The extended period of historically low U.S. interest rates has been a headache for yield-challenged fixed-income investors such as insurance companies. Yet one income-oriented asset that has benefited some investors remains an option that might benefit insurers as well, even in a rising-rate environment.
Dividend-paying equities have been a tempting income alternative in an era of low bond yields. Insurers can access these opportunities as well, although they would typically be drawn to higher quality issuers with a history of paying above-average and steadily increasing dividends. While the U.S. Federal Reserve is focused on raising its benchmark fed funds rate to 3% by the end of 2019, there is no guarantee this will occur or to what extent other market rates will follow. In the interim, higher quality income equities might remain an attractive and viable income option for insurers and, we think, will remain attractive should rates rise.
Equity strategies in general offer insurers other benefits both short- and long-term: diversification to a portfolio often heavy in fixed income, issuer diversification (not all issuers offer bonds), tax savings through ownership of other company's equity, equity's natural inflation hedging qualities and its long-term growth advantage over fixed income. These considerations can help offset some of the concerns equities may pose, namely higher risk-based capital charges and greater volatility.