China Life plans to increase investments in non-standard debt and other long-term bonds, in order to lengthen its asset duration and enhance investment returns at the expense of liquidity, the company has revealed.
The move by China’s largest life insurer, with Rmb2.6 trillion ($410 billion) of investable assets, is similar to that of its large peers such as Ping An Life. Chinese insurance companies are seeking to reduce the duration gap in their investment portfolios as asset liability management (ALM) rules tighten in the mainland.
The duration gap in broad terms refers to the difference between an insurer’s average duration of its investment and average liability duration.
“We indeed have the situation of short asset duration and long liability duration,” Zhao Lijun, vice president of China Life, said at a press conference for its annual results on March 23. He said that its liability duration is longer as the life insurer has been focusing on the sales of traditional protection-type products, but did not disclose the size of the duration gap.
When asked by AsianInvestor how China Life will lengthen its asset duration at a time when all mainland insurers are struggling to find enough long-term bonds, Zhao said the company is looking to its options in government bonds, corporate bonds and non-standard debt.
“The duration of this type of asset [non-standard debt] is above seven years. It is very helpful to lengthen our overall [asset] duration,” he said.
Non-standard debts, defined by insurers as “debt-type financial products”, include a large variety of assets including debt investment plans, trust schemes, asset-backed securities and asset management products.
China Life had Rmb302 billion in such products by end 2017, or 11.65% of its investments. This was 6.27 percentage points higher than a year earlier, marking the biggest increase among all asset classes.
All-told China Life made Rmb440 billion of new allocations into fixed-income assets in 2017. Of this, Rmb240 billion were on government bonds and corporate bonds, while Rmb200 billion were on non-standard debts, Zhao said. Life insurers in China have raised their allocations to fixed-income assets as domestic interest rates have been rising since last year.
The focus on longer-term investments come as the China Insurance Regulatory Commission (CIRC) has introduced an overarching framework to reduce insurers' ALM risk on March 1.
Jeffrey Liew, head of Asia-Pacific insurance at Fitch Ratings, told AsianInvestor it’s inevitable that life insurers seek to source more long-term assets to match their liabilities as a result of the new rules, and that could lead to more non-standard debt investments.
“If high quality long-term debt is not readily available we might see the shift towards these non-standard long-term debts, but we have yet to see any clear evidence in this trend,” Liew said.
Under a trial phase for the CIRC’s new rules, insurers are required to self-evaluate their ALM capabilities over a set of quantitative and qualitative categories. Their final score consists of a mean of these scores. Insurers with higher scores can enjoy more choices in investment assets and product offerings.
LIQUIDITY CONCERN
Zhao said that China Life’s investments in non-standard debts helped lengthen asset duration and enhance the yield of its overall portfolio.
Fixed-income assets offered the insurer a yield of 4.8% last year, while non-standard debt investment yielded 5.8%, he said. The net investment yield of China Life’s overall portfolio was 4.91% as of end-2017, up from 4.66% from the year before.
Based on data from CIRC, Fitch said that both life and non-life Chinese insurers invested an average of 40% of their assets into “other invested assets”, including non-standard debt products and other alternative assets. However, there is no breakdown on non-standard debts.
Liew of Fitch noted that there are risks associated with building positions in these relatively illiquid instruments. “Our main concerns over these alternative investments are their lower liquidity due to the lack of a secondary market and their less transparent structure compared with straight bonds,” he said.
However, he said that credit enhancements such as guarantees provided by government-related entities and collateral can partially mitigate the risks in the case of a default.
China Life said that over 95% of its non-standard assets had a ‘AAA’ external rating, likely from domestic rating agencies (it didn't elaborate on the source of the ratings). When broken down in sectors, 21% were invested in infrastructure, 18% finance, 14% in energy, and the rest in transportation, real estate and others.
RISING OVERSEAS ALLOCATION
When asked by AsianInvestor if the life insurer would ramp up its exposure in overseas assets, especially US bonds where interest rates are also rising, Zhao said that the company will do so on condition that the regulatory rules allow it and that the risk involved is manageable.
“China Life will increase our overseas assets to diversify the assets and external mandates in suitable time,” he said. Its overseas allocation amounted to $11.7 billion as of end 2017, accounting for about 2.85% of its investment portfolio. Life insurers are permitted to invest up to 15% of their overall portfolios overseas, but doing so requires permission from the authorities and they were reluctant to assent during 2017.
Bond investments account for 45.86% of its investment book, followed by term deposits (17.34%), and debt-type financial products (11.65%).
China Life’s core solvency ratio stood at 278% as of end 2017, a slight drop from the 280% it reported the year before but still well above from the regulatory threshold of 100%.
