AnnuityApr 30 2018

BoE warns insurers over risks in annuity matching

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BoE warns insurers over risks in annuity matching

Insurers have been warned to keep a close watch of the assets they use to match bulk annuity liabilities or risk painful consequences.

Bank of England’s executive director of insurance supervision, David Rule, said the increased use of illiquid assets such as equity release mortgages, with looser underwriting standards, warranted closer inspection by insurers.

In a speech delivered to delegates at the Westminster & City conference on bulk annuities and longevity in London on Thursday (26 April), Mr Rule said that while certain illiquid assets can be a good match by lowering portfolio risks through diversification, there are other dangers of which insurers should be mindful.

“The risks in this market are very different to those on insurer’s other assets. The main risk is long-term stagnation in UK house prices,” he said.

“Economically, the no-negative-equity guarantee is a written option on house prices.

“Low loan-to-value ratios mean the short-run risks to insurers are limited. They can ride out a property market crash as long as the market subsequently recovers. But loan-to-value ratios increase over time unless house price growth keeps pace with the rate at which interest is accruing.”

Mr Rule said that underwriting standards had relaxed considerably in recent years, with a slight increase in lending to customers who are younger than 65 and the average LTV ratios had also increased. He also noted that some lending levels now exceeded insurers’ risk limits.

“Plausibly the risk of a long-term correction in UK house prices has increased as houses have become less affordable and rental yields have fallen,” he added.

The Bank of England director concluded that insurers need to ensure that they fully understand the risks they are taking by shifting their investments into illiquid assets.

He said: “Our priorities are that insurers capture the compensation for the risks to which they are exposed.”

He added that it was important for insurers to hold appropriate capital against the risks that these new assets present.

“Both are key to ensuring that life insurers remain safe, sound and able to meet the promises they are making to holders of annuities over the coming decades.”