By Katy Burne
Insurers are weighing a new strategy for coping with the cost of
baby boomers living longer than expected: issuing bonds.
Banks began shopping at least two "longevity" bonds to potential
investors in recent weeks, the biggest spurt of activity the
fledgling market has seen. One is expected to close in late
March.
The bonds are sold with assumptions about how long people in the
issuer's pool will live. Bondholders receive regular payments, but
may see their principal eroded if the issuer needs money to plug
any shortfall in its reserves caused by longer life spans.
Corporate pension plans and life insurers pay for their own
protection against longevity, through insurers and reinsurers,
respectively. Those insurers and their reinsurers could then use
longevity bonds to transfer some of their risk to investors.
The first longevity bond was a $50 million issue in December
2010 from Swiss Re's (SREN.VX) Kortis Capital Ltd. The bond matures
in January 2017 and it priced at an interest rate of 472 basis
points over the six-month London interbank offered rate, a
benchmark.
The next came from Dutch insurer Aegon N.V. (AEG), which in
February 2012 brought a EUR300 million ($402 million) longevity
bond arranged by Deutsche Bank to cover EUR12 billion of reserves.
Aegon is back with its second deal, investors said.
Chris Madsen, head of risk structuring and transfer at Aegon,
declined to talk about future deals. "We have received requests
from several investors to participate in the old transaction or in
future transactions," he said.
The market hasn't seen regular sales, primarily because
investors were worried about the length of the bonds and the lack
of active secondary-market trading allowing for a quick exit, said
Pascal Koller, who invested in the Kortis deal and works for $20
billion Swiss asset manager LGT Capital Management.
Mr. Koller called longevity bonds "the holy grail for
banks."
Investors may be more receptive to a run of deals this year,
traders say, because the bonds offer rich yields at a time when low
interest rates and booming demand are keeping yields on other types
of debt low, said Niklaus Hilti, head of insurance-linked
strategies at Credit Suisse Asset Management, who oversees $5.3
billion.
The fact there are a few longevity securities in the market is
"a milestone," Mr. Hilti said.
Longevity exposures are estimated by Swiss Re to be $23 trillion
globally. The reinsurer is "always looking at opportunities" to
build on the Kortis transaction, said George Graziani, head of
longevity risk for Swiss Re in North America.
Financial modeling firm Risk Management Solutions estimates that
U.S. and European pensions with $10 trillion portfolios are at risk
of losing $1 trillion in a once-in-100-year event that causes the
average pensioner to live five years longer, such as the discovery
of a wonder drug.
To be sure, there are hurdles to the rapid development of a
longevity bond market. Amy Kessler, head of longevity reinsurance
at Prudential Retirement, said the risks to investors still aren't
well documented.
Many firms that buy bonds on a large scale, including pension
funds, also face growing costs from their members living longer,
and may be reluctant to "double down," said Dan Knipe, life
portfolio manager at Leadenhall Capital Partners, who oversees
around $900 million. He said pension funds in Australia and New
Zealand without defined benefit plans may be interested, as would
hedge funds.
Societe Generale, Morgan Stanley and Deutsche Bank are among the
banks vying to win mandates to arrange the new bonds, investors
said. Executives at these banks declined to comment on any pending
deals.
Write to Katy Burne at katy.burne@dowjones.com