Creative thinking around longevity risk

The U.K. has been a hotbed of innovation when dealing with the longevity risk found in pension schemes.  Historically, schemes had the option of a traditional buy-out or buy-in policy with an insurance company (a route which may be cheaper than some people realise).  Then we saw the advent of index-based hedging, although this option has its challenges and is more of a niche market at the time of writing.  However, other innovations have shown vigorous growth, such as the market for longevity swaps.  Now the BT pension scheme (BTPS) has shown a new level of creative thinking for pension schemes: setting up your own wholly-owned insurance company so you can tap the global reinsurance market.

BTPS's move brought a wry smile to my lips when I thought of the last time it appeared in our blog.  In that post I asked why pensions paid by an insurer were regulated more stringently than pensions paid by a pension scheme.  In particular, I noted that BT's pension scheme contained longevity liabilities as large as those of any insurer in the U.K.  And now part of BTPS's liabilities will be subject to insurance-company regulation after all!

Other novel options remain to be fully explored, such as the ability of pension funds and annuity portfolios to make long-term loans.  It is also clear that not all innovations will be options for every scheme — running an insurance company, like BTPS, is not a trivial undertaking.  Nevertheless, as scheme liabilities age rapidly it seems safe to bet on continued innovation and creative thinking in dealing with longevity risk.