Private equity firms have spent nearly $ 40 billion buying American insurance companies in recent years, promising to earn higher returns on mountains of money insurers have set aside to pay policyholders in years or decades.
Companies are shifting some of the money from traditional low-yielding investments like government bonds to riskier, harder-to-sell assets like private loans and equity.
The change caught the attention of regulators and raised concerns about a liquidity shortage if asset managers were to hurriedly liquidate large portfolios to deal with insurance claims.
PE-insurance marriages can be joyful: asset managers have skills and access to investments that insurers lack, and insurers provide cheap finance. Private equity firms also charge significant fees, although their investments do not always generate disproportionate returns.
But private equity firms increase the risk on a large pool of money. They now own 7.4% of all life insurance and annuity assets in the United States, or $ 376 billion, or double the total in 2015, credit agency AM Best said. Pending deals could add $ 250 billion this year, bringing PE ownership to 12%.
Higher-yielding investments don’t necessarily increase the risk of default, but tend to lose more money if they default, compared to regular portfolios, said senior structured finance expert who works closely. with state insurance regulators.
LIQUIDITY, STRUCTURING RISK
The strategies vary widely. Carlyle Group Inc. said it has invested the roughly $ 5 billion in insurance money it manages in buyout funds, loans and alternative investments. The silver is part of Fortitude Group’s $ 43.7 billion portfolio. Carlyle bought a controlling stake in Fortitude last year from American International Group Inc ..
Apollo Global Management Inc. manages the $ 186 billion in assets of annuity provider Athene Holding Ltd, a portfolio that represents 40% of Apollo’s total managed assets and 30% of the company’s fee income.
Apollo says buying the 65% Athene it doesn’t already own will make the two companies the most âalignedâ with policyholders in the industry. The purchase also demonstrates Apollo’s commitment to safe investments, as Apollo shareholders are exposed to any additional risk. None of Athene’s money is in Apollo’s flagship private equity funds.
“Insurance companies are ideally positioned to take a certain amount of liquidity and structuring risk,” Apollo CEO Marc Rowan told Reuters. âExcess return (is obtained) by accepting less liquid securities rather than taking credit risk. “
The recent deals that Athene calls âhigh quality alphaâ provide a window into Apollo’s strategy of seeking 100-200 basis points above similarly rated government securities on around 15% of the portfolio.
Athene loaned $ 2 billion to bankrupt car rental company Hertz Global Holdings Inc. in November, and $ 1.4 billion to the Abu Dhabi National Oil Company (ADNOC), secured by office buildings and of apartments in September.
Athene’s Hertz loan is 85% investment grade and 15% speculative or junk. The loan pays an interest rate of 3.75%, according to loan documents reviewed by Reuters and two people familiar with the matter.
The fees Athene earned for structuring the loan boost Athene’s return above 4.75%, the people said. This compares to 3.2% for high-grade debt and 4.8% for speculative debt when the loan was made, according to a bond index and Federal Reserve data. Hertz plans to come out of bankruptcy under a deal that includes Apollo.
Middle Eastern real estate provides a source of income for 24 years, after which ownership reverts to ADNOC, which retained a 51% stake. Reuters could not determine the return, but brokers said the occupancy rate was down from relatively high levels.
ADNOC declined to comment.
The build-up of hard-to-sell investments has caught the attention of US regulators and raised concerns that insurers are running out of cash to pay for increased claims in a crisis. The Federal Reserve recently flagged this as a concern.
“What worries the Fed is that these risky assets may not be sufficiently liquid, or they may lose value enough to put policyholders at risk,” said Joshua Ronen, professor of accounting at the University. from New York whose research focuses on capital markets and reporting.
The Fed declined to comment.
Insurers still appear to be well capitalized despite the economic upheavals of the past year. While the pandemic has hit industry profits, it has not weakened capital, analysts say.
Athene’s credit rating, for example, was upgraded this month to âA +â with a positive outlook by S&P Global Ratings. About 7% of Athene’s investments are rated speculative, compared to 6% for all insurers, according to S&P Global Ratings.
Yet concerns about risk affected some transactions. When Allstate Corp. recently sold its life insurance and annuities business, it looked for companies that were not aggressively redeploying their assets to riskier investments, chief executive Tom Wilson told Reuters.
In January, Allstate agreed to sell 80% to Blackstone Group Inc. and the remainder to Wilton Re, an insurer owned by the Canada Pension Plan Investment Board. Both sales are expected to close this year.
âThere are people who take these assets, they assume insurance regulators won’t pay much attention to them. And they are swinging for the fences. We chose not to even talk to people like that, âWilson said. âWe want our customers to be paid, even if they are no longer our customers.
(Reporting by Alwyn Scott in New York Additional reporting by Saeed Azhar and Hadeel Al Sayegh in Dubai and Kate Duguid and Karen Brettell in New York Editing by Lauren Tara LaCapra and Cynthia Osterman)