The BOE is set to conduct a stress test on insurers to evaluate their exposure to reinsurers, reported the Financial Times, citing sources. 

The move comes as concerns grow regarding the risks that offshore reinsurance arrangements may pose to UK retirement savers.  

The Prudential Regulation Authority (PRA) of the BOE, which oversees insurers, has previously highlighted “significant potential risks” associated with the systematic use of funded reinsurance deals. 

UK companies are transferring around £50bn ($62.7bn) annually in pension liabilities to insurers, a trend accelerated by rising interest rates and improved pension scheme funding levels.  

To facilitate more deals and free up capital, insurers are increasingly engaging in transactions that pass on a portion of these liabilities, along with the corresponding assets, to reinsurers.  

These reinsurers are often based offshore in locations such as Bermuda. 

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As per the sources, the PRA’s stress test for the following year will include an “exploratory scenario” to model the impact on insurers of a potential failure in their funded reinsurance arrangements.  

This scenario is likely to simulate the collapse of a well-funded reinsurer, which would result in the primary insurer reassuming the pension risks without the assets that were initially set aside. 

In a typical funded reinsurance deal, insurers transfer key risks such as asset or longevity risk to the reinsurer, along with certain assets as collateral, following specific investment guidelines.  

There is a possibility that government bonds could be exchanged for other private credit assets as reinsurers seek higher yields. 

Global regulators have heightened their scrutiny of these agreements, especially when collateral moves offshore and escapes the purview of national regulatory bodies.  

The PRA has also proposed setting limits on the number of funded reinsurance deals insurers can undertake with individual counterparties and has demanded notification of any significant transactions in this area. 

In a statement, the PRA said it would “continue to monitor how market practice evolves in relation to funded reinsurance and will keep under review whether further measures are required”.