Hedging costs are creating a barrier for Japanese insurance to overseas investment, according to 10 insurers who detailed their investment plans for the fiscal year ending March 2023 at media briefings recently.
Fukoku Mutual Life Insurance said it plans to offload all its currency-hedged foreign debt as it sees hedging costs remaining high due to a Federal Reserve it believes is unlikely to cut rates this year.
“Declines in hedging costs and improvement of profitability cannot be expected,” Yoshiyuki Suzuki, executive officer and head of investment planning department at the firm, told reporters.
Due to the rapid monetary tightening in the US in 2022, currency hedging costs have reached around 5% - a level that has become so high that returns turn negative, according to Teruki Morinaga, director of insurance at Fitch Ratings Japan.
“In addition, a volatile foreign bond market has become a threat for Japanese life insurers’ capital management plans, because increased unrealised losses have put pressure on their capitalization.
"As a result, Japanese lifer insurers have been forced to reduce their exposure to foreign bonds,” he told AsianInvestor.
US CORPORATE CREDIT
To obtain a more balanced investment risk profile overseas, insurers are diversifying away from market risk to credit risk, according to Soichiro Makimoto, vice president and senior analyst at Moody’s Japan.
“Given the high hedging costs, investing in currency-risk hedged foreign sovereign bonds does not make economic sense to insurers. But investing in foreign credit investments with currency risk hedging still generates attractive returns for insurers,” Makimoto told AsianInvestor.
To achieve this, they are investing mainly in A-rated corporate bonds in the US market by hedging the currency risks of the bonds, because they need to tap US markets to make sufficient credit investments to generate appropriate returns.
“US dollar bonds tend to be where Japanese lifers generally invest, given the breadth and depth of the market, although they may also consider European markets,” Jaijit Kumar, head of Asia insurance client solutions at Invesco, told AsianInvestor.
Yoshitaka Kiyotomo, executive officer and general manager at investment planning department at Taiyo Life Insurance, told reporters that, to cover hedging costs, the insurer plans to buy US and European corporate bonds with investment grades whose spreads are as thick as 150 basis points.
“Treasuries and high grade corporates would be preferred – it’s a matter of being able to get higher net yields after hedging compared with similar Japanese yen assets,” Kumar said.
To diversify their risk portfolio and pursue yields, Japanese insurers are also investing in alternatives such as real estate and private equities.
Nevertheless, these are not a majority of their investments, given that insurers’ primary investment focus is asset-liability management by investing in super long-term fixed income yen-denominated assets, Makimoto pointed out.
Fitch Rating Japan’s Morinaga believes that Japanese life insurers may increase allocation to foreign equity and alternative assets if there are good opportunities, but called the degree of change “small or marginal” due to the relatively small allocation in general to these asset classes.
As of end-September 2022, the total AUM of Japanese traditional life insurers was ¥225 trillion ($1.64 trillion).
Meiji Yasuda Life plans to reduce Japanese equities to lower risk at the same time as increasing holdings of overseas stocks. Sumitomo Life is considering a similar approach, albeit with somewhat cautiously
“We plan to allocate a few hundred billion yen for domestic and foreign equities although it all depends on their levels as they are riskier assets,” Mitsuo Masuda, general manager of the company’s investment planning department at Sumitomo Life, told reporters.