Actuaries publish exploration of pension pool design elements

The Canadian Institute of Actuaries (CIA) has published a new report, the Exploration of Lifetime Pension Pool Design Elements, wherein it says demand will lead to an increase in the number of lifetime pension pools, but that regulatory frameworks in North America are not ready and a lack of consensus on plan design elements hinder their development.

The report looks at the general dynamics of varying annuity payouts, adjustments, standard deviations, shortfall probabilities, the difference between open and closed pools (including setup and assumptions), hurdle rates and delayed recognition of gains and losses. The report also includes inflation models and mortality tables used.

“Several modern retirement arrangements, including lifetime pension pools, allow retirees to convert a single premium into income for life that varies with investment and mortality experience. It is anticipated that there will be an increase in the number of lifetime pension pools in the future,” they write.

That said, they add that impediments to the proliferation of such pools include regulatory frameworks “which are not fully ready for these pools,” and the lack of reliable ways to communicate and disclose risks to members. They add that there is also no current consensus on optimal pool design elements.

“The focus of the present report is this third challenge above; that is, pool design,” they write. The report also discusses risk and reward trade-offs. “For instance, open pools lead to significantly less risk than closed pools, especially once closed pools consist primarily of older members. Yet open pools yield average benefits that are slightly lower than those of closed pools with older members. This is thanks to the mortality credit asymmetry in lifetime pension pools, which occurs when the number of members in the pool decreases. Hybrid measures that take both risk and reward into account identify the open pool’s performance as superior over longer horizons,” the report states.

In a comparison of fixed hurdle rates and variable rates, meanwhile, they say a variable rate reduces the standard deviation of benefit adjustments but increases the standard deviation of benefits. “It is unclear if members care more about volatility in the benefits or their adjustments, so pool designers should be vigilant when selecting their hurdle rate assumptions.”