A survey conducted by the Association for Financial Markets in Europe (AFME), and published on 11 April 2012, suggests that the proposed Solvency II rules will dramatically reduce the willingness of insurers to invest in securitisation assets. AFME suggests that this in turn will have a negative impact on economic recovery.
Under the Solvency II capital regime, insurers will be required to hold more capital against assets with higher risks or greater levels of volatility than they are required to hold against assets that are relatively risk free or more stable. The press release accompanying AFME's report states that in late 2011, the European Commission proposed Solvency II capital charges of 7% of market value per year of duration on AAA-rated securitisations held by insurers, compared with 0.9% for corporate bonds and 0.7% for covered bonds with the same ratings.
The survey canvassed the views of 27 Europe-based insurance companies and asset managers. A third of insurers polled said that they would stop investment into the securitisation sector altogether, while the remaining two-thirds said they would dramatically reduce their allocation of funds to it. The results also suggest that even if capital charges were reduced in future, the investment would return slowly, if at all.
AFME alleges that the proposed capital charges have been calculated using a flawed methodology which fails to accurately reflect economic risks and distinguish between different types of such risks. The full press release is available here.
Although the AFME survey group was small, the results are unsurprising. We have been arguing for some time that Solvency II's capital requirements will gradually encourage (and perhaps force) (re)insurers to materially adjust their investment portfolios to include fewer assets with higher levels of risk and volatility, and more assets with lower risk and greater price stability. If we are right, and (re)insurers begin to shift away from equities, commercial property, poorly rated or long-dated corporate bonds, mortgages and mortgage backed securities, in favour of gilts and highly rated or short dated corporate bonds, that will almost certainly hold back economic growth and reduce returns to policyholders and (re)insurance shareholders. It remains to be seen whether AFME's report will influence the Commission or EIOPA. Instinctively, we think it's unlikely - a report by Investment Property Databank dated 15 April 2011 on the European commercial property sector (available here) reached similar conclusions about investments in the commercial property sector, but the Commission and EIOPA appear to be unwillingly to move.