Raise the stakes

For more than a decade now the bulk buyout market for annuities has been a
two-handed game between Legal & General and Prudential. However, as we
foreshadowed in February, the game is now starting to change.

Two former Pru directors, Mark Wood and Isabel Hudson, have each announced
the formation of new entities backed by players from the capital markets. Wood’s
company is Paternoster and Hudson’s is Synesis Life, and both have ambitious
plans that could have a huge impact on the buyout market.

Dennis Canham, director of corporate annuities at Legal & General, says
that, as yet, not much is known about either company, except that both are said
to be going through the process of getting the approval of the Financial
Services Authority to take a hand in this game.

“I can’t foresee that they will be refused permission, and my expectation is
that we will indeed see new players in the bulk buyback market,” says Canham.

Wood was formerly head of Prudential’s life assurance business. His new
company, Paternoster, is reportedly backed by Eton Park International and
Deutsche Bank. The company is said to have raised £500m of equity finance and
will aim at mid-range funds. Hudson’s company is reportedly targeting large
funds with liabilities of around £10bn.

A third potential player is a new company set up by Edmund Truell, the
founder of Duke Street Capital. According to The Times, Truell has recruited the
banker Lord Rothschild as a non-executive director of the new company.

The scope for new players in this market comes from the fact that, under
current conditions, it is extremely expensive for companies to try to sell their
final salary scheme liabilities to a bulk annuities player.

As Canham explains: “When we take over a scheme we are transforming the
pension promise – and it is no more than a promise – into a guarantee.” Because
Legal & General and the Pru are guaranteeing payment of all the benefits due
to members, the scheme has to be fully funded and both organisations want the
company handing over the scheme to have a pension fund that is already well
invested in index linked gilts and good quality corporate bonds.

Any company with a final salary scheme that has a high equities content is
likely to find difficulty in getting either the Pru or Legal & General to
take on their fund, no matter how much the company is prepared to pay to get
shot of the risks associated with it. The problem we have is that there is just
not enough index linked gilts around at the moment. Whoever has them keeps them
to maturity. There is not much liquidity in the market, so it is hard for us to
sell equities and match our liabilities with index linked gilts,” says Canham.

It is thought that the new players will be prepared to bet on equities being
a stable asset class over a 30-year time span, and that this will mean that they
will be prepared to do deals more cheaply than either the Pru or Legal &
General. However, in Canham’s view, the most likely impact of new players will
be to expand the bulk buyout annuities market – to the likely benefit of all
involved.