The Near Future of Pension Risk Transfers

Will FedEx Corp.’s $6 billion pension risk transfer to MetLife Corp. prove a harbinger for another blockbuster year in the market?

The deal, announced May 8, will have MetLife pay benefits to about 41,000 retirees and other beneficiaries in FedEx’s pension plans. It is one of the largest pension risk transfers to be signed since 2012, when Prudential took on $25 billion in liabilities from General Motors and $8 billion from Verizon.

In the press release announcing the FedEx news, MetLife referred to a survey it conducted in 2017, which found that 57 percent of plan sponsors—up from 46 percent in 2015—are interested in annuity buyouts for their defined-benefit plans. Among those interested, 77 percent indicated they would likely transfer pension risks within the next two years.

Plan sponsors have incentives to shed pension risk, given the prospect of less-favorable tax deductions and higher backstop fees paid to the Pension Benefit Guaranty Corporation (PBGC). In addition, many companies have materially improved their funded status over the past year. They may want to transfer risk to an insurer while funded status is high, to preserve last year’s gains.

Matt Herrmann, head of the retirement risk management consulting group at Willis Towers Watson, notes that since the jumbo risk-transfer transactions of 2012, companies have only scratched the surface in shedding pension risk.

“Certainly, there is a fairly reasonable amount of runway for these activities to continue,” Herrmann says. “You’re going to see tailwinds. The question is: How big could the market get? We’re still at the early stages of its evolution.”

Eugene Noble, a research analyst at LIMRA, says the pension risk transfer market is “definitely growing and expanding” and that he expects the total value of deals to exceed $23 billion in 2018, as it did last year.

Other data suggest that—so far, at least—plan sponsors are exercising restraint. In the first quarter, single premium pension buyout product sales in the United States fell 3 percent from the first quarter of last year, to about $1.3 billion, according to the LIMRA Secure Retirement Institute quarterly U.S. Group Annuity Risk Transfer Survey.

Noble notes that in his research from the past several years, the first quarter of the year is generally the weakest in terms of volume of pension risk transfers. This first-quarter dip could also be a sign that plan sponsors are taking time to pause as they consider next steps.

Consultants urge companies to approach pension risk transfer decisions carefully. “It’s important to take a longer-term look,” says Alex Pekker, senior investment director of the pension practice at Cambridge Associates. “Now that plan sponsors are better-funded, sponsors are reconsidering their overall strategy for their pension plans.”

The main point of consideration, experts agree, is cost.

Pekker says he has been working with clients to weigh the cost of paying for a pension risk transfer (which can be as much as 15 percent higher than the accounting liability, depending on complexity) with the possibility of maintaining at least some liabilities on the balance sheet and hedging those liabilities effectively.

Richard McEvoy, head of Mercer’s Financial Strategy Group, also recommends a nuanced approach to pension risk management. McEvoy recently authored a paper, titled “Pension Investing for the Long Term: An Alternative to Risk Transfer,” in which he posits that plan sponsors should self-insure more complex liabilities. That’s because these liabilities are less-palatable to insurers, and the great supply of outstanding pensions means that insurers will increasingly be able to pick and choose which liabilities they take on.

The current deal volume, robust as it is, still amounts to less than 1 percent of the estimated $3 trillion dollars in annual pension obligations for the private sector in the United States, McEvoy says. “We don’t anticipate that the insurance market is going to be able to swallow all the obligations out there,” he adds. “Over time, the insurance market will be challenged to take on these obligations.”

In the meantime, McEvoy recommends: “Sell the easy stuff; wind down the hard stuff.”

Already, the pension risk transfer market has evolved in this way. The FedEx deal, according to MetLife’s press release, focuses solely on retirees. How companies will proceed in analyzing and slicing their obligations will dictate the size of the market at the end of this year.