New York-domiciled insurers should take note of new latitude from their home-state regulator concerning exchange-traded funds (ETFs) in their investment portfolios. The guidance could permit insurers to hold less capital against these investments for regulatory purposes.

A new regulation proposed by the New York Department of Financial Services (DFS) (11 NYCRR Part 77, Regulation 220, published in the state register on Sept. 22 and available here) would permit ETFs to be treated as debt for purposes of risk-based capital (RBC) under specified circumstances. A public comment period on the proposed regulation lasts until Nov. 22.

In remarks on Sept. 24 at the New York City Bar Association’s annual CLE program on insurance law, Executive Deputy Superintendent My Chi To cited the regulation as an example of the DFS’ active rule-making agenda. The guidance comes at a time when the National Association of Insurance Commissioners (NAIC) is engaged in a far-reaching effort to define what types of investments should be classified as debt instruments for RBC purposes.

Under the DFS’ proposed regulation, until Jan. 1, 2027, a New York-domiciled insurer would be permitted to treat an ETF as a bond for RBC purposes (and thus incur a much less onerous capital charge than if the instrument were treated as equity in a fund) if the ETF satisfies all of the following:

  • Invests in fixed-income securities, cash and “cash equivalents”
  • Tracks a bond index, is not actively managed and publishes a detailed list of its holdings at least monthly
  • Has assets under management of at least $1 billion
  • Allows in-kind redemptions
  • Is registered pursuant to the Investment Company Act of 1940
  • Is rated by a nationally recognized statistical rating organization
  • Qualifies for bond treatment under the NAIC’s securities valuation regime

Even though an ETF could now be treated as a bond for RBC purposes, the regulation specifies that this does not affect the classification of ETF investments as equity for other legal purposes, including New York insurance laws on permitted investments and asset diversification.

The regulation also extends this RBC treatment extraterritorially. A New York-licensed insurer, even one domiciled outside of New York, is required to calculate its RBC consistent with the new regulation and must report that RBC to the DFS.