Longevity risk transfer market to boom, experts forecast

The longevity risk transfer market is forecast to boom in years to come, say experts, with as much as £100 billion of longevity risk transactions to come in the next two years, which could herald more involvement for the capital markets.

To date the majority of longevity risk transfer transactions have ultimately involved the risk being transferred to global reinsurance firms. Some of these transactions involve longevity swaps, to extract the risk from pension schemes to an entity able to enter into reinsurance contracts with a panel of major reinsurers.

As we wrote recently the global reinsurance market continues to have considerable capacity for longevity risk transactions, with a panel of up to 20 reinsurers around the world now willing and able to participate in assuming longevity risks. However, if the forecast for £100 billion of longevity risk transactions to come to market in the next two years comes true it could result in a greater focus on channeling at least a portion of this risk to capital market investors.

In this Financial Times article published yesterday, experts from the longevity market are quoted giving predictions and forecasts as to how much deal-flow we could see in the next year or two.

So far this year Artemis has recorded £9.6 billion of longevity risk transactions, a number which industry figures expect will more than double as we move through 2014. In the FT piece Andrew Ward, a principal at pensions consultancy Mercer, said that he expects to see over £20 billion of UK longevity risk transfer deals in 2014, as well as the potential for other groundbreaking transactions in other regions. Ward said the longevity risk pipeline is large for 2014 and beyond.

The £9.6 billion of longevity risk transacted so far this year features the largest transaction ever seen, which experts say will be followed by other large deals now the market conditions are conducive to ever bigger deals being brought to market.

Matt Wilmington, a partner with Aon Hewitt, said that this year has seen the start of the ‘mega’ longevity risk deals and that Aon Hewitt expects to see the longevity risk transfer market boom in the next two years.

“We estimates that there could be as much as £100bn worth of transactions over the next two years alone, freeing up much needed space on company balance sheets,” Wilmington told the FT. Risk transfer capacity for longevity risk currently exceeds demand for protection, meaning that market conditions are conducive for deal sponsors, Wilmington explained.

A £100 billion pipeline of longevity risk transfer transactions could be more than the global reinsurance market can stomach in a two-year period. While global reinsurers have a strong desire to assume longevity risks, it pays well and can be used as a hedge against assumed mortality risks to a degree, it is unlikely that reinsurers alone could take on £100 billion of longevity exposure on their own.

If the longevity hedging market does boom in this way we could see the resurgence of efforts to transfer the risk to capital market investors. Third-party capital does participate in some of the longevity swap transactions seen to date, particularly those transferring longevity trend risk or using an index. However the ability of global reinsurance firms to absorb longevity risk means that the capital markets have not participated as fully in this market as had been assumed they would a few years ago.

If reinsurance capacity alone cannot absorb demand for longevity risk transfer it makes sense that some of this should be passed onto the capital markets. This could be directly through participation in the transaction like another reinsurer, perhaps collateralized longevity reinsurance could become a feature of the market, or perhaps reinsurers will choose to lay risk off to third-party investors.

Reinsurers could use securitization as a mechanism to package longevity risk to transfer to investors, or alternatively reinsurers could set up third-party capital backed vehicles, like a reinsurance sidecar, for allowing investors to participate in their longevity reinsurance deals.

It has been said before that the longevity risk transfer market would boom, but this time market conditions are extremely conducive to enter into transactions and the appetite to assume the risk has perhaps never been greater at reinsurers. Could we see third-party capital being brought into the longevity market through reinsurers desire to assume ever greater amounts of this risk? It’s certainly possible and it would make sense for reinsurers to control this by managing the capital, allowing them to assume more longevity risk, earning fees for managing the money, while at the same time diversifying their own capital base to reduce their own risks as well.

View our list of longevity swap and risk transfer transactions.