Insurers turn to asset managers for help

Life insurance companies are planning to outsource general-account business to asset managers that offer better risk management and research capabilities, according to a recent survey from Patpatia & Associates Inc.

Anticipating poor third-quarter results and investment losses, the insurance companies are hoping that these firms can provide a more cautious approach to handling their general accounts, industry experts said.

“We’ve had some new business from insurance companies,” said Hazel McNeilage, global head of institutional advisory services for Principal Global Financial Investors LLC of Des Moines, Iowa, a third-party asset manager for insurers.

“They have come to us for help because they don’t have the depth of expertise to do research on the securities to the standards that they would like,” she said. “I think we’re going to see more of that happening.”

The 2008 Insurance Asset Management Survey, recently released by Patpatia, a Berkeley, Calif.-based consulting firm, found that on average, 58% of the 353 insurers surveyed were outsourcing some or all of their general-account assets.

Insurers with more than $100 billion in assets are familiar with outsourcing, with an average of 4.8 outsourced managers. However, companies with less than $1 billion in assets, which have an average of 2.1 outsourced managers, are also considering expanded outsourcing, according to the report.

The outsourcing heralds a search for risk management expertise, as well as a careful approach to the investments themselves after what has happened this year.

“Many insurance companies have learned through this crisis that they don’t have the in-house expertise to navigate the markets,” said Randy Brown, global head of Deutsche Bank’s Global Insurance Asset Management Group in New York.

Last year, life insurers’ general accounts grew to $2.89 trillion, an increase of 2.8%, according to the survey.

However, those portfolios have been hammered recently.

For instance, Prudential Financial Inc. of Newark, N.J., said that investment losses for the company’s financial services businesses will range between $325 million and $375 million for the third quarter.

Similarly, Lincoln National Corp. of Philadelphia predicted net realized losses on investments and derivatives of between $140 million and $160 million for the quarter, while net unrealized losses for securities that are up for sale are in the range of $1.8 billion to $2 billion.

In the approaching year, experts think that insurers will come under pressure to drive the asset side of their balance sheets, while approaching each investment with careful research.

“On the debt side, buying securities because they have a single-A rating and taking comfort in that rating is no longer a viable business model,” Mr. Brown said.

The need to reap earnings from the assets will also lead to more diversification in the classes insurers and managers use, he said.

Insurers’ assets invested in mortgage loans gained 7.2% in value last year, while real estate grew by 4.7%, according to the survey. Those assets, plus alternatives, including hedge funds and private equity, are good buys now because they are undervalued, according to Mr. Brown.

Although alternatives, which made up just 4.2% of insurers’ total invested assets, grew by 26.1% last year alone, experts think that managers won’t expect to pull gains from this group. Rather, they will make over other areas of the portfolio.

“The change won’t be solely to more alternative investments but also into their core portfolios, where certain companies had issues within their core mortgage-backed portfolios and other credit exposures,” noted William Limburg, senior associate at Patpatia.

“I think what they’re looking at is having an overall emphasis of being disciplined investors with a longer-term strategic enterprise asset allocation, as opposed to riding one horse in search of returns,” he said.

Others foresee a return to simplicity in terms of management: exhaustive research, plus a focus on traditional assets, instead of betting the house on diversification.

“One of the things we’ve learned is that diversification isn’t a kind of panacea for taking an overall high level of risk,” Ms. McNeilage said.

“We’re going to see lower risk portfolios with a focus on traditional assets and careful research of everything that’s in the portfolio,” she said.

Carriers are looking across the spectrum of asset classes for new investments, but they are also going to be more reluctant to get into any exotic assets they don’t understand, Ms. McNeilage said.

When in-house expertise is lacking and management from outside is cost-effective, the carriers will come calling for third-party help.

“We’re going to see a trend toward insurance companies’ outsourcing those parts of their portfolio where they don’t feel they have the expertise: Getting the in-depth credit research right is important,” Ms. McNeilage said. “This might sound boring, but the lesson for the industry is ‘back to basics.’”

E-mail Darla Mercado at [email protected].