Pension funds’ focus on ESG raises questions about insurers’ portfolios – Investing

Trustees of defined-benefit pension funds are increasingly willing to pay a premium for insurance products from companies with significantly better sustainability practices, according to a new survey, as scrutiny turns to extensive fund books of insurers.

DB pensions have become increasingly expensive for companies as returns have fallen and former employees are living longer.

Promises that once seemed affordable are now a source of significant balance sheet risk for employers, and a funding crisis over the past decade has contributed to high-profile collapses in the UK, including that of contractor Carillion .

It’s easy enough to sell exposures to companies and drive your numbers down, but that doesn’t necessarily change what happens on the ground.

Marcus Mollan, Aviva Investors

In an effort to reduce this risk, many employers and their trustees have turned to the insurance market, purchasing “package annuity” policies to cover portions of liabilities, called surrenders, until they can afford to liquidate completely.

In the UK, the block annuity market recorded £28.6bn of transactions last year, with similar totals in the less developed US market and smaller sums in countries such as Canada and the UK. ‘Ireland.

If a pension plan is sufficiently capitalized to purchase an insurance policy for all of its members, known as a buyout, it can transfer all assets and liabilities to an insurer and cease to exist on the employer’s balance sheet. .

But with partial insurance policies known as buy-ins remaining on the balance sheet, fiduciaries are beginning to question the enduring credentials of the insurers they deal with, who buy baskets of high-quality fixed-income securities and alternatives to match payments.

In a recent webinar hosted by UK consultancy Hymans Robertson, 62.1% of participants surveyed said they would be willing to pay a higher premium to transact with an insurer that handles environmental issues better, social and governance.

This is despite the fact that block annuity policies are not covered by the UK’s obligation for pension funds to disclose emissions under the Task Force on Climate-Related Financial Disclosures, and that the risk that Solvency II insurers will not pay is low.

The results therefore suggest that pension funds view this area as a logical extension of their ESG duties, even in the absence of significant financial or regulatory risk.

Of those who said they would pay more for better insurer management, the bulk of voters said they would expect a premium of 0.1-0.5%, or millions on some of the multi-billion pound deals signed in recent years.

Opportunity in better disclosures

Paul Hewitson, actuary and risk transfer specialist at Hymans Robertson, says no insurer in the market is so lagging that the company would advise trustees not to trade.

Instead, the assessment of ESG credentials guides pricing negotiations, with top performers, particularly in transparency and disclosure, expecting to be preferred over competitors at the same price level. Hewitson says that factors such as “if [insurers have] have not yet published their TCFD reports” will influence administrators.

Insurers, especially those operating multiple lines of business in addition to annuities, told a recent Hymans webinar that getting a clear picture of their scope 3 emissions is still a work in progress.

Hewitson says, “We’re trying to get more clarity on how insurers are trying to achieve their net zero goals. I think some of these details will be very important as more are released.

Unsurprisingly, insurers have been keen to show their clients that they have been integrating ESG into decision-making for some time – after all, the physical impacts of climate change are likely to have a direct impact on insurance.

The consultation we have seen so far does not give the impression that the government is doing enough to push us to clean up our wallets to the extent that the transition to net zero requires.

Anisha Gangwani, Legal and General Retirement

But while new assets see thresholds applied to investments in fossil fuel sources, for example, vast pools of assets purchased to fund past policies pose a more complex ESG challenge, even if the desire not to undo the portfolios compels to engage in the front.

“We prefer to do this by engaging with corporate borrowers rather than just divesting. It’s easy enough to sell exposures to companies and drive your numbers down, but that doesn’t necessarily change what’s happening on the ground, says Marcus Mollan, Director of Annuity Asset Creation at Aviva Investors, which has committed to net zero in its portfolio by 2040, with a significant reduction by 2025.

Although debt investors generally do not have the same leverage as equity investors when it comes to engagement, they are able to use the growth of sustainability-related debt to influence corporate behavior. Aviva is close to hitting its target of £1bn of sustainability-linked bonds in its portfolio, and says it is looking to use this to add sustainability criteria to existing loans through refinancing.

On commercial mortgages, for example, Mollan says, “We know borrowers will come back to demand more loans…let’s take both the historic mortgage and the new one and turn it into a sustainability-linked mortgage for the together.

“[Borrowers] know that the more they do on the ground now, and the more they engage with it now, the more attractive they will be when it comes to new financing or refinancing existing loans,” he says.

More rigor for the Solvency II spin-off in the United Kingdom?

Yet, while the burden of decarbonization in particular still falls on private investors, some believe policymakers should do more to steer the entire insurance market.

How should trustees integrate sustainability into governance?

Video: Expectations are rising for trustees’ ability to integrate sustainability into their plan governance and travel planning. Cardano Client Director Helen Prior explains how to articulate sustainability beliefs in policies, how to organize committees of directors, and how to balance risk and reward.

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The Bank of England’s Prudential Regulation Authority recently drafted a discussion paper on changes to the Solvency II regime imported from Europe, while the UK Treasury has suggested freeing up assets to invest in its “leveling up” program. the top “.

“There is a lot of talk about wanting to change Solvency II enough to shift insurers’ capital towards green infrastructure upgrades,” says Anisha Gangwani, head of investment business development at Legal & General Retirement.

“But the consultation we have seen so far does not give the impression that the government is doing enough to push us to clean up our wallets to the extent that the transition to net zero requires.

She welcomes the apparent willingness of some directors to pay more for better ESG products, as the pricing of investment-grade green projects has become so tight that insurers may be incentivized to leave this space in favor of corporate bonds. more “ESG neutral” if clients cannot share costs.

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