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Rising Interest Rates Boost Life Insurers’ Risk Appetite

    Life insurers’ risk appetite is returning rapidly as interest rates remain higher for longer. Stock insurers are regaining appetite for asset-intensive business and we expect them to increasingly manage their legacy liabilities in sidecars rather than divesting them.

    Mutual insurers are pursuing ambitious organic growth, while PE-owned insurers are entering direct sales for the first time, according to Swiss Re sigma 2/2024. The three business models are converging once again, and we see the competitive environment intensifying, to the benefit of consumers who should see more attractive crediting rates and new offerings in saving product ranges.

    PE-owned insurers are also facing growing competition in reinsurance deals, as more new entrants seek to acquire assets

    All insurers are expanding their asset management capabilities, often to capitalise on their investment expertise in private credit (іуу Global Life Insurance Industry in 2024).

    The asset management skills developed in the low yield environment are now part of core offerings, shaping product innovation and the emphasis on investment capabilities.

    Expanding Risk Appetite for Growth

    Expanding Risk Appetite for Growth

    With expectations of prolonged higher interest rates, the life insurance industry now faces a more favorable balance of risk and return for interest rate risks. This lessens the need to enhance yields through credit and illiquidity risks.

    Insurers across the board are increasing their risk appetite for holding assets and writing more asset-intensive business, leading to more convergence in business models.

    While stock insurers previously transferred assets to PE-owned insurers for reinsurance and US mutual insurers accepted lower margin growth, competition in the life insurance industry is expected to intensify.

    Increasing Demand for Insurance Assets

    Increasing Demand for Insurance Assets

    Stock insurers seek to capitalize on the higher yield environment but struggle with unfavorable public valuations for traditional investment return businesses.

    They increasingly use captive insurers to meet economic reserve requirements and raise institutional capital in sidecars to fund sales growth, lower capital needs, and potentially take on third-party blocks.

    This higher retention in affiliated vehicles may reduce demand for the transactions that previously attracted PE into the life industry.

    Sidecars, special purpose vehicles created by insurers, transfer a portion of risk to third-party investors. They typically have a fixed term and predetermined risk-sharing arrangements between a sponsoring company and investors, providing insurers with additional capacity, reduced earnings volatility, and diversified risk exposure.

    US individual annuities direct business, first year and single premiums

    US individual annuities direct business, first year and single premiums
    Source: NAIC, S&P Global Capital IQ, Swiss Re Institute

    Sidecars also offer beneficial offshore regulatory and tax treatments. With investors who have asset management capabilities, sidecars offer more flexibility than traditional on-balance-sheet capital, supporting larger block transactions without straining the existing capital base.

    When banks reduced their funding of leveraged buyouts from late 2022, private credit funds stepped in, either with direct funding or by purchasing bank-originated buyout debt. Life insurance assets also support PE firms that own business development corporations and other direct lending origination platforms.

    Converging business models point to intensifying competition

    With the low-hanging fruit picked, it is now considerably more expensive for PE firms to accumulate life insurance assets by reinsuring US fixed rate and indexed annuity blocks.

    In response, PE-owned insurers are expanding their risk appetite into non-US risks and more complex products. They are increasingly acquiring blocks of variable annuities, universal life with secondary guarantees, and long-term care.

    PE-owned insurers are at present still complementary to traditional reinsurers – typically assuming investment risks and reinsuring mortality or morbidity risks – but there is potential for more direct competition.

    PE firms have expanded retail sales

    Some private equity-affiliated insurers are now entering the retail market, especially with fixed annuities. In 2023, these insurers issued $58bn in individual annuities (first year and single premiums), accounting for about 18% of the $320bn industry total. In contrast, they issued only $0.8bn out of $47bn in new life business in 2023.

    The largest PE-owned insurer led the US in individual annuity sales with $36bn in direct business, $11bn more than the second-largest carrier.

    Stock insurers, previously benefiting from reinsurance with PE players, may face new competition in their traditional markets in the coming years.

    US insurers’ net reserve split by line of business

    US insurers’ net reserve split by line of business
    Source: AM Best, Swiss Re Institute

    Mutual insurers face the prospect of greater
    competition

    Currently, mutual insurers are somewhat protected from this heightened competition, but this is expected to change as interest rates normalize and retail competition grows.

    PE-owned insurers will likely expand into new products, following trends in reinsurance. Mutual insurers focus heavily on individual life sales.

    Individual annuities, which drive the current competition growth, make up more than half of stock insurers’ life and annuity reserves, but only a quarter of mutual insurers’ reserves.

    Re-risking Caution Among Life Insurers

    The insurance industry can be proactive in today’s environment, possibly returning to traditional business lines. Insurers generally have strong capitalization, higher liquidity buffers, and less risky liability profiles compared to the past.

    As interest rates rise, capital-intensive businesses become more attractive, much like how stock insurers shifted to capital-light business during low-interest periods. LIMRA reports that insurers who had exited the fixed annuity market are now returning.

    Life Insurance Market Dynamics and Interest Rates

    Life Insurance Market Dynamics and Interest Rates

    Supply and demand impacts vary by business line. Higher interest rates have caused a shift from variable to fixed-rate savings products, with most of this transition already completed.

    Fixed-rate annuities have gained market share over variable accumulation products in the past two years.

    Products combining fixed and variable elements, such as Registered Index Linked Annuities in the US, will continue to grow.

    Traditional accumulation life products will likely maintain market share, while sales of variable and indexed products will hinge on regulatory factors like illustration requirements. The growth resurgence has been in savings products, which carry investment risk and biometric risk, including mortality and longevity.

    Potential Benefits and Cautious Re-risking

    Higher interest rates might lead companies to add more benefits to products, such as reintroducing variable annuity guarantees and increasing competition in long-term care pricing by using more optimistic interest rate forecasts.

    Despite potential profits if interest rates remain high, companies are cautious about re-risking product portfolios after years of underperformance during low-interest periods.

    There is no expected increase in risk for variable annuity lines, but there is a cautious return to traditional product lines. For example, a large US long-term care insurer plans to start selling new policies by the end of 2024.

    In Europe, the new savings business mix will likely include more hybrid products with lower capital requirements. These products offer reduced guarantees and benefits linked to investment performance, covering biometric risks.

    They are less sensitive to stock market fluctuations than pure unit-linked products and offer more upside risk than traditional life products with fixed guarantees. Individual death cover attached to investment-linked products is expected to become more common in Germany and France.

    Deeper integration of life insurance and asset management

    Deeper integration of life insurance and asset management

    Insurers are increasingly emphasising their asset management capabilities. When interest rates were low, insurers and asset managers turned to alternative assets including direct lending and asset-backed securities to earn additional yield as banks exited traditional lending segments.

    During this period, increasing numbers of life insurers outsourced investment management, and mid-sized insurers are the most likely to outsource at least 10% of invested assets.

    Today we see insurers placing greater emphasis on asset management capabilities. Affiliated asset manager / life insurer relationships are not new, but the wave of PE-owned insurers entering the sector upended the traditional order of insurers developing or acquiring asset management companies.

    Some of the largest PE firms owning re/insurers compete with traditional insurers with large and sophisticated asset management divisions, including private asset origination capabilities.

    Life insurers also adopted more sophisticated investment-linked offerings during the low-rate era alongside their gradual transfer of investment risk to policyholders.

    In Europe, Germany was an early pioneer of the development of dynamic hybrid products, where exposure to market risks and guaranteed returns are achieved by a periodical algorithmic rebalancing mechanism between investment funds.

    The return to low-cost dynamic investment strategies, supported by reinsurers’ asset management capabilities, is expected to strengthen the competition with asset managers and PE for new savings business.

    We anticipate continued competition in the asset management / life insurance space. Asset management capabilities support both spread-based and fee-based business, and insurance balance sheets support asset management earnings.

    Trends include:

    • (i) small insurers outsourcing parts of investment management such as the private credit function
    • (ii) large insurers expanding private credit capabilities, including acquiring specialist private credit managers
    • (iii) asset managers such as PE funds and direct lenders acquiring insurance companies and insurance-linked asset managers.

    Customers benefit through higher guaranteed returns or access to higher-yielding options in variable products.

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    AUTHORS: Germante Boncaldo – Head of Reinsurance Business Development at Swiss Re, James Finucane – Senior Economist, Swiss Re Institute, Thomas Holzheu – Chief Economist Americas, Swiss Re Institute