Interview "In it for the long haul: Why alternatives are looking attractive to insurers" by Eric Kirsch, Chief Investment Officer of Aflac. Part of the Insurance Asset Management North America 2017 report.

David Grana: Has there been a change in the interest in alternative investments today amongst insurers and has it changed over the past few years?

Eric Kirsch: Yes there has been a change. Prior to the Financial Crisis, alternatives were playing an important role in insurers’ portfolios. There is definitely a difference between life insurers and property and casualty (P&C) insurers as far as their appetites for alternatives are concerned. Generally speaking, P&Cs have a bigger appetite.

Pre-Crisis, alternatives were playing a nice role, but for life insurers, given capital and regulatory considerations, there isn’t an infinite amount of alternatives that they can hold. Typically, if I look at the industry as a whole, you might see 3-5% in life insurers’ portfolios. In my mind an alternative is private equity, real estate, hedge funds, agriculture etc. This is the universe that I am referring to. Around the time of the Crisis, in 2008, new capital going to alternatives decreased markedly because insurers had to firm up their capital. Fast forwarding to around 2012-13, the dust settled and markets came back. Capital positions got better, and the interest in alternatives started to pick up again. More recently, low yields and tight spreads have caused a bit more interest in alternatives, but ultimately, it is still averaging in the 3-5% range.

David: Has central bank money in the bond market been a driving factor in the increased interest in alternatives?

Eric: For sure. If you look at good old fashioned investment grade corporate bonds, which are the favorite for life insurers, we are seeing spreads on the index level at 100 basis - maybe even tighter than that. These are not historically the tightest, but they are pretty close. If you are going to allocate capital to investment grade corporate bonds, they are fairly expensive from a spread perspective. If you have assets maturing, the last place you want to be in is cash. You can either buy overpriced investment grade corporate bonds or seek an investment with better returns.

David: Since you are a global organization, do you look at alternative markets outside of the U.S.?

Eric: We do. In fact, for Aflac, we have what we call a Yen private placement portfolio, since most of our liabilities reside in Japan and the portfolio needs to be in Yen. In our Yen private placement, the underlying issuers we buy from are from Europe, Asia and the U.S.

David: What impact do you think the Fed’s unwinding and rising interest rates will have on alternative assets?

Eric: We will have to see, but I believe that the Fed’s unwind certainly has the potential to impact markets. It appears that they are being careful, pragmatic and predictable so that it will be a muted impact. Some people believe that it may have a bigger impact than that. It could end up being a buying opportunity for insurers if spread levels rise.

David: Do you feel that investment choices have opened up over the last ten years?

Eric: I do feel that there are more choices for insurers, life insurers in particular, who are looking for other types of assets. For example, private equity firms today invest in railroads, box cars, aircraft that you package up into aircraft leasing securities, etc. And there are many other interesting investments that need capital that a life insurer might see as opportunistic, which they can underwrite, put covenants around, and get the right NAIC rating. It doesn’t shock me that insurers are looking at these investments, particularly with how expensive investment grade bonds have gotten. Risk-free securities just aren’t helping the underwriting side of the business.

I am not saying that we are experts in box cars and aircraft - we will have to get experts. But we are comfortable in the credit world. This is where I go back to the idea that insurers are the ones doing the underwriting, negotiating the covenants. It is very much within their control to practice sound risk management and credit analysis.

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