Cash dethroned: reallocation opportunities for insurers under Solvency II

This article was produced by M&G Investment as part of their valued Industry Partnership to Insurance Investor.

While ‘cash is king’ remains at the forefront of many defensive allocation decisions, it may be possible for some insurers to reallocate a strategic portion of their cash holdings to potentially higher-yielding assets while carefully managing risks or capital costs.

By performing a detailed analysis of their individual liquidity, safety and yield requirements, insurers can better understand the optimal allocation between cash holdings that require daily or immediate access and other liquid, defensive instruments. In doing so, they can determine whether the risks of these typically higher-yielding assets outweigh the certainty of losses from holding cash and cash equivalents at negative interest rates.

While these assets cannot fully replace cash deposits, they may complement cash holdings with a view to increasing insurers’ returns on capital.

In this paper, we compare the potential options for insurers to step out of cash seeking higher-yielding assets and the associated trade-offs in liquidity and safety between:

• cash and cash equivalents;
• government bonds;
• short-dated credit; and
• senior asset-backed securities (ABS).

We also evaluate the potential for actively managed strategies to increase returns on capital from government bonds, credit and sometimes overlooked alternatives, including simple, transparent and standardised (STS) ABS.

Click here to read the full paper.