Investing in Private Markets: A Road Map for Insurance Companies

May 15, 2018

In the late 1960s, it became clear, especially to American endowments, that investing in low-risk portfolios that were tilted toward fixed-income securities was a suboptimal strategy. Though this approach made it easy to set a fixed spending rate, real returns were so low that some endowments saw their corpora shrink. Since then, many endowments have perfected more sophisticated strategies that often rely upon private markets to outpace inflation and preserve capital.

The issues that confronted US endowments were not as problematic for insurers at the time; yield compression over the past 40 years allowed insurance companies to invest conservatively and still remain competitive. As many other investors have discovered, today’s market dynamics are forcing insurance companies to consider incorporating private markets to boost returns. While it may not be sensible for insurers to invest in alternative asset classes as heavily as endowments or sovereign wealth development funds, many portfolio managers are looking outside of traditional asset classes to find sufficient returns.

In addition to preferring the straightforward, low-cost nature of fixed-income investing, insurance companies historically avoided private markets, which they perceived to be inefficient. With few, if any, visible transactions, the difficulty of accessing data that were robust and trustworthy made it hard to judge and model—let alone implement—alternative investments and to capture the risk premia they offer. Today, however, there is a broader array of data available to model these asset classes.

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