January 2024 Annuity Purchase Update
Preliminary data indicates 2023 was a record year in the Pension Risk Transfer Market with over 600 placements.
The Pension Risk Transfer Market experienced unprecedented success in 2023 closing the year at approximately $43-$44 billion in premium.
In 2023, we observed the increased capacity constraints of insurance companies throughout the year due to the surge of market activity. This underscores the significance of initiating an annuity purchase.
Annuity Purchase Interest rates decreased roughly 45 basis points since last month however higher stock market returns increased asset values.
In 2023, annuity purchase cost for retirees placed by October Three Annuity Services was on average 102.52% of the accounting book value.
The average duration 7 annuity purchase interest rate decreased to 4.49% and the average duration 15 annuity purchase interest rate dropped to 4.47%. As mentioned in the Pension Finance update, reduced interest rates elevated liabilities, however higher stock markets increased asset values. Despite the last two consecutive months of declining rates, annuity purchase interest rates displayed a consistent rise overall in 2023 reaching a historic high in the fourth quarter. The Pension Risk Transfer Market achieved extraordinary success in 2023. Initial findings suggest that over 600 deals closed in 2023, marking a new record for the Pension Risk Transfer market. In the second half of the year, numerous insurance companies reached their capacity, both financially and administratively, limiting their ability to bid on certain purchases. This market surge from 2023 is spilling into 2024. We strongly encourage plan sponsors to engage with an annuity brokerage firm to initiate the annuity purchase process as early as possible to achieve favorable pricing and to achieve de-risking goals.
Historical data shows that annuity purchase interest rates and treasury yields undergo fluctuations over time. The 10-year treasury rates correlate with the duration 7 annuity purchase interest rates. Similarly, the 30-year treasury rates correlate with the duration 15 annuity purchase interest rates. While annuity purchase interest rates and treasury rates experienced a steady increase in 2023, a substantial decline occurred in the last two months and this downward trend has persisted as we move into 2024. Overall, the average spread in 2023 between the 10-year and 30-year treasury rates ranged around 18 basis points. This last month, the spread of the 10-year and 30-year treasury rates has narrowed to 13 basis points apart. Also maintaining a small spread, the average duration 7 annuity rate and the average duration 15 annuity purchase rate was just 2 points apart this past month.
The graph below shows the spread between annuity purchase price above GAAP projected benefit obligation (PBO). We refer to GAAP PBO and accounting book value interchangeably. During the first few quarters of 2023, the spread between the annuity purchase price above GAAP PBO fluctuated until we entered the last quarter where we recorded a consistent increase. In January, the spread between annuity purchase price above GAAP PBO for both plans widened significantly. For Annuity Plan 1, the spread increased to 3.13% and Annuity Plan 2 broadened 6.57%. The current spread is higher than the 2023 average. A decrease in annuity purchase rates inversely increases annuity purchase prices relative to accounting book value. Please note that the below PBO calculations exclude future overhead costs paid by plan sponsors to retain participants in the plan. Administrative expenses and PBGC premiums are examples of these overhead costs.
The graph below represents the annuity purchase price relative to GAAP projected benefit obligation (PBO) of the retiree cases placed by October Three Annuity Services since 2021. In 2023, annuity purchase cost for retirees was on average 102.52% of the accounting book value. Since 2021, the average purchase cost was 101.16% of GAAP PBO. For optimal competition and increased participation, it is wise for plan sponsors to collaborate with an annuity search sooner rather than later.
Annuity Purchase interest rates consistently rose throughout 2023, concluding with a decline in the final month. The overall factors that had influenced the pension risk transfer deals in 2023 included elevated interest rates. Annuity purchase price for both hypothetical plans increased these last two months. However, the price increase wasn’t as substantial as the month prior. Annuity Plan 1 increased by 2.26% and Annuity Plan 2 by 5.50%. While overall, 2023 exhibited less overall volatility compared to 2022, certain quarters witnessed notable fluctuations. Strategically entering the insurance market early is essential during the planning stage due to the frequent short-term volatility in annuity purchase pricing. For plan sponsors terminating their pension plans, they could capitalize on beneficial fluctuations and favorable rates by settling the retiree portion of their liabilities.
Last year was a record year in terms of the number of transactions for the Pension Risk Transfer Market. Although annuity purchase rates took a hit the last few months, plan sponsors are taking strides to de-risk their pension plans. Robust market activity made it impossible for plan sponsors to transact as the fourth quarter was closing. Plan Sponsors should consider connecting with an annuity search firm and getting data in good order sooner rather than later to avoid the capacity constraint hurdles that will arise later in the year. Annuity purchases do not need to occur on an all-or-nothing basis so to capitalize on favorable market conditions, a plan sponsor should consider purchasing annuities for a subset of the retiree population with small benefits. PBGC premiums for participants do not vary based on the size of the participant's benefit. Purchasing annuities for a subset of the population would guarantee PBGC savings.