Remember, remember the 23rd of September – when gilt yields exploded, without a mote of gunpowder in sight. David Walker reads how UK insurers revisited the scene in their SFCRs
Insurers are used to cleaning up after a disaster, but in their 2022 solvency and financial condition reports (SFCR), UK underwriters faced the challenge of describing one – the September rout of gilts, sterling, mortgage rates and, briefly, trust in Whitehall to keep markets calm.
If the toughest part of an SFCR to write is more typically section E.5 – revealing/admitting if one's solvency ratio has dropped below 100% - last year drafters needed an equally deft hand for section A.3, on the investment landscape, and performance.
Some were game enough to describe how the former UK prime minister Liz Truss' and her former chancellor of the exchequer Kwasi Kwarteng's mini budget slugged gilts, values of general accounts and liability-driven investment (LDI) funds.
Whatever they truly thought about Whitehall's effect – the pound spontaneously losing its nerve to hit a 37-year nadir against the greenback, UK mortgage rates hitting 14-year highs within weeks and the Bank of England buying up big - insurers' SFCRs retained a characteristic poise.
Family Assurance Friendly Society (FAFS) said simply that the UK government had seen "a period of rapid change in September and October [that had] significantly impacted gilt prices, yields and the value of sterling".
If Whitehall experienced 'rapid change', as Truss sacked Kwarteng, shortly before her party sacked her, insurers heavy on gilt holdings saw just as much carnage, to their gilt yields.
Liverpool Victoria Financial Services (LVFS) noted dryly, if the 'mini-budget' was supposed to be "focusing on growth versus fiscal discipline", instead it had caused "a significant loss of market confidence in the UK economic outlook".
Another SFCR noted, more pointedly, that the Old Lady (of Threadneedle Street) intervened "to reduce the risk of fire sales of assets by pension funds to meet derivative payments on their hedging strategies".
L&G reflects on the storm
Legal & General Assurance Pensions Management with leveraged LDI funds bore the brunt of the budget's rapid aftermath - as, then, did L&G's chief executive officer Nigel Wilson.
L&G APM noted a "significant fall in the net asset value of the leveraged LDI funds [which] created an urgent need for clients to provide additional cash to rebalance the funds in which they were invested - often in excess of the liquidity buffers held for this purpose".
This "challenged clients' ability to provide additional cash compared to the timeframe for a more typical rebalance", the document added, and "produced significant pressure to process the large volume of trades needed to support clients with making these collateral calls, and also through a higher than usual volume of transactions driven by clients' need to raise cash to meet calls elsewhere".
With Rishi Sunak's anointment "markets have stabilised with borrowing costs falling back and the pound recovering", LVFS added, but by year's end UK retail price inflation was its highest in 40 years and "there remains the risk that heightened inflationary expectations could lead to a wage-price spiral, resulting in a prolonged period of high inflation and low growth [so] central banks may further tighten monetary policy to counteract inflation, which might further impact on economic growth".
The Bank of England's eight rate hikes in 2022, then two more so far this year to 4.25%, might be remembered for combatting that inflation.
And if gilt yields briefly topped what even Greece had to pay to borrow at the time, the mark-to-market damage to insurers' fixed income investments in SFCRs actually reflected the comparatively sedate rise in 10-year yields over the whole course of 2022, from 0.98% to 3.82%. That was painful enough, albeit buy-to-holders can expect gradual repair until being paid out on maturity.
AIG UK 'lost' £504.5m through unrealised losses mainly on debt and credit, repaired only partly by £117.7m investment income also from debt and credit, and £18.4m of realised gains from selling sovereigns, funds and loan participations – still leaving a £368.9m shortfall, overall.
Global instability
Amlin Insurance SE looked further afield for the cause of its €28.4m investment loss and to affiliate MS Amlin IM and outsourced partners in "the expectation that value will be added to the funds over the medium to long term".
The "challenging investment backdrop" that was 2022, Amlin said, stemmed from "the Ukraine war triggering volatile commodity prices, which contributed to already elevated inflation, and the major central banks reacted with aggressive interest rate hikes in order to regain price stability".
It added: "2023 is expected to be another challenging year as above-target inflation persists where central banks will be looking to balance the impact of further interest rate increases with the potential damage to the growth outlook this could cause."
At least "recent interest rate hikes have boosted the yield available for cash instruments, with investors now happy to allocate to this area," and Amlin's holdings in logistics warehouses and infrastructure "performed well".
Hopes rise, with reinvestment yields
Direct Line Group looked on the bright side, too, noting "despite assets under management declining 16.1% year-on-year, investment income was up £9m, driven by a yield improvement in variable rate asset classes following eight UK base rate increases during 2022", improving the non-lifer's net investment income yield by 0.5 percentage points to 2.2%.
In posting a mild £1.5m investment return in 2022 - a shadow of £95.1m in 2021 - Ecclesiastical Insurance Office reasoned, calmly, "the past two years highlight the impact economic and political uncertainty can have on the performance of investments, [but] notwithstanding this, [it] remains confident in its long-term investment philosophy, and is well diversified and relatively defensively positioned".
Another insurer with a faith-based heritage – Methodist Insurance – was also philosophical: "The insurance market has gone from low inflation, low interest rates and integrated global markets to rising inflation, higher interest rates and increased protectionism, alongside managing of the difficulties during the pandemic which we now see becoming part of everyday life."
Its fair value losses came to £2,9m, compared to £1,9m gains in 2021, but its £366,000 investment income rose 24%, year on year, from £294,000.
Behind the £25.1m of net un/realised losses for Municipal Mutual were £23.7m paper losses on gilts, and £4.6m on credit, offset a bit by £4m income from gilts.
But insurers holding devalued gilts may well 'keep calm and carry on' holding them.
Indeed, Unum's SFCR said as much.
"During 2022 £504.7m of unrealised losses on investments were reported compared to £96.2 m of unrealised losses in 2021. The company views these unrealised gains and losses on bond securities as timing differences which are largely expected to reverse as we generally hold investments to maturity."
All UK insurers' latest SFCRs for 2022, and all Solvency II data, are being loaded into the archives and visualisation dashboards of Insurance Risk Data, the insurance data and research offering from the publishers of Insurance Asset Risk. IRD is also publishing a comprehensive research report on the UK insurance industry from 2016 to 2023, with over 100 exhibits and complete underlying data of over 3,500 data points, plus proprietary analysis of each chart. For further details on the commercial value of the database and UK research report contact phil.manley@fieldgibsonmedia.com. This feature forms part of Insurance Asset Risk's 'SFCR season'.
To read other features in the series, click here to read how the MA has given UK lifers £482bn in capital relief since 2016; click here to read How German lifers' CIOs feel relieved as their ZZRs gave back some money, in 2022; here and here to read How Spanish matching adjustment programmes sometimes 'misfired' for users, in 2022; and here to read how Lloyd's syndicates' investments turned out in 2022. To read how French lifers are assessing and planning for lapse risk, click here , and here to read how Spanish CIOs are welcoming rising rates. And click here to read how equities exposure is still a theme among Scandinavian and Nordic insurers, and here to read how Benelux insurers' interest rate capital bills fluctuated, sometimes wildly, in 2022.