Berkshire Pension Fund's longevity insurance deal

The longevity risks associated with 11,000 former local government employees in Berkshire have been "effectively outsourced" to an insurance company as the result of a deal between the administering authority for the pension fund and insurer Swiss Re.

On this page:
First local government deal
Risk management
Bespoke contract
Investment changes.

First local government deal

The contract between the Royal Borough of Windsor and Maidenhead and Swiss Re - the first of its type involving a local government fund - covers about 11,000 pensions paid by the Royal County of Berkshire Pension Fund as at 31 July 2009. The insurance protection provided will continue until the last of this group of pensioners dies. It also covers contingent beneficiaries (for example, widows and partners), but excludes child beneficiaries. Occupational Pensions has recently examined the growing interest in longevity insurance.

The longevity insurance contract is designed to insure the risk to the fund of existing pensioners outliving life expectancy assumptions in the latest fund valuation. Chair of the pension fund's panel, councillor John Lenton, explained that his body has become increasingly concerned at the cost to the fund of increasing life expectancy, and has been looking at a means of meeting it for more than a year.

Put simply, the contract with Swiss Re means that the pension fund will continue to make roughly the same payments to existing pensioners as if there had been no change in longevity since assumptions were set in the 2007 triennial valuation. Swiss Re will bear the cost of any additional payments due to improvements in longevity, but will benefit if pensioners' mortality worsens. The Berkshire Fund will effectively outsource to Swiss Re the financial risk of pensioners living longer than anticipated. "Only the difference between these payments is settled between the fund and Swiss Re," according to John Lenton.

The liabilities that are covered by the longevity insurance contract are valued at approximately £750 million, and represent about 43% of the fund's total liabilities, based on the 2007 valuation. The impending valuation for 2010 is not expected to show that the new contract has increased liabilities, and, in the long term, it is hoped the insurance cover will produce a reduction in the fund's liabilities for current pensioners. The Berkshire Pension Fund has about 45,000 members, including the group of 11,000 pensioners covered by the insurance contract, 15,000 deferred pensioners and 19,000 active members employed by the six unitary authorities and other admitted bodies in Berkshire.

Risk management

Risk management is at the heart of day-to-day fund management activities at Berkshire, according to Nick Greenwood, the borough's pension fund manager, who started looking at managing the liabilities arising from excess longevity soon after he joined the fund in mid-2007. He decided that the easiest set of members to focus on initially were the current pensioners.

In selecting a product and provider from the fast developing market for de-risking products, Greenwood and his team believed that it was important to select a provider with whom they would be satisfied in the medium to long term. "We felt that having an investment bank as a counter-party for the next 70 years in the current climate was not a good idea. An insurer makes more sense, and we would also be covered by the financial services compensation scheme if anything went wrong," he points out.

Bespoke contract

The longevity contract with Swiss Re is "bespoke" - that is, it is a named life policy, specifying details of each pensioner scheme member's birth date, gender and postcode, rather than considering national longevity trends. The Berkshire Fund pays an annual premium to Swiss Re, fixed in real terms, as opposed to transferring a potentially large amount of capital as would usually be the case with a bulk annuity. The detailed discussions with Swiss Re were handled in-house - Nick Greenwood believes that the value added by using investment consultants would have been debatable, particularly given how important it was that the fund's panel understood what was being proposed. He comments: "I've seen several presentations from consulting actuaries in this area - they were often very complex."

Why did the Berkshire Fund opt for a longevity insurance contract to manage the risk of excess longevity rather than a buyout? "We did not want to transfer liabilities to a third party, and also wanted to retain a direct relationship with our pensioner members," Nick Greenwood says. He is now facing the challenge of covering the longevity risks associated with deferred and active members, although given that the latest deal was 12 months in the making, no immediate announcement is expected.

De-risking excess longevity in the case of active members and deferred pensioners will require a more flexible solution than that reached for current pensioners, as the risk profiles for these two groups is changing day to day. The analysis needed is also different - cash flow was the crucial factor in reaching a solution for current pensioners, whereas factors such as hedging liabilities are likely to feature in any arrangement agreed for active members and deferred pensioners.

Investment changes

An asset/liability study carried out following the 2007 valuation recommended that the asset allocation of the fund be broadened to include allocations to absolute return funds (including hedge funds), active currency funds, commodities, emerging market and yield debt, global property and infrastructure funds. New investment managers were appointed in spring 2009 to develop these new allocations, and an asset/liability study is now regularly repeated, according to the pension fund annual report and accounts for 2008/09.

The fund's valuation as at 31 March 2009 identified assets of £1,492 million and assessed that it had an actuarial deficit of £0.88 million.