Among institutional investors, insurers are taking a greater interest in the exchange traded fund vehicle to diversify away from traditional asset classes and obtain additional income.
In a recent survey, BlackRock (NYSE: BLK) found that 83% of responding global insurers agree or strongly agree that they will use ETFs over the next three years, while 70% say ETFs are suitable as a long-term strategic holding for both core and satellite positions, according to a BlackRock research note.
“While looking to illiquid assets for higher returns, insurers are also using exchange traded funds (ETFs) to diversify out of cash and access certain asset classes, while remaining liquid,” BlackRock said. “ETFs also help insurers deal with supply issues, allowing them to invest in asset classes through ETFs that may be difficult to access directly. ETFs have the added bonus of generally being a more cost-effective way to invest.”
Insurers have historically used ETFs in equities to invest in surplus assets, Raman Suri, Head of iShares Insurance, said in the note. However, in 2012, 85% of insurer ETF asset flows moved in to fixed-income for GA use.
By receiving a risk-based capital designation from the National Association of Insurance Commissioners (NAIC), fixed-income ETFs are starting to pop up in insurer portfolios.
The risk-based capital requirements provide a capital adequacy standard for the insurance companies operating within the U.S. based on criteria set by the NAIC. By gaining an NAIC designation, an investment is given a regulatory stamp of approval for certain risk requirements – until recently, all ETFs, including bond-related funds, were rated by the NAIC as “equity” investments. [WisdomTree Emerging Market Bond ETF Gets NAIC Designation]
“The barriers historically preventing insurers from using ETFs broadly, such as regulatory/ accounting treatment and lack of integration with risk analytics, are being dismantled,” Suri said in the research note. “For instance, National Association of Insurance Commissioners (NAIC)-designated ETFs receive favorable financial statement and risk-based capital treatment in the US, allowing for increased GA usage.”
Moreover, insurers have utilized ETFs to position shift around market exposure ahead of Fed tapering.
“As the end of QE approaches, we also see a growing focus on reducing interest rate risk exposure by loosening benchmark constraints and diversifying into non-core fixed income assets and more absolute return strategies,” David Lomas, ACII, Head of Global Financial Institutions Group at BlackRock, said in the note.
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Max Chen contributed to this article.