Private equity is going through a strong period. The alternative asset class has been shown to be among the top diversification options for investors, but others are starting to look to the sector as well. The Financial Times published a post on Monday to highlight insurers increasing interest to diversify and to look in private equity.
What is behind the drive?
Insurers have traditionally been relying on higher interest rates to drive their profits from investment returns. Yet, interest rates have been low in the past decade, forcing the industry to change the way they operate. This has meant the withdrawal of investment guarantees and increasing investment diversification opportunities. Insurers aren’t just relying on government bonds or high-grade corporate debt, but other assets. While assets such as infrastructure remain popular, alternative assets like private equity are beginning to look a lot more interesting as well.
Drive to diversify
Diversification can provide insurers better returns and help reduce risk. The need to diversify has been going up since the Brexit vote last June and the US election in November. Patrick Liedtke, head of the Emea financial institutions group at BlackRock, told the Financial Times, insurers felt it was too expensive to hold on to cash after the vote in both occasions – and the shocking results, if you consider the expectations and polls.
“Any outcome which removes uncertainty helps people to make decisions about their investments,” Liedtke told the newspaper. Private credit, infrastructure and real estate are the go-to investment options for many insurers. However, there’s an increasing appetite towards private equity as well. Liedtke told the newspaper, the surge in the sector is not a surprise considering how it offers returns that are higher than in other alternatives. “From a regulatory point of view, private equity does not consume too much capital after you take diversification benefits into account,” he said.
In February, the Insurance Journal presented findings of a study in the insurance industry, which had found private equity investments to be on the rise in terms of funding insurers, especially in terms of mergers and acquisitions. Phil Trem, senior vice president at the MarshBerry, told the paper, “Recently private equity firms have driven the demand in the marketplace, which has had a positive effect on the multiples in the industry.”
However, some analysts have found the involvement difficult for the sector. The amount of dry powder available has meant that when it comes to deal making, the price tags can be expensive. Chris Burand, principal at Burand & Associates, said, “The amount that private equity is paying is so much higher than what a regular agency can cash flow if they were to buy an agency that it’s created a very disparate marketplace.”
What if interest rates increase?
Since low interest rates have been helpful in attracting insurers to private equity and boosting deal numbers, will an increase in rates change the mood? The insurance industry has been relieved by the prospect of higher US interest rates, but even if they do increase, the interest in alternative assets is unlikely to wane. The industry has already invested time and money to managing the new asset class – private equity has also provided the sector with the chance to boost returns. Insurers are not going to abandon the new opportunities.