Higher long-term bond yields driven by rising interest rates are lowering the cost of annuity purchases for defined benefit pension plans, says Mary Kate Archibald, a principal at Eckler Ltd.
Since January, the cost of an annuity purchase has decreased by between 10 and 15 per cent, as long-term bond yields increased from 1.7 to three per cent over the same period, she says, citing a new report by the consultancy.
And while equities markets have taken a significant hit in 2022, she notes there’s a good chance a pension plan sponsor’s liabilities have been more impacted than their assets, resulting in an improved solvency position that they may want to lock in.
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“In terms of investment strategies, one of the quickest things plan sponsors can do is implement a hedged portfolio . . . such as a combination of long bonds, corporate bonds or shifting into a full bond portfolio with a better match to liabilities and then lock in that funded position on a solvency basis, buying time to execute the further pension risk transfer strategy, such as purchasing a buyout annuity. That can take months and, during that time, a lot of things can happen.”
A previous report by Eckler found the Canadian pension risk transfer market registered total annual sales of $7.7 billion in 2021, with $6.6 billion of those sales taking place in the second half of the year. It also noted $4.6 billion (60 per cent) of these transactions were classified as buy-ins rather than buyouts in 2021, the biggest dollar amount since the first buy-in transaction in Canada in 2009.
Archibald says it’s likely this trend will continue in 2022. “There’s pros and cons [to buy-ins] but they’re a form of investment for plans that are looking to de-risk but not fully wind up. . . . Buy-ins can be just as effective as buyouts when it comes to locking in that funded position and are sometimes quicker to execute.”
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