How has the LDI crisis affected insurers?
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Insurers overall have handled last autumn’s crisis from liability-driven investments better than pension funds, according to one chief investment officer. However, the LDI crisis means some insurers have had to review their collaterals.
The government’s Mini-Budget in September caused sharp price falls in financial markets, as fears that the government would be unable to fund its tax-cutting plans caused gilt yields to rise sharply and the net asset value of leveraged LDI funds to fall.
Rob Groves, CIO of Pension Insurance Corporation, outlined three reasons why bulk annuity insurers fared better during the LDI crisis than pension schemes, which “had run some significant stress”.
First, he said insurers are more prudent as they are used to stress testing because of the regulatory regime they work in. “This meant that they stress their derivative positions more,” he said in a video posted by PIC on LinkedIn.
Groves said insurers had also negotiated better terms on their derivatives than pension schemes.
“That means they were able to post their corporate bonds as collateral on their derivative agreements,” he explained.
Another difference, he argued, was cultural, as insurers are closer to their assets than pension funds.
He said: “Typically, an in-house investment team of an insurer will be able to see all of the assets and manage that holistically rather than externalising it to an outsourced investment manager.”
His views echoed those of the Association of British Insurers. In a blog post earlier this year, David Otudeko, assistant director and head of prudential regulation, and Maria Busca, policy adviser for long-term savings policy, noted that UK insurers were subject to Solvency II capital rules.
“This framework requires firms to not only have liquidity risk and capital management policies but also specifies requirements for them to conduct an own risk and solvency assessment. As part of the ORSA, firms must undertake wide ranging scenario analysis,” they explained.
However, not every insurer painted such a rosy picture.
Frank Meijer, head of alternative fixed income and structured finance at Aegon Asset Management, said being part of the Dutch insurer, the company hedged its liabilities on duration so it had a “big swap book”.
“So no surprise when rates went up, we got a lot of cash calls on the swaps. Obviously, that also meant that we had to sell a lot of the liquid assets on the balance sheet,” he said during a webinar hosted by Clear Path Analysis last week.
Meijer said as a result, the company’s balance sheet had shrunk and illiquids had become more important for the firm.
“It does have an impact because liquids actually went down maybe more in valuation than illiquids so you have a slight overweight to illiquids,” he observed.
The amount and type of liquidity to be held for potential future shocks is another potential issue. Ricky Varaden, senior investment manager at Legal & General Capital, said his firm had to review “whether the liquidity reserves are sensible in this environment”.
He said: “What collateral are we posting? If it is cash, do we have the cash? And if we don't, then is there something that is a better match based on what we have on the portfolios to post as collateral?”
Keith Goodby, head of shareholder investments and strategy at Aviva, said like several of its peers, his company reviewed the calibration of its liquidity risk appetite for new environments.
“We've started to try and be a lot smarter about how we manage collateral and liquidity solutions, so opening up more channels of collateral, looking to optimise how we post collateral,” he revealed.
He said Aviva had a variety of sources for collaterals such as reinsurance treaties and derivative contracts, “which all have very different terms”.
How has the LDI crisis impacted you?
