Commercial real estate asset risk is “not a major concern” for the European re/insurance sector, suggest analysts at J.P. Morgan.
Amid increasing investor interest around asset risks, J.P. Morgan has compiled data on European re/insurers’ exposure to commercial real estate (CRE) asset risk.
The firm’s analysts first note that CRE has a 25% capital charge under Solvency II, 2-3x that of an A-rated or BBB-rated corporate bond portfolio, which in turn discourages a high allocation.
Further, the analysts state that CRE does not have ‘duration characteristics’ under Solvency II, and cannot be used to match interest rate risk or the duration of liabilities.
According to J.P. Morgan, overall allocation to CRE is low in the context of other ‘risky assets’.
The analysts write, “We estimate a full year 2022 average asset allocation to CRE of 6% of European insurer investment portfolios. This is lower than equities, and 5-6x lower than corporate credit exposure.”
They continue, “We believe a significant proportion of CRE is held in funds backing liabilities where the investment risk is shared with policyholders (so-called traditional life participating savings policies).
“We have made estimates for this in our analysis. When we deduct this policyholder share of risk, and tax, the average gearing of shareholders’ equity to CRE assets is 20%. This implies that a 10% drop in the value of CRE would only hit shareholders’ equity by ~2%.”
Moreover, J.P. Morgan observes that the illiquid nature of insurers’ liabilities means they are unlikely to be forced early sellers of CRE to pay liabilities.
The firm continues, “CRE lending is a form of illiquid credit, but our analysis suggests these involve low LTVs, with good quality underlying borrowers such that these loans qualify for a reasonable capital treatment under Solvency II. However, these do not appear to be a large proportion of assets for most insurers.”
Concluding, the analysts state that it is unhelpful to mention re/insurers with the greatest exposure, because, on an absolute basis, this exposure appears to be low relative to other asset risks.
Nonetheless, J.P. Morgan notes that those insurers with the highest shareholders’ equity leverage to CRE prices are Generali and Hannover Re, while those with very low CRE exposure include Aviva, Phoenix, Sampo and Prudential.
