Stewart: The Asian insurance market is one that has always fascinated me. One that is growing rapidly. One that is very different than the US insurance marketplace. That’s our topic today. We’re very fortunate to be joined by Max Davies, CFA, insurance strategist in the Client Group at Wellington Management. Max is based in Hong Kong. Welcome, and thanks for taking the time.
Max: Thanks, Stewart. Very pleased to be here. Thank you for having me.
Stewart: It is a pleasure and we’re going to start this one the way we start them all, let’s do this. Hometown, first job of any kind, fun fact.
Max: Gosh, hometown, London. First job was working in a clothes store in London. I won’t say which brand.
Max: Fun fact, I just got married in Hong Kong the last weekend before the local lockdown. So that was the last party I had.
Stewart: Well done. Well done. All right. So here we go. Wellington’s obviously a client of ours and you and I met kind of happenstance and you started talking about the Asian market. I was fascinated just almost immediately. What I’m hoping is that you can start us off by talking about the similarities between the European and Asian insurance markets.
Max: Sure, sure. Thanks, Stewart. So, just maybe a little bit of my background to give you a sense of why I’m perhaps in a good place to share those similarities. So before moving to Hong Kong, about two years ago now I was based in our London office for five and a half years or so working with European insurers in a similar capacity. My role is to really help them think through their investment strategy and the approach to their portfolio, to take into account all of the considerations that you and I know that plague insurance companies when thinking about investing.
So the overarching impression I’ve got in being in Asia for these two years is really how heterogeneous the market is. It’s a lot harder to say the market is X when compared to, say, the US or Europe. So I’d caveat any comments I say today with regards to the Asian insurance market, as ones that always come with nuance with regards to each individual country and region in the market. Generally speaking, the insurance companies in Asia have been dealing with some of the same challenges that insurance companies in both US, but also particularly Europe have been dealing with.
Number one is the low-yield environment, which has been the case for a long time up until perhaps more recently. That has really changed how Asian insurers think about investing. The challenges they face in that regard are very similar to those faced in Europe and the US.
However, one of the similarities that is closer to Europe is with regards to regulation. So, Asia is at a stage now where the insurance market is becoming more mature across the region. Albeit there are certain markets like Japan, which is very mature.
Having said that, the regulation is perhaps not as mature as Europe. So what is happening now across the whole region is regulators are bringing in new risk-based capital regimes that effectively look and feel a lot like European regulation, and the European regulation of Solvency II. So now what is happening is the twin dynamics of lower yields, again, with that caveat that this is somewhat changing at the moment, with new risk-based capital regimes, it’s forcing insurance companies to think slightly differently. Some of those thoughts and considerations are very similar to those faced in Europe.
So that’s optimizing the investment portfolio with regards to closer asset/ liability management, but also thinking more thoughtfully about where you’re taking risk and if you are compensated for that risk and certain things like third-party business. What sort of products are you writing? Are you writing products with high guarantees or are you pushing the risk, the investment risk onto the policyholder? So those same trends apply in Asia as they do in Europe. Then I maybe just touch on a couple of differences.
Stewart: Let me just hop in for a second. I have a quick question for you.
Stewart: So when we talk about the Asian insurance market, in reality, there’s a whole lot of different regions there.
Stewart: So, when we talk about risk-based capital regimes that are similar to Solvency II in Europe, how similar are they region-to-region? In other words, I don’t know to what extent this is true. If I’m a Japanese insurer versus a Korean insurer, how close are those RBC regimes? Is there any overarching homogeneity there?
Max: So there’s definitely some similarities with regards to Solvency II. So they tend to be three pillar-based approaches in the same style as Solvency II. They’re trying to shine a bit of a light on where insurers are taking risk, either on the underwriting side or on the investing side. In terms of the specific regions and how those regimes differ, it’s perhaps no surprise to hear that they’re all at a different stage.
So in Japan, they’re slightly further out with regards to the development of their risk-based capital regime. That is expected to come in 2025, 2026. The details on that regime are slightly more limited, but they have said that it might emulate the International Association of Insurance Supervisors, Insurance Capital Standard, if I can get out that mouthful! So the ICS, which is increasingly a global standard is also being looked at as a common framework that could be applied, but each region has taken its own little nuance.
Hong Kong and Singapore are regions where the capital regime are either introduced or about to be introduced and they feel and look a lot like Solvency II. Some of the capital charges are very similar. In addition, some of the categories are very similar. So those regimes are very like Solvency II, but I’d say Taiwan, Korea, Japan are probably going to be more like ICS. However, ICS and Solvency II also have a lot of overlap.
Stewart: So when you talk about the three pillars of Solvency II at a high level for our listeners who may not be as familiar, can you talk about those three pillars just at a very high level?
Max: Yeah, sure. So, the pillars are essentially with regards to putting metrics around the risk you’re taking in pillar number one. So that is accounting for what risk you’re taking. Then number two is with regards to oversight of those risks that you are taking yourself. So what oversight are you as an individual entity taking over those risks? Then the final one is regards to reporting. So that’s going out to the market and sharing how you are positioned with regards to those risks so that there is comparability for various stakeholders that might be affected by the insurance position.
Stewart: Thank you. So, I stepped in right when you were talking about some of the differences. So can you start, just pick back up there?
Max: Sure, sure. So as I continue to share that there are a number of differences across the markets within the region, but generally the region as a whole has some practical challenges that are perhaps more pronounced than certain other markets. Number one is really with regards to the domestic capital markets. You know that insurance companies generally in an ideal scenario would have a domestic capital market that is big enough and deep enough and broad enough to satisfy all of the investment needs that insurance companies in that market require.
So the US is a great example of this. The capital market, as we all know in the US is the most sophisticated, mature, developed. So US insurers generally do not have a burning need to go offshore to satisfy the liabilities that they write. That is not the case in Asia.
So the capital markets in a number of regions in Asia are far less developed. So, there is actually a necessity for insurance companies to invest offshore. The Japanese insurance market, for example, is about $3.5 trillion in assets, but the domestic capital market is not big enough to satisfy that amount of assets. As a result, the Japanese insurers invest 25% offshore. A lot of that goes to the US and increasingly more in Europe. So with that comes some practical considerations on currency hedging, but also risk management and oversight and how you are managing those assets. Are you outsourcing those or not?
As the insurance companies grow in a lot of these markets, what we are seeing is, in some cases, the capital market issuance is not keeping up with that growth. Therefore, what we are seeing is an increasing need for insurance companies across Asia to have that expertise, that external expertise to manage certain assets in markets whereby they are perhaps less familiar with.
So that is increasingly where we’re seeing ourselves provide value in the market is coming in and saying, “We, as a large US asset manager have deep experience in the US market. Let us help you achieve what you are trying to achieve in that market, given our experience.” So we partner with them on the ground here, but we leverage our US expertise to really help them meet their objectives.
Stewart: Is that the key challenge? I mean, if you look at the yield curve in Japan, for example, versus the US, the US looks like high yield. Is that the key challenge with regard to particularly the life side? Then I want to ask a question about private assets as well.
Max: Sure. So, yeah, it’s definitely a challenge. So, as I mentioned, a lot of insurance companies in these markets have been investing a lot offshore. However, in some markets, there are offshore quotas. In certain markets like Korea, there’s an offshore quota over how much insurance companies can invest offshore because regulators in certain markets want to ensure that those insurance companies are supporting the local capital market.
So in Korea, they recently raised that to 50%, but there is a cap. In Japan, there’s actually not a cap. Generally, when investing offshore, the key consideration is ‘what is the yield after hedging, and do we hedge?’ The capital regimes are going to involve and encourage hedging because you will have to hold capital against the risk that you take on currency. So investing offshore is increasingly viewed on a post-hedging basis and increasingly will be hedged because leaving it unhedged will perhaps be quite capital intensive under some of these new regimes.
So really you mentioned the yield curve in Japan. Japan’s a great example of a country that’s been dealing with low yields for a long time, but also has an incredibly mature insurance market. They’ve invested materially offshore for some time. But, what we are seeing now is more of a barbell approach. So whereby they might go extra long domestically on the yield curve and JGBs which go out to 40 years in some cases. Then they might pick up a bit more yield on the shorter end of the curve in the US, or even the longer end of the curve in certain markets like taxable municipals, but clearly capital considerations come into that as well.
Stewart: So, can we shift gears a little bit and talk about asset allocation? We’ve talked about the changing RBC regimes. In the US, there’s been some capital relief on private assets, I think in an effort to try and take some pressure off insurance companies and allow them to pursue a higher net investment income that is afforded by private assets and the additional spread. Are you seeing a similar shift to private assets in Asia broadly? What are the trends for asset allocation?
Max: Yeah, absolutely. So as mentioned, those similarities in challenges and dynamics of the Asian insurance market compared to Europe and even the US encouraging the same trends. So there is definitely an interest in private assets across the region. Once again, it’s a very nuanced picture. Generally, the private asset demand is more for US or European assets. That is frankly because of the more mature markets for those asset classes than domestic private assets and given some of the legal arrangements that exist in those markets that allow for support in certain private assets. Generally, there is a great demand for private assets.
We’ve definitely seen that cool slightly in the past six months, just because insurance companies, we’ve seen in a number of markets from Korea to Hong Kong, to Singapore, to Japan as well, set targets for private assets of say 10% to 15% and trying to get those targets. In some cases, it’s been quite hard to find suitable assets and we’ve heard anecdotally of Korean insurers who have a great demand for real estate and infrastructure debt competing for the similar deals in Europe, because the demand is so strong.
So the deployment of the assets is perhaps not reaching the targets maybe as quickly as people thought, but also the backup in public yields, I think, is causing insurers in this market to pause a little bit and see how that asset allocation might be geared in an environment whereby rates settle at a higher level. Generally private assets have been very popular. Those asset classes of real estate debt, infrastructure debt, have got some potential regulatory tailwinds and additional capital relief in certain markets like Korea and maybe even Hong Kong and Singapore in the future, much like Solvency II does in Europe with infrastructure. So I see that as the regulatory catalyst for one of the sub-asset classes of privates.
Stewart: Well, there’s two things we always have to talk about, Max. One is a low-yield environment and the second one is, at least lately, is ESG.
Stewart: So ESG has been the hot topic in the US insurance market. We’re fortunate enough to have leaders in ESG as your firm is. We have over a hundred articles and podcasts on ESG for insurers. Now, I talked to Eric Kirsch some time ago, who’s CIO at Aflac, who is obviously based in Japan and has a substantial net written premium there. His view of it was that at that time, which is a few years ago, he ranked the Europe, Asia, and the US in terms of their focus on ESG. Can you rank those three broad areas in terms of their progress in ESG? Just talk about it a little bit around the region?
Max: Sure. So, in my experience working with European insurers as well, before coming to Asia, we are very used to talking to insurance companies about ESG. Some of what I see as the world-leading insurers with regards to ESG are those in Northern Europe, particularly the Nordics and the Netherlands, and Benelux really, they’ve been really focused on this topic for some time. Generally though, everyone I think quite understands where Europe is with regards to the other regions. Europe is generally further ahead in ESG adoption for insurers, as well as the broad market.
Then, Asia and the US are increasingly compared. Instead of ranking either, I’d split up Asia to say that there are pockets of Asia that are incredibly focused on it. So, Japan has a number of asset owners that have signed up to the UN Net Zero Asset Owners’ Alliance. Australia is a market that is also increasingly focused on ESG across asset owners, but including insurers. So those two markets I see as the furthest ahead in Asia.
However, Hong Kong and Singapore have made commitments to try and compete to be the ESG hub in Asia. So what we are seeing now is regulation coming out in Singapore that is looking and feeling a little bit like the regulations coming out in Europe that is really encouraging asset owners to think about how they’re allocating their assets with regards to ESG. So I see them as the close followers behind Japan and Australia. Generally the market is very nuanced and there are other pockets of the markets, that are slightly further behind with regards to ESG adoption, but I wouldn’t say indicates a lack of intent to do the right thing now.
I’d say it’s a function of the amount of considerations that they’re dealing with here with regards to new regulation, some of these practical considerations on capital markets, and really the development of their insurance practice. I think those have been the more near-term focus for a lot of insurance companies, but increasingly to be internationally competitive insurers are realizing in a number of markets that they need to do better. So we’re seeing an immense pace of adoption. As you mentioned, it permeates every single conversation that I have across the region, regardless of where we might think that market is on an average basis.
Stewart: What’s interesting to me about ESG is that it appears that no industry has more skin in the game for combating climate change than the insurance industry. I mean, when the wind blows and the hail comes down and all of that business, more frequently, they’re the ones writing the checks. I mean, is there ever a discussion of the liability side of that equation?
Max: Sure. So obviously we’ve got two, generally two major types of insurers. You’ve got your non-life insurers and your life insurers. So non-life, and I would put reinsurance into that portion of the market as well, is clearly very aware of some of the climate risk, given the nature of their business and the type of policies that they write.
So as you know, our organization has an initiative to map climate risks with our climate risk partners, Woodwell Climate Research. They have been immensely helpful to us to understand where the exposures are for certain climate risk variables. The insurance companies that we count as clients, but even some prospective clients as well have been the most interested in that data because they see that there is an opportunity for them to understand how they’re exposed, not just from an asset basis, but from a liability basis as well.
You can map your assets and liabilities onto those maps to understand if you’re doubling up on any exposure. So that’s where we see this development going toward. Like I say, the non-life market is fertile for that type of conversation. The life market, it’s probably more of an asset story. There’s definitely, in Asia generally, though the life insurance market is far bigger and far more mature than the non-life insurance market. Life insurance penetration is higher in some markets than anywhere else in the world. So Hong Kong, Taiwan has the highest insurance, life insurance penetration. So they’re big markets in certain markets, and it’s more of an asset story, like I say.
So, life insurers are increasingly thinking, what assets are we exposed to? Particularly these long-dated policies that we’ve signed up to on the liability side, we need long-dated assets to match those. Long-dated assets and longdated policies are both going to be affected, but as far as a life insurance company is concerned, they’re more worried about if their asset is going to deteriorate in value or be stranded assets such that they can’t meet that liability. We always thought it was a non-life story, the climate piece of ESG, but increasingly now life insurers are very interested principally due to the long-duration nature of their investments.
Stewart: It’s really interesting that the idea, I didn’t know that insurers were mapping their exposure’s liability and asset. That to me makes total sense. One of the things I’ve always found to be a challenge with insurance companies is that the investment side of the balance sheet and the liability side of the balance sheet sometimes seem like they don’t know each other. It’s a challenge. The expertise of those two areas is very different, but at the end of the day, both sides of the balance sheet are getting paid to take on risk. They are pricing that risk at the most basic core level.
One is right on line. One is yield spread. But it’s the same thing. It’s the amount you’re being compensated. Even if you were an insurance CIO that you had your head stuck in the sand, and you say, “I’m a climate change nonbeliever.” You just say, “There’s no climate change. This is crazy.” Even from that perspective, it seems as though given the enormous focus on the asset class, that assets purely from an investment perspective assets that have, are not ESG friendly, seem to me to be facing a headwind in terms of investment performance, just with no other consideration. Have I got that right? Or am I goofy there?
Max: No, no. I think you’re absolutely right. So the point you mentioned upfront of the underwriting side needing to talk to the investment side, that’s one of our key calls to arms with regards to ESG for insurers is more collaboration across both sides of your business, because that is essential for ESG. As I alluded to earlier, if you were doubling up on the same risk, then clearly that is going to be hard to justify.
Because if you were to sit here in 10, 15 years’ time and say, “Nobody saw that risk coming, but we were doubled up,” firstly, you can’t say that you didn’t see some of these risks coming because the science is getting so good now. Also, to double up on a certain risk without being fully aware of it is perhaps not the most prudent approach for an insurer. So, that’s definitely the case.
What I’d also say with regards to Asia is from the work we’ve done with our climate partners, Woodwell, they have cited that Asia is expected to experience the most severe socioeconomic impacts from climate change out of all the three main regions of the world. So, in the absence of adaptation and mitigation, the effects could be quite pronounced on the economies and countries in this market. The other thing I’d say though is with regards to a practical complication for Asian insurers is, you mentioned being exposed to certain assets that might be under a structural headwind, call it fossil fuels. In certain countries and markets, these industries are a key component of the economy. So for an insurance company in a certain market to say, “I’m not going to invest in any companies producing coal,” that could have material implications for the domestic economy. It’s definitely not a straightforward argument for insurers and some of the markets in Asia because some of these industries are really key drivers of GDP growth in the domestic markets.
So, when these insurers are investing domestically to meet their domestic liabilities to rule out 20% or 30% of the market off the base of ESG, it’s perhaps hard to justify. So, it’s a very tricky line to toe for insurers in this market. That’s why we see such interest in the topic I think.
Stewart: Just as we wrap up here, the three major takeaways out of the Asian insurance market. What should I be taking away out of this podcast?
Max: It’s a good question. So number one, I’d say Asia is a big place and it’s increasingly diverse and nuanced with regards to the insurance market, but also the capital markets. Talking about Asia as a capital is a really difficult exercise. So I’d encourage people to really, if they want to get to know the Asian insurance market or even Asian capital markets, you’ll probably have to do a bit more work to lift under the hood and really dig deeper because it’s a very nuanced picture. So, that’s probably number one.
Number two, with regards to the Asian insurance, I’d say there’s an increasing need for expertise with regards to ALM and additional support around asset allocation and investing in certain non-domestic markets. So we definitely see an increasing demand for our expertise as a global asset manager in the market. We feel sure that we’ll have deep and successful partnerships in this region, given all of these challenges that they’re facing.
Number three, I’d finish on an optimistic note, really, one of excitement, that there is so much happening in this part of the world in regards to insurance. You and I get very excited about insurance, but not everybody does. I’m incredibly excited and encourage everybody else to be about the Asian insurance market, because there’s so much happening and it’s a great place to be. So, anyone thinking about the particular channel or area of insurance, then I’d encourage them to come out to Asia.
Stewart: That is good stuff and a great way to end. Max Davies. Spelled Davies, but you pronounce it Davis? Max Davies, CFA insurance strategist in the Client Group at Wellington Management. Max, thanks for being on. Thanks for taking the time.
Max: Thanks, Stewart. Loved it. Speak soon.
Stewart: Thank you. Thanks for listening. My name is Stewart Foley. I’ve been your host and this is the insuranceaum.com podcast.