Insurance companies, which historically favor bonds, have inched up their use of exchange-traded funds, which trade like stocks. The number of insurers investing in ETFs has more than tripled through 2017, to 612, according to consulting firm Greenwich Associates. That’s 62% of all insurance carriers.
At yearend 2017, US insurance companies had $27.2 billion invested in ETFs, a 37% increase from 2016, according to the study, done for State Street Global Advisors, a major ETF issuer (it launched the first one in 1993). To be sure, this is less than 1% of all insurance assets.
Some two-thirds of insurance assets are in bonds, which insurers prefer because of fixed income’s lower volatility and steady income stream from interest. Bonds’ maturities are customarily matched to clients’ ages and other actuarial criteria, with the aim of best being able to pay out when policyholders or their beneficiaries file claims.
Aiding the rise in insurer ETF usage is the National Association of Insurance Commissioners decision in April 2017 to change the accounting valuation method of bond ETFs that the carriers hold. Before, fixed-income ETFs were valued by their price, which can fluctuate substantially on the stock exchanges where they trade. Now, the industry’s chief regulatory body ruled, these ETFs can be valued by the underlying bonds in their portfolios.
The study found that, of the almost 40% of insurers that don’t invest in ETFs, most avoid them because of state laws or internal company guidelines prohibiting such investments. Their stock-like nature likely is the underlying reason.
The second-biggest reason for shunning ETFs also has to do with returns: These insurers don’t think ETFs will help them beat market benchmarks. That’s no surprise, since ETFs generally track market indexes.
Among non-users, though, some 82% said they would reconsider in the future.
Of the insurance outfits that do use ETFs, the attraction ranges from their low cost (as primarily index-based products, they don’t need a lot of expensive analysts and traders to function) and elimination of “cash friction.”
This is where an investor sells an asset and parks the cash waiting to buy something else with it. Cash doesn’t pay a lot of interest. Presumably, owning an index-linked vehicle, like an ETF, which contains many securities, lowers the need to be trading individual stocks, bonds, and other assets.
The study found that ETF investment was almost evenly split between life (42%) and property-casualty companies (38%), with health and reinsurance insurers making up the rest. There was also a fairly even ownership split among small (less than $5 billion in assets), medium ($5 billion to $50 billion), and large (above $50 billion) insurance companies.