Insurers’ Investments Key to European Recovery, Claims Report

(June 14, 2013) — Insurers will play a vital role in stabilising the European economy, making it imperative for policy makers to make their CIOs’ lives easier, according to a sector study.

A report published by European insurance and reinsurance federation Insurance Europe and management consultants Oliver Wyman confirmed the industry is the largest institutional investor in Europe, with an estimated €8.5 trillion of assets under management in 2012.

That sizeable investment pot is crucial to the European recovery story, according to the report, as other sources of funding have been put under regulatory pressure.

Disclaimer alert: Insurance Europe as a lobbying group for the industry is clearly biased towards their sector, and Oliver Wyman is part of insurance giant Marsh & McLennan. That taken into account, their argument is still compelling.

The report highlights that Europe faces a total funding gap of between €4 trillion and €5 trillion between 2012 and 2016, caused by new rules forcing banks to reduce levels of maturity mismatching and liquidity risk, stunting their investment.

Insurers can provide long-term, stable funding for governments and business as a natural match to the long-term maturity of their liabilities, and they can handle liquidity risk.

“Our study confirms that insurers are a vital and ideal source of the long-term funding the European economy desperately needs,” said Sergio Balbinot, president of Insurance Europe.

“As we carry out our primary function as providers of risk-transfer, protection and pension products, we benefit from a continual flow of premiums and predictable claims that enable us to keep investing when others withdraw.”

There are four areas of concern which need to be addressed to make sure insurers can play their part for the recovery programme:

Solvency II rules not recognising that insurers can be long-term “buy and hold” investors, and therefore resulting in unnecessary capital buffer increases;

Tax incentives for insurers being removed by European governments struggling to claw back money into their Treasury;

New derivatives rules changing insurers’ approach to liquidity management and;

The prolonged low interest rate environment which is hurting insurers by pushing down yields on long-term debt instruments and pushing up their liabilities.

So which asset classes could benefit from insurer money? In theory, everything from short-term plays such as cash deposits and money market funds to long-term plays such as direct venture capital and loans are attractive. Infrastructure and private equity are also popular plays for life companies offering annuities, as they can adopt and long-term investment strategy, the report said.

But the reality is there are several obstacles stopping insurers from investing as they would like.

According to the report, European insurers collectively have 36% in corporate bonds, 28% in government bonds, 15% in equities, 5% in alternatives, 4% in property, and the rest in cash, hedge funds, derivatives and other assets.

The 5% allocation to alternatives, although it sounds small, is a sizeable amount of capital, and crucial to getting economy-boosting projects such as commercial property, infrastructure, venture capital, and private equity off the ground.

“The insurance industry provides funding for activities on which European economic growth depends,” explained Jan-Hendrik Erasmus, partner at Oliver Wyman.

“These range from infrastructure projects, mortgages and government debt to investments in small and large businesses. Also, because insurance policies often result in predictable cash flows for insurers they have a structural advantage in providing long-term financing.”

But here there are even more stumbling blocks in addition to those mentioned above: An insurer may lack the expertise required to invest in certain asset classes, and market timing and regional differences can also be a factor, the report said.

For example, long-dated bonds would be a good fit for insurers’ liabilities, but in some markets they are simply unavailable. Solvency II could assist here by providing a pan-European investment framework, lifting national restrictions on certain assets.

Prudential regulation can also affect insurers’ investment behaviour, making some of the longer term plays unattractive in terms of the capital buffers needed to sit alongside them.

These areas all need to be tackled head on, if we’re to make the most out of insurers’ capital, the report concluded. The full report can be read here.