• Insurers balance strong risk appetite with geopolitical uncertainty
• Asset allocation conundrum between cash, bonds and riskier credit
• Private markets in favour but not without hurdles
• Regulatory risk remains concern despite Solvency II implementation
Against a backdrop of geopolitical uncertainty, depressed bond yields, and anemic economic growth, BlackRock’s fifth annual global insurance survey of 315 senior insurers, conducted by the Economist Intelligence Unit, found that just 8% of respondents plan to reduce their exposure to investment risk, against 47% who expect to increase it and 46% who plan to maintain over the next 12-24 months. This result signals a slightly greater level of caution than in 2015, when 57% of insurers globally planned to increase investment risk against 38% who expected to maintain it.
Patrick M. Liedtke, head of BlackRock’s insurance asset management business in Europe, said, “The global investment landscape continues to be extremely challenging for insurers. While overall risk appetite has moderated slightly since last year, insurers are taking on significantly more risk compared to historical norms as they widen their search for additional sources of yield and returns.”
Brexit reinforces old trends
Weak global growth has been a key area of concern in past polls, with around 50% citing this as one of the most serious issues in their investment strategy since 2014, but it now firmly overlaid with a sense that the political environment has become much more uncertain. Geopolitical risk was cited by 51% as one of the most serious risks to investment strategy this year, up from 25% in 2014. A persistent low interest rate environment was the most cited serious market risk to investment strategies, according to 59% of respondents, followed closely by asset price volatility (57%).
While these results pre-date the Brexit vote in late June, an additional flash poll of more than 100 insurers found the anticipated effects of Brexit are seen as reinforcing pre-existing trends, particularly the notion that interest rates will remain lower for longer.
Liedtke continued: “Brexit is illustrative of how the market risks that insurers worry most about are highly influenced by political uncertainty.”
Asset allocation conundrum
Insurers’ willingness to assume greater investment risk contrasts with the large percentages who also expect to increase allocation to cash and government bonds.
50% of insurers said they planned to increase their cash holdings in the next few months, up from 36% last year, while 47% of insurers globally still expect to increase allocations to government bonds – the highest figure across the entire range of fixed income assets. This points to selective risk taking across asset classes.
At the riskier end, 41% of insurers plan to increase their non-investment grade fixed income weightings, compared to just 26% in 2015, and 21% of insurers plan to increase equity allocations, compared with 13% last year. At the same time, far fewer are planning to increase allocations to less risky investment grade fixed income than last year (21% compared with 45% in 2015).
Liedtke added: “The uncertain macroeconomic environment is creating a number of tensions and apparent contradictions in fixed income allocation. Insurers are stockpiling cash reluctantly, in order to move opportunistically when periods of market volatility allow. They also convert excess liquidity into additional income by pursuing riskier and less liquid forms of credit.”
Strong interest in private markets
The report revealed strong intentions to increase allocations to select private markets assets. 53% of insurers plan to increase their exposure to direct commercial mortgage lending, compared with 38% last year; while in commercial real estate equity, 48% planned an increase compared with 30% last year. Interest in private equity highlights this shift as well, with 49% planning to increase allocations compared with 27% last year.
However, insurers cited certain barriers to fully realising their ambitions in private markets. These issues relate to capital charges or the capital efficiency, a concern highlighted by 46% of respondents. Internally, engagement with management is crucial. 27% said they were working on education for internal stakeholders.
“Private markets present an excellent opportunity for insurers, and our survey reveals strong interest in certain income-producing assets and liquidity premiums in this area. However, certain barriers will need to be overcome. We believe a comprehensive assessment of all underlying risks along with access to the broadest number of deals, specialist expertise and the right processes to implement strategies are all key elements to success in this competitive market.” added Liedtke.
The long arm of Solvency II
Regulatory risk remains a significant macro risk factor globally, ranking third in 2016 at 46%, six percentage points higher than in 2015. Against that, however, new regulation is no longer seen as an especially critical driver of change in the insurance industry.
Regulatory concerns vary region to region but among the main topics for insurers worldwide, Solvency II ranks at the top and has transregional reach. It was cited by 53% as having the biggest impact on their investment decision-making. There was also a general expectation that capital reform was likely to come into force in regions beyond Europe over the next three to five years.
Liedtke stated, “Capital requirements from Solvency II have come into force at precisely the time that insurers have been ramping up their exposure to riskier assets in order to sustain current business models. Although the details might be different, insurers outside of Europe are preparing for a world of tougher capital requirements but with more opportunities to diversify. In a tougher competitive environment for insurers, the smart and efficient management of investments is becoming an increasingly important differentiator for success.”
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