CAMRADATA’s latest Insurance CIO whitepaper looks at how insurers balance the pressure to move up the bond risk spectrum into corporate bonds, high yield and emerging markets, with the economic risks brought about by the COVID-19 pandemic.
The whitepaper includes insight from guests who attended a virtual roundtable hosted by CAMRADATA in September, including representatives from Aberdeen Standard Investments, Royal London Asset Management, Aegis, Foresters Friendly Society, Pool Re and Una Serguros.
The report highlights that insurance asset management is defined by two primary challenges – solvency-based capital charges and bond yields.
Capital charges have long-since driven insurers into lower returning assets. But higher capital charges for equities and other growth assets punish insurers who seek growth rather than just liability management through their investments.
Although solvency-based capital charges are a well-known structural problem, the restrictions they cause have come into sharp focus again in tandem with the second challenge of low bond yields.
Sean Thompson, Managing Director, CAMRADATA said, “Covid-19 has seen the return of an economic environment, not dissimilar from the financial crisis of 2008. Low policy bank interest rates have seen government bond yields fall once more to historically low levels and in some parts of Europe become negative. To confront this yield problem, insurers are under pressure to move up the bond risk spectrum.
“Higher capital charges will apply, but yields should improve. Unfortunately so does risk. Our panel discussed how insurers can assess risk in light of the pandemic and contrast it with the days following the 2008 crash when the corporate bond market was a buoyant place to be, providing essential insight for investors as we move through the pandemic.”
The panellists at the event are currently curtailing investments into riskier assets. This tactical reduction will switch when prices move back into line with value. Meanwhile, there is an ongoing strategic shift of capital into private debt and other forms of alternative credit. Security of income is a major issue here.
All panellists are getting to grips too with the incorporation of ESG metrics into their portfolios. Most seek greater standardisation of these metrics, but there was an acknowledgement that regulation is currently based on short-term historic volatility. The challenge for many is whether to even attempt to model ESG on such a basis.
Key takeaway points were:
- One panellist summarised the fourth quarter of 2020 as “markets have recovered but uncertainty is still there”. Another agreed and said that their clients’ focus right now is on portfolio resilience, moving up in up in terms of quality to avoid bad situations.
- If some insurers are tactically reducing their exposure to riskier securities, the other, more strategic trend evident from other panellists was a growing appetite for exposure to real assets.
- The CIOs of both large and small portfolios related that they have a big communications job explaining to shareholders what to expect from markets in current conditions. This matters in the context of the overall enterprise plan; where best to deploy risk and capital.
- The transition to a low-carbon economy was named as one of the top themes for strategic asset allocation this decade by one panellist, who also highlighted that it’s important for all insurers to build expertise and internal capabilities for climate change-related risks before it becomes mandatory.
The panel closed with one more risk to be managed: the UK’s withdrawal from the EU. The mood was realistically optimistic. It was noted that whereas there was a lot of complacency in the markets four years ago at the time of the Brexit referendum, markets had time to prepare for a ‘no deal’ scenario.
One panellist predicted that the maximum fall for sterling would be 8-10% should such an event occur. A final point was that most UK insurers have far less dependence on domestic investments than ten years ago – in particular the proportion of equities allocated to UK issuers was now much lower.
The whitepaper also features two articles from the sponsors offering valuable additional insight. These are:
- Aberdeen Standard Investments: ‘Embedding ESG considerations into Strategic Asset Allocation – an impactful evolution for insurers’
- Royal London Asset Management: ‘ESG integration in fixed income – preserving good intentions but delivering superior outcomes’
To download the Insurance CIO whitepaper click here
For more information on CAMRADATA visit www.camradata.com