Why some UK pensions might choose to run on

Buyouts are booming but trustees are thinking about alternatives, too

Two years, eight interest rate hikes and a gilt crisis may be changing the received wisdom in the UK pensions sector.

At an annual industry gathering in Edinburgh last week, trustees were starting to question whether going to buyout – long viewed as the industry ‘gold standard’ – should be the default option for managing pension scheme risk. 

Rising rates have sharply reduced the expected liabilities of pension schemes and left many fully funded, years earlier than expected. Pension scheme funding levels jumped from 86% in February 2020 to 112% in February 2024, according to data from XPS, a pension consultancy.

And this happy accident has supercharged the UK’s buyout market, in which schemes pay an insurer a premium to take on the risk of running the scheme. Around £600 billion ($760.7 billion) of pension assets and liabilities are expected to be transferred to insurers, between 2024 and 2030. At the same time, though, some trustees are thinking about alternative ways forward.

At the conference, run by the Pensions and Lifetime Savings Association, after a panel discussion in which two insurance executives extolled the benefits of buyouts, one trustee asked whether insurers were really the safest places for schemes to move their pension risk. After all, an insurer arguably has to take on more risk to make a profit in such deals.

As the trustee pointed out, the insurer will re-risk a portfolio to make a profit. And, if that’s the case, how come the schemes benefits are considered more secure?

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Insurers, which are subject to rigorous regulation in the form of Solvency II and its Matching Adjustment, would say they are more adept at handling the risk in question. But the trustee’s challenge reflects how an industry, long the prisoner of inertia, may be starting to think differently. 

Recent concerns over the use of funded reinsurance, a practice that has allowed insurers to pursue buyout deals more aggressively, are giving some trustees and consultants cause for concern. And a series of regulatory changes, too, may be nudging schemes towards running on, in which they continue to manage their own investments as an alternative to a buyout. 

A consultation published by the UK’s Department of Work and Pensions late in February proposes allowing corporate sponsors to access the surplus of well-funded pension schemes. That would mean companies could dip into a pension scheme’s surplus to boost retirees’ benefits, and even maybe to boost profitability. 

Plans announced in the UK chancellor Jeremy Hunt’s Mansion House speech last July to consolidate the country’s 5,100 pension schemes – nearly three-quarters of which are under £100 million in size – would also help make running on more plausible for those schemes.

Using pension schemes to make money as well as to pay retirees comes with risk of its own, of course. And only 18 months ago the Bank of England was forced to intervene to help schemes with poorly managed leverage. 

Some that spoke on the sidelines of the conference questioned the suitability of the UK’s trustee structure, where trustees are often heavily reliant on consultants and asset managers, to run-on large schemes successfully. 

The mood, though, seems to have shifted. No doubt, buyouts will continue to be the most popular option. But they may not be the automatic choice.

Editing by Rob Mannix