An insurer’s path to investing in alternatives
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By: Tim Antonelli, CFA, FRM, SCR
Key points
- Many investors have historically taken a cautious stance on alternative investments, but that has begun to change in recent years — an encouraging development, in our view.
- Before investing in alternatives, insurers should attempt to define the universe and understand the roles these investments can play in a strategic asset allocation.
- From an insurance standpoint, we believe there are four main types of investments that should be classified as “alternatives”: real assets, private credit, private equity, and hedge funds.
- It’s also important for insurers to determine the optimal sizing of an alternatives allocation and to assess ESG considerations and opportunities.
- In the years ahead, we fully expect alternative investments to continue to find their way toward the mainstream of insurance portfolio construction.
The investable asset universe for global insurers has evolved and proliferated rapidly and continues to do so. From new asset classes and security types to numerous implementation vehicles, keeping track of it all could easily be a full-time job. Within this vast universe resides a “galaxy” that is pretty large and eclectic in its own right: alternative investments. It’s an area that many investors (including some insurance companies) have historically taken a cautious stance on, but that has begun to change in recent years — an encouraging development, in our view.
One reason for the past skepticism was widespread confusion around the alternatives space. While traditional asset classes like equities and fixed income are familiar to and well understood by most investors, the alternatives bucket has chronically lacked a clear consensus, both in terms of the scope of the universe and what purpose it should serve in an investor’s strategic asset allocation. With that in mind, this paper aims to provide global insurers with a robust framework for how they might approach and navigate the alternative investments landscape. As prerequisites to using this framework, insurers should of course identify their own overall portfolio risk/return objectives and at least be open to the possibility that alternative investments can aid in the pursuit of those goals.
So how might insurers go about creating, implementing, and managing an effective alternative investments allocation? From where we sit, there should be four steps:
- Establish the contents and boundaries of the alternatives asset class universe
- Understand the roles these investments can play in a strategic asset allocation
- Determine the optimal sizing of an alternatives allocation within the portfolio
- Assess environmental, social, and governance (ESG) considerations and opportunities
Defining the alternatives universe for insurers
It’s safe to say that the umbrella overarching what constitutes an alternative investment is very broad and not of a “one-size-fits-all” variety. Even among insurers, there is little to no agreement or consistency. Some choose to include anything that is not public fixed income or public equity. Others opt to fold investment-grade-equivalent private fixed income and commercial mortgage loans into their fixed income bucket and not as alternatives, while others still may classify 144a bonds like securitized assets as alternatives. Simply put: The asset class has long been in dire need of a more uniform definition that insurers can latch onto. So, let’s address that first.
From an insurance standpoint, we believe there are four main types of investments that can/should be categorized as “alternatives” to public-market asset equivalents of core equities and fixed income ( Figure 1 ).
Figure 1
1. Real assets
The assets in this category share the fact that they are largely tangible investments with an intrinsic value tied to their substance and/or physical properties. In essence, investors acquire the underlying assets themselves as opposed to investing in...
