Taiwan's Fubon Life might increase its allocations to the domestic market if US interest rates continue rising, which is in contrast to its bigger peer Cathay Life but should please the local regulator.

In an analysts call on Monday, Cather Pao, senior vice president at Fubon Life, said it was becoming increasingly unclear as to whether the insurer would invest more overseas, having already trimmed its total international allocation slightly in the third quarter.

“If fiscal expenditure [in the US] continues to increase and the US interest rate further goes up, then under this premise, our hedging cost will stay high,” Pao said.

And if Fubon Life's hedging costs stay high, we might "have to shift our sights to see if there are any investment opportunities in the domestic market,” she said.

Fubon Life’s guidance contrasts with that of Cathay Life, which earlier this month said it broadly expected to increase its overseas investments, particularly in fixed income.

It should also please Taiwan's Financial Supervisory Commission (FSC), which wants domestic insurers to invest NT$150 billion ($4.9 billion) over the next three years in the country's so-called five plus two innovative industries, as well as in the public construction and long-term care sectors.

HIGHER HEDGING COSTS

Higher US interest rates should lead to higher dollar bond yields for investors, but that only happens gradually, whereas higher hedging costs happen immediately, Serene Hsieh, Taipei-based director for financial services ratings at S&P Global Ratings, told AsianInvestor.

Insurers can only get the benefits of the higher interest rate when they receive new money from insurance policies for investing in the bonds, or when some of their existing investments mature, she said.

The interest rate in Taiwan is flat while the US interest rate is likely to rise, meaning US dollars are expected to become more expensive relative to Taiwanese dollars. So insurers who want to lock in the exchange rate today for a certain period in the future to hedge against the currency risk will immediately feel the pinch, she said.

Fubon Life's investment returns after hedging were 4.1% in the third quarter. The recurring hedging costs were 132 basis points, which is 47 basis points more than a year earlier because of the widening interest rate differential between the two countries, Fubon Life said on the conference call.

Possibly as a result of that, Fubon Life may already be scaling back its overseas investments, with 64.3% of its NT$3.62 trillion of investable assets invested in overseas markets as of end-September compared with 64.5% three months earlier, its financial highlights show.

The lion's share of that is in overseas bonds which accounted for 56.8% of Fubon Life's investable assets at the end of the quarter, down from 57.1% three months earlier (see table below).

By region, 51.6% of the fixed income portfolio was invested in North America compared with 52.5% at the end of the second quarter.

The third quarter may also mark a reversal for Fubon Life’s investments in Formosa bonds, which have increased steadily in recent years (from 7.3% at the end of 2015 to 16.1% at the end of last year). Formosa bonds -- bonds issued locally but in a foreign currency -- accounted for 17% of Fubon Life’s investable assets at the end of the third quarter, compared with 17.1% three months ago.

Since early November, Formosa bonds have been included in the calculation of overseas investments

Following these new rules, an insurer's overseas investments cannot exceed 145% of its approved overseas investments quota. AsianInvestor reported in August that Taiwan lifers’ foreign assets were set to plateau after the change of rules.

Source: Fubon Life (click for full view)