Exchange-traded funds (ETFs) could play a useful role in the alternative ssets space, the chief investment officer of Hong Kong-based Tahoe Life has said.

Speaking at a panel discussion at AsianInvestor’s 6th Insurance Investment Forum in Hong Kong, Chen Yiyun, noted that while there is strong demand for alternative assets from institutional investors, these are not products around which investment teams can be built. This is particularly true for smaller insurers.

“A lot of insurance companies have the demand for allocating a small portion of capital to the asset class,” he said at the event held on Tuesday. “Instead of the current structure [of having] fund of funds or funding external managers, it would be great [to have] other products or vehicles that could be used to invest in these newer asset classes.”

He did not elaborate on what kind of alternative asset index products he would like to see.

Other experts have previously voiced a similar view, noting that one of the challenges to greater adoption of ETFs in Asian portfolios is that while investors are looking for more specialised products, many ETF issuers are offering generic choices.

Nevertheless, the low cost of ETFs remains the biggest attraction for insurers, particularly for smaller ones who are always on the lookout to squeeze as much yield as they can, Chen added. “I always joke that cost is an alpha that I can control. The other alphas are hard to control [in the] long term.”

ETFs are also a highly cost-effective way to diversify into global markets, reducing the need to invest significantly in building in-house investment capabilities while helping to meet regulatory requirements, Chen said.

Tahoe Life is a relatively small player in the insurance market, with an investment portfolio estimated at around $1.7 billion at the end of 2017.

TOUGH SELL

While the use of exchange-traded funds (ETFs) is growing gradually among insurers in Asia, for the most part, they continue to be used mainly to generate tactical alpha by providing short-term positioning in portfolios.

Using ETFs for more strategic reasons or with a longer-term horizon remains a tough sell with insurers, despite the widely-accepted low-cost benefits of index funds and products.

Benjamin Deng, group chief investment officer at China Pacific Insurance Company (CPIC), one of the mainland's biggest insurers, is one of those executives who shares this view.

Benjamin Deng, CPIC

Speaking at the same panel, Deng said ETFs are a “hard business”, particularly because of tracking error challenges. Tracking error refers to the difference between the return of the index-tracking fund and the target index.

He said the insurer had recently reviewed more than 3,000 ETF fundsOf these, only seven had outperformed their tracking indices after fees. Of those seven, five of them used leverage to do so, he added.

He did not say over what time period these funds had been assessed.

Like many other institutional investors, CPIC uses ETFs in a traditional manner − primarily for tactical asset allocation, or for seeking exposure to assets for the short term. The appeal of ETF investing stems primarily from the high liquidity that they offer, enabling investors to enter or exit investments swiftly, he added.

For now, he remains unconvinced that they can play a bigger role in insurer portfolios, or replace active stock picking.

“Can we make our equity portfolio purely tracker fund or index fund [based]? No, because as an insurance company, we still [believe in] value stocks and tend to buy and hold … for a long time,” Deng told delegates at the event, adding that more than 70% of CPIC’s equity portfolio is invested in value stocks.

Value stocks are those that trade below the intrinsic value of the company.

Nevertheless, Deng acknowledged the low-cost allure of ETFs has encouraged CPIC to invest a portion of the remaining 30% of its equity portfolio in ETFs.

About 14.5% of CPIC’s Rmb1 trillion ($157.5 billion) in assets under management at the end of 2017 was invested in equities, according to Bloomberg data.

Nevertheless, across the region, some insurers have started to increasingly use ETFs in their portfolios.

Earlier this year, Cathay Life, the biggest lifer in Taiwan, said it plans to ramp up allocation to fixed-income ETFs to capture gains in a changing credit environment. Prudential is also increasingly using ETFs alongside its active strategies, and more so to gain exposure to overseas markets.

Currently, the four biggest markets for ETFs in Asia are Japan ($330 billion), China ($60 billion), South Korea ($50 billion), and Hong Kong ($45 billion), said Michele Gaffo, global head of insurance coverage with asset manager DWS.

*This story has been updated to state the full name of CPIC.

To get more insights into hot-button topics for insurers, look out for AsianInvestor’s inaugural Insurance Investment Forum in Singapore on March 14. For more information, please click here.