Having found a new tune to old lyrics, insurance companies are attractive again.
By Alison McKiegan
April 2001
Institutional Investor Magazine
Having found a new tune to old lyrics, insurance companies are attractive again.
Ignored by investors who preferred to dance with New Economy stocks, insurance companies are back in favor. Like other wallflowers that suddenly start getting attention, they are trying out some new moves.
The latest spin is an expansion of their guaranteed-investment-contract-backed bond programs. Often called funding agreements, GICs are investment products that life insurance companies sell to financial institutions. Adding bonds to the mix provides liquidity through a secondary market.
Though the programs themselves are not new, regulatory hurdles kept them out of the U.S. until mid-2000. After issuers restructured the GIC-backed bonds to satisfy the concerns of regulators, the floodgates opened. Investors, now viewing insurance as a haven, are snapping up the bonds.
Gary Martucci, an analyst at Standard & Poor’s, which rates the deals, says a total of roughly $20 billion in rated GIC-backed bonds were sold worldwide by insurers last year, and an additional $49 billion were registered. Of the $69.3 billion in programs, $5 billion were rated for U.S. investors and a further $8 billion registered, compared with none in previous years. There have already been $1.75 billion in bonds issued in the U.S. this year through early March, according to Capital Data Bondware. Teresa Radzinski, director of global insurance fixed income at Merrill Lynch & Co. - who takes her nickname, GIC Chick, with good humor - projects that global program volume will escalate 20 percent in 2001 as new companies come to market on the heels of successful transactions by Aegon, American International Group, John Hancock Financial Services and Principal Life Insurance Co.
Why the frenzy to issue GIC-backed bonds? Says Jeffrey Rosen, head of the GIC business at Aegon subsidiary Monumental Life Insurance Co., “It’s a spread-lending business.” Proceeds raised by the sale of GIC-backed double-A bonds are used to buy up lower-rated triple-B securities in the secondary market, giving the issuer spread income. Insurers need a combination of favorable pricing on deals and widening spreads on the asset investment side of the business to ensure their desired 12 percent return on investment.
“In January, when fixed income was robust, new-issue pricing was at its best,” says Merrill’s Radzinski. And in December and January, as insurance bonds traded to historically wide spreads relative to other financial instruments, the business became a win-win for companies. “We’re still seeing good pricing, and even though triple-B to double-A spreads have tightened, they’re still on the high end,” says Ronald McHugh, head of John Hancock’s GIC business.
The newly tapped U.S. market for the bonds, which have historically been sold only outside the country, has been the key to growth. “Bankers had concerns that selling these bonds could be tantamount to selling life insurance,” says Monumental Life’s Rosen. They approached regulators last year and were able to restructure the product to mitigate regulatory concerns. Companies now issue GICs to a broker-dealer, which transfers the agreements to an unaffiliated special purpose vehicle. The SPV simultaneously issues the bonds - thus creating legal distance between the insurance companies, the GICs and the bonds. “The whole idea is to [sell in] all viable public markets around the world,” explains Rosen. “It’s a natural progression to want to tap the U.S. fixed-income market.”
Security and a decent yield are the selling points for investors. “The bonds are [treated equally] with policyholder claims, making them more secure than bank debt,” says Hancock’s McHugh. Investors benefit from the liquidity that banks provide in the secondary market. Says Merrill’s Radzinski, “We expect more issuers to get into the market this year, and if the Federal Reserve Board continues to cut rates, that will be helpful in driving deals.”
