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Death throes of defined benefit pensions / Life insurance prepares for Sovency II

This section of the original report addressed the coming seismic changes in retirement provision.

 

Provision for old age creates two of the major sources of capital for real estate investment, pension funds and life insurance companies. Both face significant changes. The impact of demographic change will affect pension provision as the developed world ages and a new middle class in the emerging economies looks to provide for its old age. Across the globe there is a continuing switch from defined benefit to defined contribution pension provision. In the UK, employers were closing or reducing defined benefit provision, and most even then saw defined contribution as their prevalent workplace pension provision in future. This represents a significant challenge for the real estate industry as defined benefit plans have been the more significant investors in real estate as an asset class. For real estate to continue to be a significant asset class for pension provision, the real estate industry needs to create product to appeal to defined contribution plans and defined benefit plans in run-off.

 

At the time this paper was originally published in 2010, we identified the looming threat for the real estate industry of the introduction of Solvency II, a major overhaul of the Directive regulating insurance companies in the EU. Life insurance companies were, and indeed still are, major investors in real estate as an asset class. In the two years following the publication of our paper, the Directive became a major source of concern for the real estate industry. In particular, the Pillar I, Solvency Capital Requirement market shock of 25% was felt to make real estate as an asset class unattractive relative to bonds. The treatment of lending and some of the unintended quirks in the Directive have encouraged insurance companies to expand their exposure to real estate lending.

 

In the longer term, Sovency II will encourage a switch from traditional on balance sheet insurance to unit linked products.

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