Societe Generale has adjusted structured investment ideas originally designed for high-net-worth individuals to suit the needs of life insurance companies in Hong Kong.
Karim Traore, director of cross-asset solutions at SG's structuring group for financial institutions, says the bank is bringing its retail know-how to institutional investors.
This is part of a broader shift in the bank's structured solutions group to move from pushing product to advising institutional investors on asset-allocation and risk-management issues.
The bank is targeting insurance companies based in Hong Kong, where investment rules are the most liberal. Traore argues a number of factors make structured finance a possibility for how insurers manage their general accounts.
Low interest rates put pressure on investment returns, while the Hong Kong dollar market has a limited supply of higher-yielding corporate bonds or bonds with maturities beyond 10 years. Although it is easy for Hong Kong-based investors to access the US bond market, there is still daily volatility in swap rates.
The insurance industry, meanwhile, is keen to expand its investment-linked policy sales, which puts investment risk on the shoulders of customers. But in the current environment, market demand is for guaranteed policies. In an era of ultra-low interest rates, it's hard for insurers to make a good return on investment.
This is increasingly so as insurers operating here tend to adopt either European or US rules on risk-based capital for asset/liability matching, as well as accounting standards that penalise insurers for volatility on the balance sheet. These practices in effect make it difficult for insurers to invest in equities, even though such exposures are the obvious way to address poor returns in fixed income.
And unlike insurance companies in the West, those operating in Hong Kong, including the local arms of multinationals, tend not to invest in alternative asset classes. Nor are they big users of derivatives to hedge duration gap or other exposures, because the local market isn't well developed.
On the other hand, Traore argues, Hong Kong insurers have come through the global financial crisis in relatively good shape and are in a position to use their assets and Hong Kong's flexible regulations to innovate and take more risk onto the balance sheet. This would allow them to then offer more attractive or aggressive guaranteed products.
Insurance companies rely on traditional asset/liability matching to achieve such goals. However, these goals are contradictory: extending asset duration and achieving better investment returns, but also protecting credit quality and reducing volatility on the balance sheet from an accounting perspective.
Enter structured investments, says Traore. For example, a capital-protected note on an equity index can provide some exposure to the asset class while capping the downside. The note can be written to provide Hong Kong dollar-denominated exposure, can be modified to meet a long-term liability, and serves as a cushion to risk-based capital and accounting concerns.
Traore says these are unlike retail guaranteed funds, which tended to emphasise thematic investments in hot sectors. Rather, these ideas are intended to allow insurers to secure a necessary return on investment, while foregoing the possibility of very high returns.
There are two risks. First is liquidity. If an insurer buys a 20-year guaranteed note and then has need to access the funds sooner, SG can buy back the note, but at the underlying index's market value plus a 1% spread. The second risk is counterparty exposure, which would extend for as many years as the note.