Best's Review


Asset Management
A Slight Shift

A Best’s Special Report explains why European insurers are adjusting their asset allocations.
  • Yvette Essen
  • August 2018
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Thomas Bateman

Thomas Bateman, A.M. Best

In A.M. Best’s opinion, those companies with a good level of asset diversification and strong risk management strategies will be those that will be able to produce consistent results as the economic cycle changes through the various phases.

European insurers and reinsurers have benefited from investment gains as they have increased their holdings in equities over recent years, although inevitably their exposure to market risk has risen.

Thomas Bateman, financial analyst, A.M. Best, said examination of 500 Northern and Western European insurers' assets showed a slight shift from fixed-income assets toward higher returns. Many maintain relatively strong levels of capitalization, he said.

Bateman discussed the findings of the Best's Special Report, titled, Interest Rates—The Long Wait. How Will European Insurers React to Uncertain Economic Conditions?

Following is an edited transcript of the interview.

Can you explain some of the trends we've seen in A.M. Best's recent report looking at asset allocations of European insurers?

We've taken a sample of the largest 500 Northern and Western European insurance companies. Combined, they have an asset base around €8 trillion (U.S. $9.3 trillion).

We've witnessed the shift of approximately 2% to 3% of that moving from fixed-income investments to quoted equity. We've also seen an increase in alternative or other investment classes. Investment managers look for yield on that invested asset base.

Insurance-linked security is one such asset class that's benefited from both that increase in percentage allocation, and also has attracted additional capital to the industry.

What is the reason why there has been a shift in asset allocation?

It's been two-fold. We've been on one of the longest bull runs in history. The Financial Times Stock Exchange 100 has recorded record highs during this extended period of low interest rates. Corporate earnings have also benefited from cheap financing rates and relatively low-level inflation throughout this period. Firstly, we've got those rising asset valuations that contributed to higher allocation to equity. One slight offsetting factor is higher bond prices. They've also been on a strong upward trend during this period.

The other point that we really have seen is a small shift between those asset classes, as insurers and pension funds alike, search for ways to improve their performance and maintain funding levels.

Pension funds or insurance companies, particularly with longer tail liabilities, have really struggled as a result of the low discount factors that they've been using at present.

You've detailed a few of the reasons why there's been a shift, but wasn't there an expectation that Solvency II might lead to a more conservative asset allocation strategy?

That is one potential theory. When Solvency II was introduced, that was designed to increase a more efficient allocation to encourage both stronger performance and solvency. One theory is that that would encourage insurers toward a more conservative asset base, attracting lower-risk charges to, in turn, report a high level of solvency.

That doesn't seem to fit with what we've seen in the sample that we've analyzed. The primary offsetting factor to that is that companies, particularly in our sample, but also in the European Union as a whole, are pretty well capitalized. From our analysis, the average Solvency II score for insurers operating under standard formula is comfortably in excess of 200%.

Hence, given the high level of solvency ratios we've seen, that's unlikely to be the primary driving force between asset allocations. Instead, insurers will look toward their asset liability management techniques, and also look to acquire higher levels of return with excess levels of capital.

One of the concerns for companies in Europe, obviously, is the impact of rising interest rates and higher inflation. Can you tell me what A.M. Best expects will be the impact on the companies that we've been looking at?

Inflationary pressure is always a concern for corporate earnings, as a whole, but also insurance companies as a subset of that. The inflationary pressures we potentially saw at the start of February that could lead to a faster-than-anticipated rise in interest rates is a cause of concern for investors and, hence, why we saw that volatility at the beginning of February.

Inflation for insurers essentially means a higher cost of claims. Those operating in competitive industries won't necessarily be able to pass those on to their consumers.

Also, insurers' earnings are benefited from a favorable prior year reserve development in the past, partially as a result of inflation levels that have been below initial pricing expectations.

In A.M. Best's opinion, those companies with a good level of asset diversification and strong risk management strategies will be those that will be able to produce consistent results as the economic cycle changes through the various phases. Hence, those companies will be able to mitigate potential areas of volatility the best.

The Best's Special Report is available at

Yvette Essen is director, research & communications, A.M. Best —EMEA. She can be reached at

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