Asset Liability Management and Investment Seminar May Session1: Asset Allocation for Insurance Company Liability Driven Investment.

Transcription

1 Asset Liability and Investment Seminar May 2012 Session1: Asset Allocation for Insurance Company Liability Driven Investment Genghui Wu

2 Asset Liability Liability Driven Investment Genghui Wu FSA, CFA, FRM, MAAA Senior Investment Vice President Prudential Financial 2 Typical Financial Institution Balance Sheet Assets Liabilities Assets supporting product liabilities Cash Bonds Mortgages Stocks Other Deposits Reserves Life Insurance Annuities Long Term Care Structured Settlements Product Liabilities Assets = Surplus / Equity Solvency Insurance Value to Shareholders

3 3 Surplus Surplus is the net of assets less liabilities, or the net worth of the company. It is viewed as a measure of the financial strength of the company Insurance companies are required by state laws to hold a certain amount of funds in reserve to ensure they always have enough money on hand to pay claims and other obligations. Any amount over and abovetherequired reserve level is Surplus. Surplus Creation Interest/dividends earned on investments Asset Fees Sales Fees Higher premiums than claims paid Surrender charges from cashed in policies $ urplus Surplus Significance Sign of Profitability / Financial Strength Mechanism for paying dividends Used to lower premiums to attract new business and retain existing business Business growth via acquisitions 4 ALM Liability Driven Investment Portfolio construction is liability driven. Asset Liability is strongly aligned with the business units it supports. Emphasizes a deep understanding of product liability structures Tight duration management with limited intentional exposure to interest rate risk Well diversified across asset classes, industry sectors, geographic regions, and issuers There are meaningful risk mitigating factors in credit portfolio: Underweight in troubled sectors High Yield exposure weighted towards higher quality and asset rich sectors; emphasis on allocations to private placements with strong covenant packages and ability to restructure Exposure to commercial mortgages: Diversification with strong overall debt service coverage and modest loan to value ratios Within structured securities, focus on the most highly rated tranches Proprietary Information Not for Further Distribution

4 5 Proprietary Account Investment Process Profit Centers IDENTIFY BUSINESS NEEDS BU #1 BU #2 BU #3 BU #4 BU #5 ALLOCATE ASSETS & OVERSEE ENTIRE PROCESS Asset/Liability (ALM) Asset Units MANAGE THE ASSETS Bonds Mortgages Equity Alternatives Real Estate. 6 How ALM Constructs Investment Policy PROFIT CENTER Communicate Product Characteristics & Design Expected Cash Flows Client Options Pricing Strategy Competitive Considerations Importance of Income vs. Capital Gains Recommended Duration ASSET / LIABILITY MANAGEMENT Asset Mix Income Impact Economic Return Surplus Volatility Capital Requirements Liquidity Interest Rate Risk Product Pricing Support INVESTMENT UNITS Provide Market Intelligence Spreads Deal Flow Research Leverage Competitive Investment Strengths Credit Research Regional Presence Direct Origination Flexibility Investment Policy A Policy Statement determines types of assets to include in portfolio and the level of risk.

5 7 Best Practices Model Asset / Liability Components of ALM and Investment Framework 1 Strategy Investment Objectives and Risk Appetite Capital and Risk Strategy ALM Policy 2 Execution Review of Asset Allocation Liability Measurement SAA TAA Asset Manager Selection Rebalancing Performance Monitoring and Reporting Risk 3 Organization 4 Systems Support Governance/Organization and Talent IT Tools, Performance Controlling, Settlement/Accounting 8 ALM Control & Reporting Framework Delegation of Authority Approval of Policies and Limits Board of Directors CIO Investment Policy Asset Liability Strategic and Tactical Asset Allocation Performance Measurement ALM Investment Policy Statements Asset Units Daily Trade Review & Authorization Segregation Between Trading & Operations Public Trading Units Performance Reporting vs. Benchmark Private Origination Units Reports Formal Credit Approval Process Ongoing Credit Monitoring Establishes Risk Guidelines and Limits Risk Group Ensures Risks are Within Guidelines & Limits Performs Risk Analysis & Measurement

6 9 Investment Objectives and Constraints Goals Capital Preservation Minimize risk of real loss Capital Appreciation Growth of the portfolio in real terms to meet future needs (liabilities) Constraints Investment Policy Fiduciary Responsibility Regulatory Economic Current Income Focus on generating income rather than capital gains Liquidity Needs Geopolitical Total Return Increase portfolio value by capital gains and by reinvesting current income Maintain moderate risk exposure Generate surplus Time Horizon Tax Concerns 10 Disclosure These materials represent the views, opinions and recommendations of the author(s) regarding the economic conditions, asset classes, securities, issuers or financial instruments referenced herein. Distribution of this information to any yperson other than the person to whom it was originally delivered is unauthorized, and any reproduction of these materials, in whole or in part, or the divulgence of any of the contents hereof, without prior consent of Prudential is prohibited. Certain information contained herein has been obtained from sources that the author believes to be reliable as of the date presented; however, we do cannot guarantee the accuracy of such information, assure its completeness, or warrant such information will not be changed. The information contained herein is current as of the date of issuance (or such earlier date as referenced herein) and is subject to change without notice. Prudential has no obligation to update any or all of such information; nor do we make any express or implied warranties or representations as to the completeness or accuracy or accept responsibility for errors. These materials are not intended as an offer or solicitation with respect to the purchase or sale of any security or other financial instrument or any investment management services and should not be used as the basis for any investment decision. Past performance is not a guarantee or a reliable indicator of future results. No liability whatsoever is accepted for any loss (whether direct, indirect, or consequential) that may arise from any use of the information contained in or derived from this report. The opinions and recommendations herein do not take into account individual client circumstances, objectives, or needs and are not intended as recommendations of particular securities, financial instruments or strategies to particular clients or prospects. No determination has been made regarding the suitability of any securities, financial instruments or strategies for particular clients or prospects. For any securities or financial instruments mentioned herein, the recipient(s) of this report must make its own independent decisions.