The Macro-Economic Environment: The
Backdrop to Insurance Companies’ Investment
Strategies
Gareth Sutcliffe and Sam Tufts, EY
29 April 2017
Agenda
• Challenges in the current economic and regulatory
environment
• The impact on insurers’ investment strategies
• How insurers can successfully navigate the current economic
environment
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29 April 2017
Challenges in the current economic and
regulatory environment
Government bond yields are (still!) at all time lows
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Duration
► Extraordinary monetary policy
measures have left insurers facing
low and negative interest rate
environments
Spreads and market liquidity are lower than
historical averages
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BoA Merrill Lynch Global Liquidity tracker
► Strong investor demand for yield has meant
credit spreads have remained narrow.
► Demanding central bank bond purchasing
programmes and banking regulatory strictures
have impacted bond market liquidity
0.0%
1.0%
2.0%
3.0%
4.0%
5.0%
6.0%
7.0%
8.0%
iBoxx GBP corporate 1-5 index (spread over risk-free rate)
Long term average spread
While investors are worried about volatility, there
may be other issues to worry about…
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► Despite a large focus on volatility, based on
the VIX, the actual levels of volatility are fairly
low.
► Corporate leverage is at the levels, and has
seen the pace of growth, consistent with the
periods leading up to the last three recessions.
VIX - volatility index US Non-Fin Debt to GBP vs. Single-B Defaults
Inflation is on the rise…
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Global inflation index Euro area inflation
► Global inflation has seen a sharp increase
over the last year
► Inflation has also picked up across Europe
which could act as a drag on real GDP growth
Political and economic events have caused market
disruption and there may be more to come…
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Brexit vote
Over the last few years, a number of political and economic events have increased market volatility
US election result Euro crisis
Future political events are likely to drive further volatility within financial markets and the economy
Brexit negotiations French election Trump’s tax reform
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June Jul Aug Sep Oct
Identification and
calibration of
infrastructure
investments
Reduced infrastructure
debt capital charges Further advice around
Internal Model change
applications
= PRA
= EIOPA
Issued EU-wide
Stress Test
Updated methodology on risk-
free curve affecting non-EEA
currencies
Lowered risk charges
on high quality debt
and risk structures
Updated portfolios
used for calculation of
volatility adjustments to
the relevant risk-free
interest rate term
structures
Firms now allowed to recalculate
transitionals in light of low
interest rates (Brexit)
Issued proposed
updates for the
collecting of outputs
from IM for GI firms
and Lloyd’s syndicates
Update to RFR methodology,
includeing changing the
derivation of yields for corporate
bonds in case of negative yields
and update of the
representative portfolios for VA,
Proposes changes to PRA
rulebook:
- Liquidity reporting
- Capital resourcing
- Market risk
Approach to monitoring model
drift and reporting of Standard
Formula SCR information
The PRA and EIOPA have also kept insurers busy
post-implementation of Solvency II..
The impact of volatility on insurers’
investment strategies
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Investment trends as result of market volatility
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How insurers can successfully navigate the
current economic environment
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Strategic Asset AllocationScope
FrameworkExpertise
ControlsObjectives
Approach to investment strategy
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Constraints
Derive a strategic asset allocation proposal
Identify
business
level
constraints
Derive an investment framework with suitable objectives, constraints and
controls
Identify potential asset classes for investment
Identify
liability
constraints
Understand
market
practice and
investment
opportunities
Definition
of
investment
universe
Derive
investment
objectives
1 2 3
5 6
7
8
Define
investment
risk
measures
4
An effective investment governance framework can
allow you to take advantage of opportunities as
they arise
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Direct investments
Indirect investments
Step 1
Why
Step 2
How
Step 3
Third Party
Due Diligence
Step 4
Internal Evaluation
& Possible Actions
Rationale, controls, processes and
governance
Firm’s
oversight of
external
investment
providers
Internal supervisory
judgement and
possible actions for
risk mitigation
Assessment
levels
Investment type
Robust liquidity management can protect
insurer’s in market crises and add value
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1,000
2,000
3,000
1d 2d 3d 4d 5d 6d 7d 15d 30d 2 mth 3 mth 6 mth
lo
ows
View of Future Liquidity Position
► While insurers need to consider their obligations when managing liquidity, they can also consider
potential opportunities
► Insurers can look to generate an illiquidity premium on assets which aren’t needed to meet liquidity
requirements
► Through consideration of a firm’s liquidity requirements, liquid resources can be moved up the ‘ladder
of liquid assets’
Concluding remarks
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Conclusion
• Insurers need to adapt to the uncertain macro-economic
environment
• Insurers need to balance investing to combat low yields
against taking additional risk in order to meet return targets
• Volatile markets provide the opportunity for insurers with well-
controlled and developed investment capabilities to create
value and position themselves to generate an advantage
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Expressions of individual views by members of the Institute and Faculty
of Actuaries and its staff are encouraged.
The views expressed in this presentation are those of the presenter.
Questions Comments