Standard Life Investments

Press Release

Investment Risks Heightened In Insurance Asset Management Across Asia Pacific

03  July  2017

Hong Kong, 3 July 2017 – An inaugural survey of Asia Pacific Insurers commissioned by Standard Life Investments has found heightened investment risks for insurance asset management in the region. The findings of the survey underlined the importance for insurers to address return gaps and asset-liability mismatches, and a switch towards more risk-based, outcome-oriented investment approaches.

51 interviews were conducted with senior insurance investment executives in six Asia Pacific markets1 , representing a combined US$4 trillion, or around 60% of the total insurance assets in the region. The survey identified three key risks that will have long-lasting impacts on insurers' traditional business model and asset allocation strategies.

Future return gaps and asset-liability mismatches

  • China and Hong Kong insurers' current return (5.4% and 5.6% respectively) are the highest among all Asia Pacific respondents, exceeding the 4.9% and 5.3% target return for their guaranteed savings products
  • On the contrary, many Japanese, South Korean and Taiwanese insurers are experiencing return deficits – the long duration of their products suggests these small gaps could generate material future losses if no action is taken
  • 55% of insurers cited asset-liability mismatches as an issue. The mismatches are in both directions: long duration liabilities backed by shorter dated assets and vice versa
  • More recently, Chinese insurers have been investing in longer-duration illiquid loans, often linked to infrastructure or local government finance, especially on shorter duration, high guaranteed return business
  • Hong Kong insurers also back shorter duration liabilities using long term assets

Dr Bruce Porteous, Investment Director, Insurance Solutions, Standard Life Investments, said:

Bruce Porteous

"Asset-liability mismatches are posing a big challenge for insurance companies globally. Asia Pacific insurers currently allocate nearly half of their investments (46%) to domestic sovereign and corporate fixed income. The current low yield on these investments means they are likely to struggle to meet target returns and guarantees.

"The insurers in China and Hong Kong have delivered the required return to date, however it is important not to overlook the significant duration and liquidity mismatch between their assets and liabilities. Inappropriate risk taking can bring challenges in a number of dimensions, including liquidity risk, credit risk and profit risk."

Turning to alternatives but lack capabilities

  • Cash, bank deposits and fixed income securities currently make up almost 71% of insurers' total assets invested, while current allocations to alternative assets stand at 8%
  • In search of higher returns, 78% of insurers intend to increase exposure to infrastructure over the next three years, 75% look to add to private equity and 64% to real estate. Infrastructure debt was seen as especially attractive as it can increase asset durations, helping to reduce asset-liability mismatches.
  • 34% intend to reduce domestic sovereign fixed income exposure
  • 78% plan to increase international investment over the next three to five years
  • 61% cited hedging costs as a major barrier to increasing international allocations
  • Currently, external managers manage less than 20% of Asia Pacific insurers' assets. 76% of insurers expect the trend to increase alternative assets to drive more use of external managers

David Peng, Head of Asia, Standard Life Investments, said:

David Peng

"Asia Pacific insurers see increasing exposures to alternatives and going global as a way to seek extra return, diversification and better duration matching of liabilities. However, with the lack of in-house capability many of them are increasingly open to the use of external managers, though barriers exist that external managers will need to navigate.

"The significant asset allocations shift taking place in Asia Pacific is leading insurers to consider outsourcing more complex investment mandates to external managers. This offers unique opportunities for active managers, who are expected to deliver alpha, demonstrate knowledge of local regulations, and fill the investment knowledge gaps."

Regulatory modernisation exposes investment risk

  • 51% insurers indicated that solvency regulations challenge their investment strategy
  • 46% said accountancy regulatory change will pose a significant challenge to their asset allocation
  • International accounting standards IFRS 9 and 17 which will move profit & loss reporting from book-based towards market-based and is expected to increase the volatility of reported profits
  • 89% of insurers stressed the need for closer collaboration between actuarial and investment teams as these regulatory changes are kicking in

Bruce added, "The transformation of the Asia Pacific insurance industry is re-shaping investment decisions. Despite differing solvency and accounting standards, there is a strong and consistent move towards more risk-sensitive solvency regimes and mark-to-market valuation for accounting. This exposes the true economic risks of investing in riskier assets as well as of running mismatched assets and liabilities, which is set to bring real and significant commercial consequences for insurers.

"Greater transparency on risk is not only leading insurers to shift from guaranteed savings to investment-linked products. It also means their investment portfolios need to be more outcome-oriented and risk-based, as opposed to the traditional benchmark, targeted return type of strategy. Insurers' investment decision making processes are set to change fundamentally."

Standard Life Investments manages global insurance assets worth around US$197 billion (as at 31 December 2016), with insurance clients across the UK, US, Europe and Asia Pacific.

1The survey was conducted by NMG, an independent global research consultancy, during Q1 2017, covering 51 insurers in six markets across Asia Pacific: China, Hong Kong, Taiwan, South Korea, Japan and Australia.