Prudential plc increases longevity reinsurance protection in 2015

Prudential plc, the UK domiciled life insurance, health, pensions and financial services group, significantly increased its longevity reinsurance protection in 2015, buying enough protection to cover an additional £6.4 billion of annuity liabilities.

Life and annuities insurers and investment firms are increasingly utilising longevity reinsurance capacity as a way to both manage their exposure to longer living customers, as well as to better manage their capital particularly under the Solvency II regulatory regime.

There has been an expectation for some time that UK bulk-annuity providers would use an increasing amount of longevity reinsurance, or instruments such as longevity swaps, as they seek to improve their capital positions under Solvency II. Prudential plc’s increasing use of longevity reinsurance would appear to be an example of exactly that.

At the start of 2015 Prudential only had longevity reinsurance protection covering £2.3 billion annuity liabilities, which it increased over the course of the year by a massive 278% to cover £8.7 billion of longevity risks related to its annuity portfolios.

The net cost to Prudential of securing this longevity reinsurance protection was £134m, across the course of 2015, with £88m spent in the second half of the year as it increased the amount of liabilities covered by another £4.8 billion.

By entering into the longevity reinsurance Prudential can benefit from advancing a portion of its free surplus on the annuities managed. The firm reported that the transactions generated a profit of £231m for the year, with £170m related to the longevity reinsurance transactions entered into towards the end of 2015.

Managing longevity exposure is vital for companies such as Prudential, which have large portfolios of annuities to manage, even more so now under Solvency II given the way longevity factors into solvency capital requirements.

The company explained; “Longevity risk (people’s propensity to live longer) is a significant contributor to our insurance risk exposure and is also capital intensive under the Solvency II regime. One tool used to manage this risk is reinsurance. During 2015, we completed deals on a number of tranches of bulk and retail annuity liabilities when terms were sufficiently attractive and aligned with our risk management framework.”

This is part of the expected increase in demand for longevity reinsurance capacity that is being triggered by Solvency II. There have been some concerns that traditional reinsurance capacity for longevity risk may begin to become more limited, as a result of increased demand.

For the moment there is no sign of this, as large reinsurance firms continue to soak up any and all longevity risk that comes to market. However the capital markets may get its day, if capacity dries up and the demand for risk transfer continues. That could be the catalyst that sees capital markets swaps return to longevity risk, providing opportunities for ILS players and investors that appreciate the returns possible from longevity risk.