Pension funds that operate defined benefit schemes are exposed
to longevity risk; the risk that their pensioners live longer than
predicted.
Their exposure has been growing rapidly in recent years as life
expectancy has increased - just one extra year of additional life
expectancy can add 5% to a pension fund's total liabilities. In
today's low-interest rate environment, pension trustees are
finding it difficult to earn sufficient returns to compensate.
One solution to this issue is for pension funds to transfer
longevity risk to the reinsurance market. Such a transfer can be
attractive for both parties.
From the pension fund's perspective, a life reinsurer is
often an attractive counterparty, both because of its deep
understanding of the nature of the risk being transferred, and
because it can provide a balance sheet big enough to assume a
meaningful amount of risk from the fund. The reinsurer is therefore
able to provide a reliable hedging solution for the fund.
