Thai insurance companies are eyeing asset allocation changes – such as their first moves into private equity – after recent rule amendments that included a surprise doubling of the cap on foreign exposure.
On January 29 the local insurance watchdog moved to support offshore investment by industry players. It raised the overseas allocation limit to 30%, now allows alllocations of up to 1% into private equity and has introduced more flexibility around foreign exchange hedging, among other changes.
“[The foreign allocation increase is] great news; we were quite surprised. It's something like a fast track,” a senior investment executive at a Bangkok-based insurer told AsianInvestor.
Insurance firms are also allowed to invest more into infrastructure funds and real estate investment trusts (Reits). There will be no longer be separate limits for Thai and offshore strategies, and the total combined allocation or both can now be up to 30%, up from 20% for domestic products and 5% for foreign ones.
Most Thai insurers have not yet reached the 15% foreign allocation limit; Muang Thai Life, for instance, has around 12% of its assets in overseas holdings as of the third quarter, according to its quarterly report.
Hence the raising of the limit is unlikely to spark a sudden flood of capital overseas, though it is likely an indicator of things to come. Local insurers' offshore exposure has been rising in recent years and that is only likely to continue, given that the domestic interest rate this month fell 25 basis points to a record low of 1.00%.
Moreover, the now-wider choice of alternative assets looks to be driving up interest in new strategies. Investment executives at Thai insurance firms told AsianInvestor they were exploring opportunities in private equity funds, Reits and property funds, among other asset types.
There is pent-up demand to look abroad, as Thai insurance companies have been keen to seek new return opportunities given low yields domestically, particularly on fixed income.
Thai interest rates have been falling to the extent that it is now difficult to generate sufficient returns to match liabilities, particularly for life insurance companies, said Robert Penaloza, head of Thailand at Aberdeen Standard Investments.
Moreover, the recent investment rule changes were supported by “a national agenda” to help mitigate risks and weaken the Thai baht, which has been persistently strong for the past few years, said Penaloza. The currency has risen against the dollar from over Bt36 in 2015 to Bt31.19 as of Thursday (February 13).
The changes could see Thai insurers handing out more mandates and seeking more external partnerships, at least in the short to medium term, Bangkok-based Penaloza said.
“For [foreign] equity, we definitely need external managers to do that,” he said. “Fixed income is a bit different; we do it ourselves most of the time. For private equity, definitely, we will outsource to managers.”
Similarly, the CIO said he would potentially allocate to a private equity fund of funds. “I don't think we can go straight to private equity by ourselves,” he said.
“DEVIL IN THE DETAILS”
Thai insurers are also faced with other challenges in the course of ramping up their offshore allocations.
“The devil is in the details,” Penaloza said – in particular the details of how much capital insurers will have to set aside to invest in private equity and other foreign assets. Private equity, for example, has a relatively high risk charge of 50%, as per the latest risk-based capital rules, which were finalised in January.
The senior investment executive said his firm would therefore have to make sure the risk/return profile made sense before allocating to this newly available asset class.
Moreover, despite the easing of the FX hedging rules, hedging costs might not justify investing in some foreign assets, such as bonds with low expected returns. The cost of hedging US dollars to baht, for example, is currently around 70 to 80 basis points, the CIO said.
As a result of the January rule change, Thai insurers with a capital adequacy ratio of more than 380% do not have to hedge any of their foreign asset holdings back to baht. Those with a CAR of 250% to 380% must currency-hedge at least 50% of their overseas exposure, while for those with less than 250% CAR must be 75% FX-hedged. Previously all insurance firms had to hedge their entire foreign-currency exposure.
However, insurers’ local-currency liabilities, combined with the fact that some policies offer full principal protection, mean they are still likely to hedge back most, if not all, of their foreign assets to baht, suggested the CIO.
And overseas bonds, like domestic ones, are offering low yields now, so the added cost of hedging is even more of an drag on returns than usual. Hence, the senior investment executive said, “the yield pickup is a bit challenging right now”.
Hence, the CIO argued, insurers are unlikely to rush to increase their offshore allocation from 10% to 25% in the next two to three months.
So it may be take a while before Thai insurers’ offshore flows really ramp up. But it’s certainly a game-changer for the long term, Penaloza said, as it will accompany the “natural evolution for life insurers to understand the opportunities available offshore”.