Matching adjustment mechanism
Uplift to the discount curve permitted under Solvency II for a ring-fenced asset portfolio matched to predictable liabilities, equal to the asset spread less the fundamental spread.
Textbook case: a ring-fenced annuity portfolio as of December 31, 2025, with an average asset spread of 145 basis points against a published fundamental spread of 38. The matching adjustment comes out at 107 basis points, added across the whole discount curve. On a 6 billion euro liability with a duration of 12, the present value of obligations drops by roughly 750 million euros, which flows straight into prudential own funds. The logic, set out in Article 77b of the Solvency II Directive, is simple: an insurer holding bonds to maturity to pay annuities is exposed to issuer default, not to price swings, and marking to market would saddle it with own funds volatility it will never realize. Access is narrow and needs supervisory approval. The assets must be ring-fenced and managed separately, their cash flows fixed and matched to the liabilities, with no significant surrender option and no discretionary reinvestment that breaks the match. The fundamental spread strips out what pays for expected default and downgrade cost, so the insurer captures only the illiquidity premium. In the British annuity market, the mechanism carries a substantial share of the sector's own funds.
Ring-fenced annuity portfolio as of December 31, 2025, average asset spread 145 basis points, published fundamental spread 38 basis points. The matching adjustment stands at 107 basis points, added across the whole discount curve. On a 6 billion euro liability with a duration of 12, that uplift cuts the present value of obligations by roughly 750M EUR, an amount that flows straight into prudential own funds.
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