The majority of insurance companies surveyed in a new study from BlackRock plan to increase holdings in one or more income-producing private debt strategies.
Eighty-two percent of the insurers, comprised of 248 respondents and representing $6.5 trillion in assets, said that they would increase allocations to at least one alternative credit strategy such as commercial real estate (CRE) debt, direct lending to small- and medium-sized enterprises and direct commercial mortgage lending, areas traditionally dominated by banks.
Global insurance companies are seeking more investment risk to protect profit margins, as they feel the impact of quantitative easing. Alternative income sources are in favour as a result.
Forty-two percent will increase allocations to CRE debt, 39 percent to direct lending and 38 percent to direct commercial mortgage lending. Only 18 percent said they would increase their allocation to infrastructure debt. Thirty-eight percent are planning to decrease their holdings to infrastructure debt as a result of the sector being highly competitive, in short supply and sometimes with lower than expected yields.
“Insurers are turning to a broader range of assets, particularly income-generating alternative credit investments such as direct lending, in order to diversify returns and boost income. But it isn’t easy as these markets often aren’t their natural habitat, and there are barriers to being successful here,” Patrick Liedtke, head of BlackRock’s insurance asset management business in Europe, said.
Stricter capital requirements under Solvency II, which will take effect on 1 January 2016, are also pushing insurers to diversify and increase holdings of investment grade fixed income. The number of respondents looking to increase these holdings has doubled to 45 percent from 24 percent a year ago. The most critical driver of industry change over the next 12 to 24 months will be regulatory changes, according to 49 percent of respondents.
A lack of market liquidity makes accessing fixed income investments difficult however, with roughly three quarters saying that it is lower than pre-crisis levels. Thus, insurers are planning to increase their use of derivatives (69 percent) and Exchange Traded Funds (67 percent).
Persistently low interest rates, sharp rises in interest rates and asset price correction are cited as the most serious market risks for insurance company portfolios over the next two years. Over half of the respondents expect to increase cash holdings over this period specifically because of quantitative easing and monetary policy.
Mike McGavick, chief executive officer of XL Group, commented in an accompanying report: “We’re holding cash as we want the flexibility to be opportunistic.”
The Economist Intelligence Unit surveyed senior executives from insurance and reinsurance companies for the study.