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Magazine Issues » November 2012

FRANCE: Time to be solvent

Aifel towerCould regulations such as Solvency II increase demand for non-traditional investment products, such as guaranteed funds, smart indices and low-volatility strategies? George Mitton surveys the French players.

Among the many regulations due to come into force in Europe, the Solvency II regime for insurance companies could have some of the most dramatic consequences for asset allocation.

When the regulations come into effect at the beginning of 2014, insurance companies will be required to keep capital against the assets they hold. They will have an incentive to find an efficient allocation, which allows them to keep capital requirements low.

Some insurers will do their calculations in-house, according to their own models. But not all. For many asset managers, there is an opportunity to provide their clients with Solvency II products.

Gilles Guérin, chief executive of Theam, a subsidiary of BNP Paribas Investment Partners, believes Solvency II could create a lot of business for his firm, which specialises in index, guaranteed and alternative strategies.

“Does it give us a lot of business? No. Does it create potential? Yes. We are at the starting point, but we believe there is a big iceberg.”

Because of the range of alternative investment products his firm offers, Guérin believes Theam is better positioned than traditional asset managers to benefit under the Solvency II regime. “It will be a tremendous source of revenue at some point in the future,” he adds.

Guérin says he has several options for a Solvency II client. There are hard capital guarantees, which limit the loss on the client’s investment; “soft” options, that provide tail-risk hedging; or products with calls and puts embedded in them. A formal guarantee offers reassurance, but this is expensive. It is up to the individual client to determine their risk tolerance and, therefore, the amount they are willing to spend on protection.

Fathi Jerfel, head of investment solutions for retail networks at Amundi Asset Management, also believes Solvency II offers an opportunity. “We are working with insurance companies to have an idea how to control and cap the level of risk in order to control the capital requirements over time,” he says.

Jerfel says the key is to make the product offering straightforward and easy to understand. He makes an analogy with personal computers, which are inwardly complex but present a simple interface to users.

“The market is for simple, transparent products. The complexity and sophistication must be inside.”

A number of other French providers emphasise simplicity. For Stéphane Blanchoz, chief investment officer for alternative fixed income and structuring at BNP Paribas Asset Management, the aim of his team is to “use sophistication to deliver simple products”.

These include a guaranteed fund which has had good inflows, particularly from high-net-worth individuals who want to protect their money from volatility related to the eurozone crisis.

“Regulation is a big opportunity to think about our approach in providing solutions to clients,” he says.

Smart beta or smart index products could be useful for insurance companies that want to reduce their capital requirements. There are many well-publicised weaknesses with conventional bond indices. For instance, that they are often skewed towards issuers that are heavily indebted.

Better alternatives include sovereign bond indices that are weighted by GDP rather than by the amount of outstanding debt. Corporate bond indices can be weighted according to a measure of issuers’ ability to pay. Both could be useful for insurers, which invest heavily in fixed income.

François Millet, head of index development at Lyxor, believes a newer innovation could be valuable: risk-weighted bond indices. Lyxor has recently launched such products based on indices calculated by Citigroup. These are weighted according to the risk level of an issuer, which is calculated by its credit spread and the correlation with those of other issuers in the universe.

“We have calculated the capital requirement of a traditional corporate bond index versus the risk-weighted index and we are gaining significantly,” says Millet.

Millet’s tests suggest the SmartIX Euro Corporate bond index, from Lyxor, calculated by Citi as agent, improves the solvency capital requirement to 5.92% from 7.37%, compared with the original value-weighted index.

David Niddam, head of managed account structuring at Lyxor, explains how his team has developed the T Rex index that replicates the performance of the hedge fund industry. Such a product may be useful for insurance companies that want to diversify into alternative investments in a straightforward way.

“We are exploring creating dedicated strategies for insurance companies in the alternative world. Solvency II is not yet in place. Investment in dedicated products that will solve the Solvency challenge is just starting. But it is an opportunity to help our clients by finding dedicated solutions.”

As with all regulatory changes, those firms that are quick to get products to market to meet clients’ new needs will have an advantage. Although the insurance industry has already spent a great deal on preparing for Solvency II, a recent report from the European Fund and Asset Management Association and consultancy, KPMG, suggests that asset managers still have a lot of work to do to get their data systems ready for the January 1, 2014 deadline.

French firms have a long history of providing sophisticated investment products. With Solvency II, these products could generate significant demand from insurers. It is an opportunity not to be missed.`

©2012 funds europe