:

"The primary driver for opting for self-intermediation has been cost.  Traditionally, a pension fund may have paid 1% to 1.5% to a bank or insurer to intermediate the swap.   While this can represent good value for sub-£3 billion funds, the costs can begin to outweigh the benefits when transaction sizes grow into the multi-billions.  New solutions with pricing structures which do not depend on scale have therefore been sought. 

“Self-intermediation is one such option, but for the fund owning the intermediary this can be fraught with practical, legal and regulatory risks as well as the additional complexity of establishing the vehicle and negotiating the reinsurance contracts. Furthermore, the use of offshore arrangements also introduces a significantly greater governance burden that needs to be thoroughly evaluated and understood."

Matt Wilmington added:

"A middle ground solution has been made available in which the bank or insurer accepts these risks and provides expertise, but the fund faces the credit risk of the reinsurers. The cost of this type of solution is very similar to self-ownership and we expect a number of larger funds to carry out this type of transaction in the coming months.  Trustees and sponsors thinking of entering into a longevity swap should be aware of all of these options, assess the relative value of each against the potential additional risks they are taking on and ensure that they make a fully informed decision about which structure is most suitable to meet their needs.”

Following on from 2013 when Aon Hewitt advised on £8bn of the £9bn of liability covered by longevity swaps, 2014 has seen Aon Hewitt’s risk settlement group advise BT Plc on the £16bn transaction completed in July and advise the Trustees of the PGL Pension Scheme on the £1bn of longevity risk transfer completed in June.

Media Contact:
Colin Mayes                                      Marina Jane Sanchez
Aon Hewitt                                         Capital MSL
01372 733689                                    020 3219 8811
colin.mayes@aonhewitt.com               marina.jane-sanchez@capitalmsl.com
 

Notes to Editors

About Aon Hewitt
Aon Hewitt empowers organisations and individuals to secure a better future through innovative talent, retirement and health solutions. We advise, design and execute a wide range of solutions that enable clients to cultivate talent to drive organisational and personal performance and growth, navigate risk while providing new levels of financial security, and redefine health solutions for greater choice, affordability and wellness.  Aon Hewitt is the global leader in human resource solutions, with over 30,000 professionals in 90 countries serving more than 20,000 clients worldwide.  For more information on Aon Hewitt, please visit www.aonhewitt.com

Follow Aon Hewitt on Twitter: https://twitter.com/AonHewittUK
Sign up for News Alerts: http://aon.mediaroom.com/index.php?s=58

About Aon
Aon plc (NYSE:AON) is the leading global provider of risk management, insurance and reinsurance brokerage, and human resources solutions and outsourcing services. Through its more than 66,000 colleagues worldwide, Aon unites to empower results for clients in over 120 countries via innovative and effective risk and people solutions and through industry-leading global resources and technical expertise. Aon has been named repeatedly as the world’s best broker, best insurance intermediary, best reinsurance intermediary, best captives manager, and best employee benefits consulting firm by multiple industry sources. Visit aon.com for more information on Aon and aon.com/manchesterunited to learn about Aon’s global partnership with Manchester United.