ADVERTISEMENT
As of January 1st 2016 Solvency II is live. Those responsible for managing the assets of insurance companies have spent years becoming Solvency II compliant, however the task of optimising strategies under Solvency II is far from complete. This is exacerbated by the low rates, high volatility environment in the market, making it difficult for firms to get the returns they want. Ahead of the 6th Annual Managing Insurance Assets conference, we spoke with Iain Forrester, Investment Director – Insurance Solutions at Standard Life Investments about their current investment strategies and how are these affected by the EIOPA 2018 Review. He goes on to offer his opinion as to how can capital models be better optimised through an effective collaboration between Asset Managers and Insurers. In addition Iain advises on the new asset classes that are worth pursuing and also sheds light onto Standard Life’s new investment products practices for balance sheet optimization. Finally, he gives an overview of the current yield environment in light of improving insurers returns on cash portfolios.How is the EIOPA 2018 standard model review affecting current investment strategies?
At Standard Life Investments, we commissioned independent research in 2015 to assess the longer-term impact that the low-return environment and Solvency II regulations might have on European insurers’ businesses and investment strategies. This research confirmed that the impact of low returns and regulatory change is not uniform, varying by region and insurer type, and that there were differences in the strategies that insurers expect to adopt in response. Material changes in the Standard Formula following the EIOPA review in 2018 could result in a similar divergence in insurers’ responses.How can asset managers and insurers most effectively work together to optimise their capital models?
In our recent white paper (“Managing a Matching Adjustment Portfolio”), we discussed our experience of working with insurers to optimise credit investments using (for example) a capital-adjusted return metric. We believe that this is an area where the asset manager can add significant value by embedding the insurer’s asset selection preferences (e.g. assets that provide attractive capital-adjusted returns) into its investment process. And, having done so, the asset manager can directly source assets that help to optimise the insurer’s Matching Adjustment portfolio. We have also seen an increase in European insurance companies looking to incorporate the Standard Formula SCR into their investment mandates. However, according to our recent survey, European insurers have concerns about the number of asset managers that will be able to meet complex insurer requirements.In your opinion, are there any other new asset classes that are worth pursuing? Can you give me some examples and why these are beneficial?
We have seen a number of insurers looking to increase their allocation to private market assets. This includes providing both the debt finance (Commercial Real Estate Debt, Private Placements) and the equity investment (Infrastructure). We have also seen Internal Model firms looking to increase their allocations to direct European real estate. These assets are attractive as they can provide:- Increased expected returns (through accessing illiquidity premium)
- Improved economic diversification
- Reduced capital requirements (for example, lower Standard Formula capital requirements for qualifying infrastructure investments)
How is your company using new investment products to optimise their balance sheet?
We have also seen insurers looking to diversify their sources of return. Under Solvency II, insurance companies can take credit for diversification between different market risks. So insurers are looking for investments in funds that provide diversified sources of return or investments that diversify well against other parts of their balance sheet. Standard Life Investments has a range of Absolute Return funds, including our Global Absolute Return Strategies Fund (GARS), which are proving very attractive to insurers. These funds have broad investment freedom and a risk-based portfolio construction. We have been providing Solvency II SCR analysis for these funds since March 2015.How can insurers best deal with cash reserves to maximise return in a low-rate environment?
Insurance companies will often maintain material cash holdings to back capital requirements, to meet liquidity requirements, or as part of their surplus assets. In addition, the risk-free yield curve used to value insurance liabilities under Solvency II is derived from the yields on interest rate swaps. So, where insurance companies have increased their use of interest rate swaps to match these liabilities, they will have seen their cash holdings increase. In the current yield environment, insurers are keen to improve the returns on these cash portfolios. They have been considering:- Do they need these assets to be highly liquid? For example, where assets are being held to back the insurers’ on-going capital requirements, the insurer could consider an allocation to longer-dated floating-rate assets (such as Commercial Real Estate Debt).
- Are they willing to take market risk? If so, the insurer may consider allocations to asset classes providing diversification and attractive capital-adjusted returns (such as Absolute Return funds).
