Rising interest rates prompt insurers to reevaluate alternative asset allocations

Insurers shift focus to private debt and infrastructure debt as yields rise on core fixed-income investments.

The rising yields on high-quality core fixed income have encouraged insurers to de-risk their portfolios and reevaluate their alternative asset allocations, according to Thomas Gillmann, who is in charge of Insurance Strategy & Advisory for Asia Pacific at DWS Investments Hong Kong. As a result, insurance companies are displaying a more selective approach when it comes to alternative assets, with a growing interest in private debt and infrastructure debt.

“The main reason for that was, of course, (is) the low-interest rate environment and the search for yield. But so far, we actually see that the demand for alternative assets has remained quite stable even though interest rates have risen so far,” said Gillmann.

He pointed out that in recent years, insurers have increased their allocation to alternative assets such as real estate, infrastructure, and private debt due to the low-interest-rate environment.

Whilst interest rates have risen, the demand for alternative assets remains stable as insurers recognize the diversification benefits, high capital efficiency, and risk-based capital regimes that come with alternative assets.

DWS Investments observed that insurers have become more selective, showing less interest in real estate investments and more interest in private debt and infrastructure debt. Gillmann explained this shift as likely due to the realization that alternative assets offer more than just additional yield advantages.

Rising interest rates have led to significant unrealized losses in insurers’ fixed-income books. However, rising interest rates have resulted in lower valuations for their liabilities. This drop in liability values has led to an improvement in the solvency position of many insurance companies.

In the Asia Pacific region, insurers continue to push investment-linked policies (ILPs) due to regulation. This is because insurance companies are required to hold capital for the risks they take, including investment risks. This is not the case for ILPs, where the investment risk is transferred to the policyholders, and insurance companies do not have to hold capital for these investment risks.

The acceptance of ILPs varies significantly across different countries in APAC. They are quite popular in Southeast Asia but are less accepted in markets such as Hong Kong, Korea, or Japan.

Meanwhile, private debt is expected to see continued demand in the alternative asset space due to its floating rate nature. “Private debt is primarily floating rate, meaning higher market base rates are directly reflected in higher yields on these assets. This is one of the main reasons for the significant demand for this asset class in particular,” said Gillmann.

Other alternative asset classes, such as real estate, have not experienced immediate changes in value due to their less liquid nature and infrequent trading. For example, liquid Real Estate Investment Trusts (REITs) have seen significant repricing, whilst underlying real estate assets have not.

Traditional guaranteed life insurance products have become more attractive in the current rising rate environment, particularly for new products. “However, this increase in interest is primarily true for new products, and it will take time for higher interest rates to be reflected in enforced policies,” Gillmann stressed.

He said that some insurance companies and regulators are concerned that surrender rates might increase significantly as policyholders surrender existing policies and invest in new policies with higher guaranteed rates.

Whilst surrender rates have not increased significantly in the Asia Pacific, some markets in Europe, such as Italy, have already experienced this trend. But Gillman said it is believed that surrender rates will continue to be moderate in the Asia Pacific region.