|Title:||Global share of new mandates outsourced by type in percentages and including five-year average for 2011|
Start of full article - but without data
Share of New Mandates Outsourced
Type of Mandate 2011 X-Year Average
Broad fixed income roles XX.X% XX.X% Alternative investments X.X% XX.X% Specialized fixed income roles XX.X% XX.X Equity roles XX.X% XX.X% Ex-US fixed income XX.X% X.X% Real estate X.X% X.X% Multi-asset roles X.X% X.X% Total XXX.X% XXX.X% Base: (number of mandates) XXX.X XXXX.X
Note: Broad fixed income roles include core, core plus and
global man dates. Specialized include high yield bonds,
mortgage-backed. securities, cash management, inflation-
protected bonds, and other roles.
Source: Insurance Asset Outsourcing Exchange
Insurers and reinsurers are taking action to combat the effects of the low interest rate environment, which erodes their investment earnings, and to prepare for potentially unpleasant surprises as developed nations' economies wobble under the weight of debt.
According to professionals involved in the insurance asset-management space, the following trends have been shaping up:
* Companies have become more willing to consider outsourcing their activities, and some actually have done so over the past four years.
* Insurers have had to consider taking on additional risk in their investment portfolios to enhance their overall yields and net investment income.
* Insurers have adopted enterprise-based asset allocations with risk triggers, and are enhancing stress-testing of their portfolios.
"It's an extremely challenging time, not only because of the low interest rates, but also the changing regulatory environments," said Karen Wells, co-head of insurance advisory services at Towers Watson Investment Services. The firm advises XX clients in the Americas and Bermuda with $XX billion of investable assets.
Solvency II, under construction in Europe, will affect insurers in many parts of the world, and regulators in the United States are developing a similar system, Own Risk and Solvency Assessment, or ORSA, she said.
To fight low investment returns, insurers increasingly are considering taking on higher risk for better yields, mostly outside their core conservative portfolios. Among products under consideration are high-dividend stocks; non-agency residential mortgage-backed securities; certain bank loans to investment-grade companies; high-yield bonds; inflation-protected bonds; and emerging market debt.
Alternative investments such as private equity, private debt, hedge funds and commodities are also being considered. Insurers are also showing interest in adding to their real estate, master limited partnerships and tactical, non-derivative-based asset-allocation funds.
Many insurers have decided that managing their investments has become difficult and costly and that opportunities to outsource these capabilities are too good not to consider. Josh Goldfarb, a director in PricewaterhouseCoopers' insurance practice, noted that as investment incomes were squeezed, insurance companies realized that the corresponding expense portion of their income statements was not shrinking to follow suit.
"Insurance companies have a lot of fixed costs associated with the business, and a lot of that is due to the tools, resources and overall setup of the investment function," he said. "To get such fixed costs off their books, they have begun to turn to asset service providers to begin to shift to a more variable cost model. PwC's role in the industry has been as the 'honest broker in the room' to help both insurers and providers analyze, negotiate, contract and implement their potential sourcing relationships" These relationships can last for a decade or more, Goldfarb said.
David Holmes, partner in the three--member firm Eager, Davis & Holmes, established its Insurance Asset Outsourcing Exchange in 2008. He said outsourcing has grown because insurers need exposure to asset classes and investment styles beyond their internal capabilities.
Holmes, who has XX years' experience in the institutional investment business, said the firm has been tracking outsourcing since the early 1990s and that the exchange had grown to XXX insurers and XX asset managers. The exchange promotes knowledge about what insurers need and what asset managers offer by confidentially gathering information from insurance companies and investment managers. The data is analyzed and shared with exchange participants.
The number of new investment mandates outsourced from general account assets to third-party investment managers reported to the exchange accelerated from XXX in 2009 to XXX in 2010 before falling back to XXX last year. Some $XXX billion worth of assets were placed in those years, which the firm estimated to be XX% to XX% of global outsourcing activity.
These asset managers not only help insurers choose investments, but often work to ensure that the investments actively contribute to companies' enterprise risk management programs. Asset managers also help insurers stress-test their investments to see whether their capital could withstand major shocks and meet regulatory requirements.
"We have the ability to take a client's portfolio, put it into our Capital and Risk Analytics Toolset, and put it through a stress environment to see what that means to that portfolio and to that enterprise in its entirety,' said Bill Rotatori, president of General Re--New England Asset Management. "We can actually bring it down ultimately to statutory financial statement level so that you can see the effects on capital, earnings and ratios. Being able to stress-test is critical, and understanding the outcomes of that and what it means is very important to developing the investment strategy."
As of March XX, GR--NEAM was managing $XX billion in global unaffiliated assets for XXX insurance company clients.
Rotatori said his company has focused on integrating investment and enterprise-risk management since the late 1990s. In such a confounding, challenging time as this, he said the process is invigorating. "It really energizes us as a firm and allows us to have good conversations with our clients."
He said GR--NEAM prefers to stress test deterministically rather than stochastically.
"It's interesting to hear what clients define as the 'black swan' event, the tail risk about which they are worried," he said. "The stress case may include an acceleration of paid claims and a combined ratio deterioration to an extreme level. At the same time, let's look at interest rates going up dramatically and what that means to the company. If you can get through that and see you're still covering your cash flows, even if your capital is not what it was, and you're still meeting required ratios, you get good confidence that you've at least quantified what your risk is."
Goldman Sachs Asset Management, which manages about $XXX billion for insurers, including $XX billion for general accounts, similarly evaluates balance sheets, assets, liabilities and capital under a number of stress scenarios.
"Can they accept what could happen to their income, ratings and solvency under these scenarios?" said John Melvin, global head of insurance fixed income portfolio management. "If not, they either need to change their asset allocation and/or the features of their products, and/or hedge the residual risk." Goldman Sachs manages more than $XXX billion for clients of all kinds across its global platform.
Threat of Macro Risks
One of GSAM's test scenarios is a near-collapse of the European financial system. "It's driven by what we've seen going on in European Union countries on the periphery and the potential for them loving the euro, and the volatility that could spike from there due to extreme spread widening in financial assets in the eurozone with heavy contagion globally," Melvin said.
"It's not our base case, but it's a scenario we would have to take into consideration for clients," he added. "It would be very punitive and would certainly result in losses in the investment portfolio on a mark-to-market basis as prices drop on many risk assets. In terms of what our weight is on that, it's evolving with all the news, but it's significant enough that it merits very close attention." Another is the large federal budget deficit and low interest rates in the United States. "Those two cannot co-exist indefinitely," according to Mike Siegel, global head of GSAM's insurance asset management business.
The deficit could be closed through higher taxes and reduced spending, with significant implications on the economy, he said. Or, if the deficits are not reduced, the dollar could weaken and interest rates could rise.
"The one thing we know is that it's not long-term sustainable. So we need to scenario plan for the different ways it can play itself out," Siegel said.
He expects the market and GSAM's clients to focus on these major issues more closely after this year's elections.
Despite Europe's economic condition and U.S. fiscal issues, the current situation is probably much less difficult than during the global financial meltdown in November 2008. Insurers came through that crisis quite well even though, from the market perspective, it was much more stressful, Melvin said.
Andrew Canning, co-head with Wells of Towers Watson Insurance Advisory Services, said risk triggers are designed to align action with what is going on in an insurer's business, regardless of what causes a downturn in asset values. Clients that use risk triggers will plan to de-risk their portfolios if the surplus declines by a predetermined amount, such as X%.
"They may know the business can handle a X% decline in surplus, but if it gets to XX%, they are going to have some real trouble writing the type of insurance business they want to write," Canning said. "So as they move toward the triggers, they take risk off the table in a systematic way, and they're going to be in much better shape than their competitors."
* The Trend: Insurers and reinsurers are looking for better ways to manage their investment portfolios.