Budget Impacts Pension Stocks

Last week's annuities news hit pension providers' share prices but long term, Morningstar analysts say the stocks are safe

Vincent Lui, CFA 24 March, 2014 | 1:30PM
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The introduction of a new budget bill in the U.K. could shake up the retirement landscape in that nation, with Aviva (AV.) and Prudential (PRU), which are big sellers of annuities, likely to feel the greatest impact from the proposed legislation. That said, we believe that Aviva will be more adversely affected than Prudential owing to the former firm's heavier focus on the U.K. We expect to take a much closer look at our assumptions for both Aviva and Prudential in light of this news.

At the heart of the issue for the insurers is the extension of retirement choices for the U.K.'s 12 million pensioners. Currently, defined-contribution (DC) pensioners are required to go through companies like Aviva and Prudential to purchase annuities for retirement savings. The new bill would allow pensioners the choice to cash out their DC benefits by taking a lump sum if their account values are less than £30,000 and invest the money at their own discretion. We estimate that 25% of the U.K. pensioners fall under this "low lump sum" category.

Given the relatively large number of pensioners who could potentially benefit from the new bill, its passage would likely have a negative impact on the U.K. insurers, which generate a significant amount of new business from annual annuity sales. For example, Aviva's £279 million of annuity sales during 2013 represented 64% of new business, and Prudential's 2013 annuity sales represented 16% of its new business owing primarily to its limited exposure to the U.K. market.

We believe the new bill will have the two insurers reconsidering their annuity businesses. Not only should they anticipate lower future sales, but competition with the UK banks could intensify further. The new bill also couldn't have come at a worse time for the insurers, as UK annuity sales have already been negatively affected by the Retail Distribution Review in 2013, which requires more extensive disclosure on agent commissions.

The information contained within is for educational and informational purposes ONLY. It is not intended nor should it be considered an invitation or inducement to buy or sell a security or securities noted within nor should it be viewed as a communication intended to persuade or incite you to buy or sell security or securities noted within. Any commentary provided is the opinion of the author and should not be considered a personalised recommendation. The information contained within should not be a person's sole basis for making an investment decision. Please contact your financial professional before making an investment decision.

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Securities Mentioned in Article

Security NamePriceChange (%)Morningstar
Rating
Aviva PLC480.00 GBX-0.27Rating
Prudential PLC682.60 GBX0.92Rating

About Author

Vincent Lui, CFA  Vincent Lui, CFA is an equity analyst for Morningstar, covering life insurance companies.

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