The UK’s DB pension schemes have continued to increase their assumptions on how long their members will live, further increasing the pressure on company finances, according to data from Mercer’s 2014 Valuations Survey. Mercer estimates that, for each month of increased life expectancy, the liabilities of a DB scheme with £100 million in liabilities will increase by about £300,000. A scheme increasing the life expectancy of their members by six months would increase the overall cost of providing their pensions by £1.8 million.
Mercer’s 2014 survey analysed data from 202 UK DB schemes with £59 billion in assets and over 670,000 members (deferred, active and pensioners).
According to Mercer, trustees of DB schemes are assuming that, on average, women aged 65 will live an additional 25 years and six months to a total age of 90 years and six months. Men aged 65 are assumed to live an additional 23 years and four months reaching a total average age of 88 years and four months. In contrast, in Mercer’s 2011 Valuation survey, trustees were assuming that men who are now aged 65 would live until 87 years and 10 months.
“Member longevity is one of many critical risks impacting the financial health of a DB pension scheme, but it's very hard to anticipate with any confidence. It’s possible there is no end in sight to the increases,” said Dr. Deborah Cooper from Mercer. “Whether the money to pay for the increases comes from asset performance or company contributions, it’s a further ratcheting up of the financial pressure on companies as their exposure to risk stretches over a longer period. Consequently, trustees and employers need to look for ways to manage the financial consequences of increased longevity.”
The financial impact of increases in longevity is why, in July 2014, Mercer and Zurich, the global insurer, launched the UK’s first competitively-priced longevity hedge accessible to the majority of the UK’s defined benefit (DB) schemes. The hedge is specifically aimed at helping DB schemes of all sizes manage longevity risk and can be combined with actuarial, administration and governance services as part of Mercer’s new SmartDB service.
Given the financial impact of increased longevity, Mercer’s survey investigated how schemes were approaching risk management more broadly, from using longevity swaps and buy-outs through to liability management solutions including scheme closure. According to the survey, schemes were adopting a combination of strategies. The most popular option (92%) has been to close the scheme to new entrants. This was followed by monitoring funding quarterly - or more frequently - and the closure of the scheme to future accrual (both 60%). Fifty-seven percent were reviewing their investment strategy, 54% had increased the regularity with which they monitored covenant while 38% were considering using contingent assets. Additional tactics were the use of an LDI strategy (22%), liability management exercises, such as Pension Increase Exchanges (PIE) and Enhanced Transfers Value exercise (ETVs) (12%) and dynamic de-risking (10%). Longevity hedging, buyout or partial buyout or benefit design change were each cited as tactics in 7% of cases.
Dr. Cooper added “Historically, valuing pension schemes was done triennially – with more approximate reviews being carried out annually – but as DB schemes have become a more onerous burden, this has proved insufficient for many sponsors and trustees. It’s encouraging to see that over 54% of trustees are saying that they are monitoring their funding level at least quarterly - 8% do it on a daily basis, so are able to react more quickly to market changes. However, that still leaves a large proportion of schemes where risks are not actively managed.”
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