Virus, low rates pushing insurers to take on risk

The COVID-19 pandemic and near-zero interest rate environment are driving insurance companies to turn to more illiquid assets within the private markets to capture yield.

In a recent survey of global insurers conducted by BlackRock Inc., nearly half of insurers (47%) are looking to increase risk within their portfolios, while roughly three-quarters (73%) of respondents believe the coronavirus pandemic will lead to fundamental industrywide changes.

"The low-interest-rate environment has insurers really worried," said Daniel Dunay, managing director and head of the financial institutions group in the Americas at BlackRock in New York. "You see insurers talking about increasing their risk exposure to find incremental yield. And just generally speaking, there's been a focus on how to find yield in a lower-rate environment."

Insurers are historically conservative and cautious investors that typically invest in investment-grade fixed income. But with rates being lower for longer, and since they are dependent on investment returns for income and profitability and to match liabilities, insurance companies are increasingly turning to riskier assets than they have traditionally invested in to achieve yield.

"Insurance companies don't do anything radical," said John Simone, managing director and head of insurance solutions at Voya Investment Management in Chicago, which manages $25 billion in assets from 50 insurance company clients. "It's like moving the direction of an aircraft carrier. But they are making changes. It depends on the segments of the industry."

Nikki Hall Jones, Willis Towers Watson PLC's New York-based director of investments, shared this sentiment. "Most insurers are very conservative with their portfolios," she said. "They're considering introducing private placement, CLOs, or high yield to their portfolios. But this requires a lot of education for them to understand the regulatory nature of these asset classes. So implementing things takes time."

And while some insurers are in the early stages of considering adding more risk to their portfolios, others have either begun the move or are ramping up habits that had already been in place prior to the pandemic.

"Income from investments is an important contributor to profitability for insurance companies," said Gregory Halagan, a principal and co-head of U.S. insurance at Mercer, Minneapolis. "So they've been increasing their fixed-income allocations outside investment-grade fixed income to below-investment-grade non-core fixed income across both public and private markets."

Within public markets, this can include below-investment-grade corporates or securitized assets. Within private markets, this can include income-orientated alternative asset classes within private credit, real estate, infrastructure and alternative credit solutions.

After the immediate goal of making sure their portfolios were strong and liquid when the COVID-19 pandemic hit, insurance companies focused on the challenge of where to find yield once markets began to stabilize.

"In March and April, insurers focused on ensuring they had enough liquidity," Mr. Halagan added. "Since the spring, we've seen them incrementally adding risk to their portfolios."

One such insurer is MetLife Inc. In an email, Steven J. Goulart, executive vice president and chief investment officer of MetLife and president of MetLife Investment Management in Whippany, N.J., said that over the past six months the firm has increased its "focus on private assets like private placements and commercial mortgages to take advantage of the lagged effect of early market dislocations, focusing on high-quality private placement names that offer an attractive premium."

Mr. Goulart added that the firm is also seeing "some great opportunities ... within the public corporate credit space ... to take on names that remain fundamentally strong, with great prospects, but perhaps for now, represent strong value on price."

Meanwhile, Legal & General Investment Management America Inc. has upped its investments in such illiquid assets as private credit and real estate debt because of the near-zero rate environment.

"It provides good diversification, some good names not available in the public markets, and provides better covenant protection," said John Bender, chief investment officer of fixed income and co-head of global fixed income, Chicago.

Mr. Bender added that although LGIMA is trying to stay consistent with its investment strategy, the firm is going "a little bit further out on the curve and a little bit down on quality but ... trying not to reach too hard on yield and trying to protect principal in uncertain times."

Although many insurers are turning toward similar opportunities, not all insurance companies are the same.

"Some, like annuity writers, depend on yield. Our liabilities are not like that," said Eric M. Kirsch, executive vice president, global CIO and president of Aflac Global Investments in New York. "Our underwriting is where we make the majority of our profit. We don't need yield to make those products profitable. We don't have that pressure."

Of Aflac Inc.'s $126 billion in assets, about $113 billion is managed internally while $13 billion is managed by external managers.

Sara L. Hakim, a senior vice president and consultant in Callan LLC's Summit, N.J., office, echoed this sentiment.

"It depends on the type of insurer," Ms. Hakim said. "Each have different liability durations. But in general, it's really how much risk they're willing to take on and how much in alternatives they want to invest in the portfolio."

Ms. Hakim added that what makes insurance companies unique as asset owners "is that their investments get rated by the ratings agencies, so they need to be mindful of the capital charges" they incur with their investments. This is in large part why "the lion's share of assets" for insurance companies "are in fixed income."

While most insurance companies already have in-house staffs that handle investments, many of them are increasingly turning to external managers as they go further outside their areas of expertise.

"Insurers are realizing in order to find yield and find value in this market they need to deploy a broader set of capabilities and rely on more sophisticated tools," BlackRock's Mr. Dunay said. "They need to just do more. They need to rely on more external help, bring in more external managers where they don't have the expertise."

Christopher Blunt, president and CEO of F&G Annuities & Life, said Blackstone Group Inc. manages roughly 90% of the insurer's assets, which gives the firm access to the private debt market.

"Our partnership with Blackstone paid off in dividends," Mr. Blunt added.

Over at Voya Investment Management, Mr. Simone said the pace at which the manager's insurance asset management business has grown has doubled over the course of 2020.

Meanwhile, according to Matthew Armas, global head of insurance fixed-income portfolio management at Goldman Sachs Asset Management in New York, the manager is "certainly seeing an increase in overall activity" from insurance clients, particularly in niche assets such as private credit, real estate and infrastructure.

"Our insurance company clients focus on where they have core expertise," Mr. Armas said.