E l i S iEvolving Strategic Investment PoliciesInvestment Policies

Evolving Strategic Investment Policies

Michael HiraiFirst Hawaiian BankFirst Hawaiian Bank

Regulatory Investment GuidelinesRegulatory Investment Guidelinesfor Captive Insurance Companies

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Captive TypeClass 1 • Pure Captive 

‐ Single owner, Reinsurance only

Class 2 • Pure Captive‐ Single, Direct and Reinsurance

Class 3 • Multi‐Owner‐ Risk Retention Group (RRG)‐ AssociationAssociation

Class 4 • Sponsored (Cell) Captive

Class 5 • Reinsurance or Excess

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StatutoryClass 1 • HRS §431:19‐104 ‐Minimum Capital

• HRS §431:6‐101 to §431:6‐501 A ti l 6 I t to Article 6: Investments

• HRS §431:19‐110 ‐ Legal Investments (SIP)Class 2 • Same as Class 1Class Same as ClassClass 3 • HRS §431:19‐104 ‐Minimum Capital 

• HRS §431:6‐101 to §431:6‐501 o Article 6: Investments

• HRS §431:19‐110  ‐ Legal Investments (SIP)o Association Captive Onlyp y

Class 4 • Same as Class 1Class 5 • Same as Class 1

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Minimum Capital & Surplus

Class 1 • $100,000 statutory minimum • Investments in excess in accordance with

Strategic Investment Policy (SIP)g y ( )

Class 2 • $250,000 statutory minimum • Investments in excess in accordance with 

Strategic Investment Policy (SIP)Strategic Investment Policy (SIP)

Class 3 • $500,000 statutory min (RRG & Association)• Investments in excess in accordance with Article 6 (RRG)• Investments in excess in accordance with• Investments in excess in accordance with 

Strategic Investment Policy  (Association)

Class 4 • $500,000 statutory minimum I t t i i d ith• Investments in excess in accordance with Strategic Investment Policy (SIP)

Class 5 • No statutory minimumA d i d b I C i i• As determined by Insurance Commissioner

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Reserves (Per Article 6) 

Class 1 • CashClass 1 • Cash • LOC • Premiums receivable

i bl id l• Reinsurance recoverable on paid losses• Other forms approved by Insurance 

Commissioner (ie. Loan Backs)( )Class 2 • Same as Class 1Class 3 • Same as Class 1

Class 4 • Same as Class 1Class 5 • Same as Class 1

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Strategic Investment Policy (SIP)

Class 1 • YES ‐ Investments adopted and monitored by captive insurance’s governing body

Class 2 • YES ‐ Investments adopted and monitored by captive insurance’s governing body

Class 3 • NO ‐ RRG• YES ‐ Association• Investments adopted and monitored captive• Investments adopted and monitored captive 

insurance’s governing bodyClass 4 • YES ‐ Investments adopted and monitored 

captive insurance’s governing bodyClass 5 • YES ‐ Investments adopted and  monitored 

captive insurance’s governing bodycaptive insurance’s governing body

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Strategic Investment Policy ‐ StructureStrategic Investment Policy  Structure• Purpose• Background• Statement of Objectivesj

oTime HorizonoRisk ToleranceoRisk ToleranceoPerformance Expectations

• Authorized Asset Classes• Authorized Asset Classeso Minimum Capital Portfolioo Strategic Portfolio

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Strategic Investment PolicyStrategic Investment Policy (Continued)

• Duties and ResponsibilitiesoCompanyoCompanyoInvestment AdvisorC t dioCustodian

• Annual ReviewoAdvisor EvaluationoInvestment Policy ReviewoSIP Amendments

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Investment Strategies ‐ Captive Life CycleInvestment Strategies   Captive Life CycleEarly Stage

Mid Stage MatureStage

• Usually Less than 2 Years

Stage

• No cash flow history (Claims, premiums, and expenses)p )

• Start investing minimum capital• Limit investment credit and price riskLimit investment, credit, and price risk• Sample Portfolio: U.S. Treasuries

D ti 6 12 thoDuration 6‐12 months11

Investment Strategies ‐ Captive Life CycleInvestment Strategies   Captive Life Cycle

Early StageMid Stage

Mature Stage

• Partial cash flow history (Claims, premiums, and expenses)

Stage

expenses)• Surplus/excess cash may permit additional risk exposure (ie Credit or duration risk)exposure (ie, Credit or duration risk)

• Sample Portfolio: U.S. Treasuries/ Agencies/ CorporatesCorporatesoDuration 1‐3 years, Maximum maturity of 5 yrs.

• Evaluate the value added by a 20% ‐ 30% equityEvaluate the value added by a 20%  30% equity allocation

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Investment Strategies ‐ Captive Life Cycle

Early Stage Mid Stage

MatureStage

Investment Strategies   Captive Life Cycle

• Consistent cash flow history (Claims, premiums, and expenses)

g Stage

expenses)• Ability to increase exposure to duration and credit risk

• Accumulated surplus may allow an allocation to equities and inflation protection

• Same Portfolio: U.S. Treasuries/ Agencies/ Corporates/ Securitized

Duration 2 5 yearso Duration 2‐5 yearso Allocation to Equities 13

Strategic Investment Policy BenefitsStrategic Investment Policy Benefits

o Increased Investment Flexibility 

o Increased Administrative Flexibility

o Operating & Administrative Cost Efficienciesp g

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Evolving Strategic Investment Policies

Larry FernandesExecutive Vice President/Managing Director

Wells Fargo Asset Management/Wells Capital Management

Life, P&C, and Health Industry Yields 2008‐2012

Source: SNL Financial16

Property & Casualty IndustryProperty & Casualty Industry

Source: SNL Financial17

Investing Captive Insurance AssetsInvesting Captive Insurance AssetsCaptive Ownerp“My investment portfolio is another profit center.  I do not need an investment manager that understands the markets but not our needs ”markets but not our needs.

Portfolio Managerg“I expect a captive insurance company that hires me understands that I cannot possibly do the job without communication The investment manager mustcommunication.  The investment manager must completely understand the goals, objectives and constraints of the insurance entity.”

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Building The Investment PlanBuilding The Investment Plan

• What is the risk‐tail on the insurance coverage(s) g ( )included – short tail or long tail?  Should the liability duration be matched with the asset duration?

• What is your risk tolerance (volatility)?  What should be the asset allocation? Should it be managed on an after‐tax basis? What is the company’s business objective?

H h f th f d i th ti i i• How much of the funds in the captive are minimum capital required, loss reserve and unearned premium, and excess reserves?

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Building The Investment PlanBuilding The Investment PlanInsurance Capitalization • Minimum capital required• Loss reserves and unearned premium• Excess reserves• Excess reserves

Do Captive Insurance Companies in Hawaii Invest in Equities?• Hawaii captives can invest in equities • There are limits for RRGs• No more than 5% of assets in single nameNo more than 5% of assets in single name• There are no restrictions for Pure captives other than the 

Commissioners prohibition or limitation mentioned prior

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Do Domestic Captives Invest In Equities?p qYES!  Stocks offer growth opportunity to offset inflation.

U.S. Domiciled Captives Filing Statutory P&C Statement: Percent of Assets in Equities

21.3%

25%

19.1% 20.0%

13 4%15%

20%

13.4% 13.2%

8.7%

10.9% 11.0% 10.6%

12.6%

10%

%

5%

Source: A.M. Best Special Report – U.S. Captive Insurance, 08/12/13

0%2003 2004 2005 2006 2007 2008 2009 2010 2011 2012

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The Callan Periodic Table of Investment Returns –Annual Returns for Key Indices (1993‐2012)

Ranked in order of performance (Best to Worst)

Reprinted with permission. Copyright: Callan Associates, 2013.22

Asset Classes & Investment StylesAsset Classes & Investment Styles

Risk/Return Style ListingsRisk/Return Style Listings

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Performance MeasurementPerformance Measurement

• The case for and againstg– Total Return (long term; economic value)– Yield (short term; investment income)

• Return metricTotal Return (risk adjusted) v Yield (risk adjusted)– Total Return (risk adjusted) v Yield (risk adjusted)

– Net of Fees– Combined across all investment classes and managers

• Performance Attribution

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Choosing an Asset Manager g gor Mutual Fund(s)

• Experience with investing captive or traditional insurance assets – a valued and responsive partner with captive owners and the captive managerand the captive manager

• Quality of people within the organization• Time‐proven investment policy and process• Competitive and consistent investment performance versus 

benchmarks and peersTi l d t ti ifi t ti i• Timely and accurate reporting specific to captive insurance companies and their captive managers

• Additional service such as standby LCs, insurance trusts…y ,• Cost

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Annually Evaluate Your:Annually, Evaluate Your:

• Investment policyInvestment policy

i h d h fl• Unique company changes and cash flows

• Monitor portfolio performance

• Investment manager or funds 

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Evolving Strategic Investment Policies

Aaron Crane, Chief Financial OfficerSalem HealthSalem Health

Willamette Valley Insurance Corp.

Who is Salem HealthWho is Salem Health

• Located in Salem OregonLocated in Salem, Oregon• MSA population of 350,000

i h l h• Large community health system– 450 regional medical center– Rural critical access hospital (25 miles away)– 80 provider medical group

• Total net revenue of $550 million• 3,500 employees3,500 employees

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Reasons Salem Health Formed a CaptiveReasons Salem Health Formed a Captive

• Greater control of risk financing program– Benefit from favorable loss experience– Control over expensesControl over claims administration– Control over claims administration

– Control over the data• More responsive coverage designp g g

– Scope and flexibility of coverage– Potential vehicle to cover non‐employed physicians– Cover uninsurable risks– Ease in developing integrated risk programs

Source:  Proposal to our parent board in September 200429

Reasons Salem Health Formed a Captivep

• Less reliance on conventional insurance markets– Reduced impact during insurance cycles– Favorable dealings with excess insurance markets– Access to reinsurance markets where there is better– Access to reinsurance markets where there is better pricing and coverage

• Foundation for an effective risk management programprogram– Reserving discipline– Enhance clinical risk management efforts– Increase management awareness

S P l t t b d i S t b 2004Source:  Proposal to our parent board in September 2004

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Why we domiciled in HawaiiWhy we domiciled in Hawaii

• Second largest captive domicile in the U.S. (2004)g p ( )• Solid infrastructure of managers, auditors, banks, and attorneys

• Regulators are experienced with an effective and efficient track recordC t i l l th th id d• Cost is equal or less than others considered

• More convenient than Vermont, Bermuda, or CaymanCayman

• Arizona and Nevada are more convenient but lack experience and track recordp

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Our Line of CoverageOur Line of Coverage

• Professional and general liabilityProfessional and general liability• Insure the first $1 million per claim, $6 million in aggregatein aggregate

• Second layer through Zurich to $35 million• Other lines considered

– Workers Compensation– Long and short term disability– Equipment maintenance contractsq p

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TimelineTimeline

• Opened for business 10/28/04Opened for business 10/28/04• Invested exclusively in fixed income for 2 years• Fall 2007 developed a strategic investment• Fall 2007 developed a strategic investment policy– Leverage positive cash flow and loss experience ofLeverage positive cash flow and loss experience of our program

– Goal mirror parent investment philosophy– Partially fund risk financing through investment returns

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Portfolio Growth (000)Portfolio Growth (000)

$16,000 

$18,000 

$12,000 

$14,000 

$ ,

$6,000 

$8,000 

$10,000 

$2,000 

$4,000 

$ ,

$‐

Dec‐07

Jun‐08

Dec‐08

Jun‐09

Dec‐09

Jun‐10

Dec‐10

Jun‐11

Dec‐11

Jun‐12

Dec‐12

Jun‐13

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Portfolio Asset AllocationPortfolio Asset Allocation

80 0%

100.0%

60.0%

80.0%

20 0%

40.0%

0.0%

20.0%

r‐07

e‐08

r‐08

e‐09

r‐09

e‐10

r‐10

e‐11

r‐11

e‐12

r‐12

e‐13

Decembe

r

June

Decembe

r

June

Decembe

r

June

Decembe

r

June

Decembe

r

June

Decembe

r

June

Fixed Income EquityFixed Income Equity

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Portfolio YieldPortfolio Yield10.0%

2.5%

5.0%

7.5%

‐5.0%

‐2.5%

0.0%

‐10.0%

‐7.5%

r‐07

e‐08

r‐08

e‐09

r‐09

e‐10

r‐10

e‐11

r‐11

e‐12

r‐12

e‐13

Decembe

r

June

Decembe

r

June

Decembe

r

June

Decembe

r

June

Decembe

r

June

Decembe

r

June

Yield 12 mo BenchmarkYield ‐ 12 mo. Benchmark

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Next StepsNext Steps

• Evaluate increased equity exposureEvaluate increased equity exposure• Extend duration on fixed income portfolioC i l l i l l• Connect  actuarial analysis to actual losses to cash flow needs to investment policy

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