Devising a sustainable investment strategy is no easy job for insurers at a time of ‘normalised uncertainty’. A recent survey by AXA Investment Managers of investment decision makers at over 120 insurers in Europe found that low interest rates, regulation, asset allocation and responsible investing are their biggest concerns.
With such diverse issues at play, it’s not surprising that many insurers – large and small, life and non-life – are opting to outsource some of their asset management activities.
Chris Price, head of insurance solutions at AXA IM in the UK, says that the survey identified different concerns among smaller and larger insurance players.
“Regulation is a key concern for smaller players from an investment point of view,” he says. “The survey found that smaller players are more negative about Solvency II than larger players because of the administrative cost and burden it represents. They’re less well-resourced than their bigger counterparts.”
Solvency II is just one example though and there’s more complex regulation in the pipeline. For example, the Packaged Retail and Insurance-based Investment Products (PRIIPs) regulation is expected to go live in 2018. It’s intended to help investors to better understand and compare the risk, rewards and costs of different products.
Price says there’s growing demand for asset managers who can help insurers understand and interpret such regulations in terms of asset allocation, as well as the required reporting and administration. “As we have the expertise and resources to do this for a complex, global insurer like AXA, we have the infrastructure in place to help smaller third party clients meet their needs – including solution design, implementation and reporting.”
Life and non-life insurers have different asset management priorities. Life players, for example, need to focus more on so-called matching adjustment rules when they are annuity writers. Solvency II rules are restrictive in terms of assets and cashflows and many life companies initially responded by adopting conservative investment portfolios.
But now they are looking to restructure their portfolios in an effort to improve yields.
Where insurers used to restrict themselves to government bonds and investment grade credit, they now want to include illiquid products and alternative credit. “The problem is that in plain form they don’t meet the matching adjustment rules. We can help them structure some of those asset classes in a way that will make them eligible for matching adjustment, and AXA IM is seeing demand for that service,” Price explains.
An example is Dutch mortgages, which are not valid in plain form but can actually be restructured to meet matching adjustment rules. Equity release mortgages, student loans and ground rent are other possible alternatives, but they also necessitate a sophisticated solution. For that reason, life insurers often look to outsource their requirements to asset managers with the appropriate expertise.
It’s not just the expertise but also the ability to originate the appropriate product that encourages outsourcing, Price points out: “At AXA IM we’re originating a broad range of products for our parent as well as third party insurer clients, and that makes us an attractive option.”
Non-life insurers also want to improve yield in a capital efficient way and they are increasingly open to investing in illiquid products and alternative credit risk.
“Insurers have been reluctant in the past to consider equities because of the capital charges they attract,” Price says. “But the sustained bull run in the equity market has led more non-life insurers to talk to us about capital efficient ways of taking equity risk.”
Another asset class gaining popularity among both life and non-life insurers is direct property, according to Price. “In the UK, the property market took a knock following the Brexit vote when some funds locked up as overseas investors withdrew money. It meant insurers were a little less keen until the early part of this year.”
“Now the property market has stabilised, insurers are more willing to reconsider property investment in the UK, as well as looking further afield to the Eurozone and US,” he says. “Property will become more attractive as an asset class in the medium to long term.”
“It’s also worth remembering that the assets we discuss with third party insurance clients are assets in which AXA itself invests – as a Group, we eat our own cooking, which is often a comfort to third party insurers,” Price says.
Insurers of all sizes can benefit from working with an asset manager like AXA IM that’s part of a large insurance group, including through access to niche market expertise and co-investment opportunities. AXA IM has many relationships with banks, sponsors and private equity companies and so sees the bulk of the attractive deals that come to market.
“For some strategies it helps in originating business if you can offer ‘larger tickets’ to the market,” Price explains. “If we can offer assets to insurers with a similar appetite as AXA it provides those clients with access to that large ticket opportunity – in infrastructure or real estate, or corporate loans, for example.
There is clearly a growing range of attractive alternative options, but because individual insurance companies don’t usually have the required depth of expertise across the spectrum of asset classes there’s a strong case for outsourcing.
Future proofing investment strategies is always advisable and especially so when there’s such uncertainty in the air. One area that is rapidly coming to the forefront of institutional investors’ minds in this regard is responsible investing.
The global insurance industry is in many ways an early-warning system for investors. By measuring and monitoring a wide range of risks, including their prevention or occurrence, the sector has evolved a deep understanding of inter-linked environmental, social and governance issues, and can help shape and protect investment and economic development.
However, with so much on their plates, some insurers have yet to make big inroads into responsible investing. “In the UK, for example, insurers have often been focussing on achieving better yields, which has usually sub-ordinated any underlying desire to get more involved in responsible investing,” Price says. “For these insurers, our survey shows that increasing regulation will be a primary driver for greater consideration of responsible investing strategies, as is the case in France.
“Also, where their investment management partners can demonstrate that they can invest responsibly without impacting the desired financial characteristics of portfolios, they would be much more receptive,” Price reckons.
“At AXA IM, we are helping both our parent and our third party clients address the risks posed by global megatrends such as Climate Change and what they mean in terms of particular asset classes, companies, sectors and regions, by integrating Environmental, Social and Governance (ESG) factors into investment processes and decision-making across as broad a range of asset classes as possible,” Price says.
AXA IM reports that third party insurance clients are increasingly adopting such strategies. For instance, they recently worked with Nippon Life in Japan to develop a European buy & maintain credit solution to help maximise and deliver stable yields, whilst helping to mitigate credit and reputational risk over the long term.
AXA IM’s recent survey clearly identifies areas in which an asset manager needs to excel to offer a strong outsourcing partnership to insurers - including a deep understanding of the major challenges that insurance investors are facing today, the ability to anticipate the material trends and future developments in the insurance industry and wider world, and the expertise and resources to work with each insurer to develop customised solutions to achieve sustainable outcomes for the long term.
AXA IM survey
AXA IM commissioned a survey of investment decision-makers at over 120 insurers, both large and small, in France, Germany and the UK. The four key findings are set out below:
Low interest rates remain the major challenge for insurers, with a large majority of respondents looking for new and alternative ways to face this challenge in 2017.
Impact of regulation on investments
Solvency II is emblematic of a paradigm shift in insurers’ investment decision-making. Besides financial and accounting considerations, regulatory factors have become a key determinant of the investment strategy.
The asset classes to which insurers plan to increase their allocations the most are in the alternative and illiquid spectrum, in particular structured products, infrastructure equity and debt, and real estate.
Compared to other institutional investors, insurers’ foray into responsible investing is still relatively young. This is, however, already accelerating where changing regulation is providing additional impetus.