Pensions black hole keeps getting deeper

2007

Longer life expectancy is not just making retirement more expensive, it is hiking up the price of pension and insurance products for employers, many of whom are already reluctant to throw more money into what is increasingly seen as a financial black hole.

Mortality rates are improving by around one per cent each year, according to British consultancy Mercer, with those born between 1925 and 1940 experiencing a rate of around 3-4 per cent a year.

For employers faced with funding more pension scheme members for longer, this trend is making an enormous difference to the size of their pension liabilities – and means more companies than ever are simply deciding to cut their losses and run.

As new research by the UK Association of Consulting Actuaries (ACA) has found, more than eight out of 10 defined benefit, or final salary, pension schemes, have now been closed to new entrants, up from 68 per cent two years ago.

The number of schemes also closed to future accruals from existing members is now 14 per cent, up from a tenth two years ago.

The recognition of longer life expectancy has led to the arrival on the market of a range of new insurance and investment-based products, pointed out Mercer.

But many had much higher costs and strict limitations, it added.

"Until recently, there has been a shortage of investors looking to offer a solution and 'buy' longevity risk," said Mercer principal Richard Giles.

"Investment banks and hedge funds are now also developing longevity derivatives and this could be an important step along a rapid path to allowing longevity risk to be traded," he added.

Some provided protection for a limited period, normally 10 or 15 years, while others were based on an index rather than being customised to a particular scheme, he explained.

"Some of the current options on the market may appear to come with a large price tag. Pension schemes will need to increase their understanding of the longevity risks they face to determine whether the price is worth paying," Giles said.

The research comes against a backdrop of already mounting costs. The ACA survey of 336 employers found a pattern of mounting pension costs for those employers running final salary schemes.

Over the past five years, the average employer contribution had nearly doubled from 11.5 per cent to 22.6 per cent of earnings, it said.

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