Coronavirus deaths may trigger longevity swap margin calls for pensions

The sudden rise in deaths in the United Kingdom due to the Covid-19 coronavirus pandemic could result in some pensions having to post more collateral against their longevity swaps, as report suggest.

With some UK £90 billion of longevity swap transactions having been entered into by UK pension schemes, the increased exposure to coronavirus deaths is resulting in some need for actuarial calculations to be run to assess whether a margin call needs to made of the sponsors of transactions.

The UK’s mortality rate has risen significantly due to the coronavirus pandemic, as evidenced by the latest data from the Office of National Statistics (ONS).

The number of deaths involving COVID-19 and “Influenza and Pneumonia” increased compared with the previous week – Number of deaths registered by week, England and Wales, 29 December 2019 to 3 April 2020 – Source: ONS

In the short-term this increased rate of mortality has put new longevity swap transactions on-hold, as well as many other longevity reinsurance related deals.

The reason for this is the uncertainty over the numbers at this time, as well as the fact pension schemes may be facing a reduction in their overall longevity risk profile, meaning a reevaluation of their exposure is required to derive new longevity risk transfer plans.

But, as reported first by International Financing Review, the increased rate of deaths may result in pensions having to post more collateral to the insurance or reinsurance firms holding their longevity swap exposures.

Consultants are calling for pension funds to make sure they have the liquidity available to support any margin calls that come from their longevity swap re/insurers.

The Covid-19 pandemic could drive the mortality rate so much higher than had been originally envisaged and modelled at the outset of a longevity swap transaction, that collateral may be deemed insufficient to cover the exposure meaning top-ups are required.

The increased rate of deaths due to the pandemic will certainly affect current actuarial valuations of the swaps, likely triggering some margin calls for some counterparties.

But it remains too early for a formal review of longevity swap transactions at this time, actuarial consultants say, as there is still a great deal of uncertainty over how much higher the death rate will rise and how long it will remain elevated due to the coronavirus.

There is also the issue of a potential hit to longer-term mortality rates due to the coronavirus, with very little medical insight currently available as to what effect the virus could have on length of lives in the future.

As a result there is also the potential for such a pandemic to drive greater demand for mortality risk and reinsurance protection in future, should there be a negative effect to rates of mortality over the longer term.

While the immediate outlook for the longevity swap market is expected to be an on-hold status, as pensions and their consultants wait to see the full impacts of the pandemic, this could result in a much more active year in 2021 as things settle down and the forward-looking mortality rate is better understood.

Hymans Robertson explained, “Where schemes are now looking to transfer longevity risk in isolation through a longevity swap, we would suggest that there are reasons to wait until the full impacts of COVID-19 on longevity are fully understood.

“Insurers and reinsurers are likely to price prudently given that there is not enough data to sufficiently predict
the scale of a short-term mortality spike in pensioner populations, although the impact will be clearer once the first wave of COVID-19 has passed.”

But should activity in this market resurge, it will require reinsurance capital to be available, of course. Which the pandemic will also have a bearing on, as some of the major life reinsurers could find their balance-sheets shrunken if the financial markets and economy takes longer to bounce back than currently thought.

The main thing for those potential sponsors of longevity swaps and other pension de-risking strategies is to “plan, don’t panic” according to Andrew Ward, Head of Risk Transfer at Mercer.

Ward told us, “Clearly, one of the benefits of a bulk annuity or a longevity swap is to provide protection against longevity risk. This is clearly a challenging (and personal) thing to assess at the current time. As you would expect, insurers (and reinsurers) are closely monitoring the situation albeit not jumping to any immediate conclusions i.e. we are not seeing significant price reductions for this reason.

“That said, insurers have already indicated that they are likely to push reinsurers for improved pricing if current trends continue or, alternatively, may decide to retain longevity risk themselves. Either could result in improved pricing for schemes.

“In our view, ongoing market volatility highlights the need to think about transactions in a genuinely “joined-up” way, considering a wide variety of aspects (including investments, administration, risk, governance etc) when determining 1) whether/when to undertake a transaction and 2) how best to implement a transaction (and manage the risks along the way).”

Read details of many longevity hedging transactions in our longevity swap, reinsurance and risk transfer deal directory.