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INSIGHT: MANAGING INTEREST RATE RISK


Considerations For Life Insurers When Rates Are Low

Tags

  • Asia Pacific
  • Capital Markets
  • Financial Institutions
  • Interest Rates
  • Risk Management

FOREWORD

Life insurers face continuing challenges in this unprecedented environment of persistently low interest rates worldwide.

Given global interest rates have been on a downward trend for the past 10 years, life insurers face two immediate two challenges:

  • A structural challenge predominantly driven by the mismatch between long-dated liabilities versus shorter dated assets. This mismatch tends to be exacerbated in declining interest rate environments, eroding insurers’ economic value of equity as the value of liabilities increases more than the value of shorter dated assets; and
  • Reduced investment returns in a low interest rate environment. This is a particular problem for life insurers who have large guaranteed return portfolios.

In markets with recent monetary tightening or the expectation thereof, insurers are concerned with sharp interest rate hikes. Any increase in policy surrenders could potentially result in realised losses due to forced selling of favourable yielding fixed income assets currently held in order to cover surrender benefits.

KEY TAKEAWAYS

  • The impact on life insurers across Asia-Pacific tends to be driven by two major factors: the existing insurance liability composition and its sensitivity to interest rates; and, the stage of development of accessible capital markets,
  • Life insures should consider a range of solutions including changes to their existing business model, new asset types, extension of asset duration and search for yield.
  • Today’s life insurers are able to learn from the Japanese life insurance industry in the 1990s when interest rates fell as low as 3%.
  • A challenge in Asia Pacific markets is the limited liquidity in domestic long-dated interest rate instruments, making it difficult for life insurers to hedge meaningful parts of their investment portfolios and address duration gaps.
  • Insurers will have to re-think their asset allocation and risk management strategies to cope with the “new normal” of today’s market environment.
  • In the long run, insurers are likely to expand asset allocation to alternative assets and loans to overcome the existing duration gap issues.

FIGURE 1
Global 10 Year Interest Rate Swap Rates (%)

FIGURE 2
Range of Solutions Considered by Insurers

AUTHORS

Dominique Blanchard, Global Head, Investor Sales, Global Markets, ANZ
Elodie Norman, Head of FIG Hong Kong, ANZ
Mark Lindon, Head of CIG New Zealand, ANZ

For any comments or feedback please contact the authors at GlobalFIGInsights@anz.com
 

PUBLISHED NOVEMBER 2016

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