The UK life sector’s existing approach to funded reinsurance in bulk annuity business does not pose material risks, according to Fitch Ratings.

The rating agency said that rated insurers use diversified panels of “highly rated reinsurers” to limit their counterparty risk exposure, and funded reinsurance applies to significantly less than 30% of their bulk annuity business.

In contrast, it said that the industry reinsures over 80% of their longevity risk. It added that insurers sometimes require asset portfolios to be overcollateralised, according to reinsurer credit ratings.

Fitch Ratings believes that the use of funded reinsurance will become more prominent as the bulk annuity market grows. However, it said it does not expect a “rapid or unchecked increase in its use”.

“Most incumbents have significant excess capital and are only likely to need funded reinsurance to reduce capital strain on their largest transactions, although they may use it tactically on other transactions,” it said.

“Moreover, we expect insurers to remain within their stated risk appetites, including for counterparty risk,” it added.

The risks are expected to be further limited by tighter controls around exposures to funded reinsurance counterparties under the UK’s Prudential Regulation Authority (PRA) proposals published in November 2023.

More recently, the PRA confirmed it will continue to monitor how market practice evolves and will keep under review whether further measures are required.

Fitch Ratings concluded: “Potential entrants to the bulk annuity market may have higher risk appetites or a greater need for funded reinsurance to support growth if their capital is constrained. However, we believe the PRA will scrutinise any new entrants particularly closely in light of its warnings.”

Read the digital edition of IPE’s latest magazine