Property / Casualty Insurer
Predominant product: Auto Insurance
Problem: Insurer had recently received significant capital infusion, was growing their business quickly and required improvements to investment process that reflected increased sophistication.
Solution: SAA reviewed investment process and suggested complete rewrite of investment policy, improved asset allocation focused on maximizing after tax risk adjusted return on surplus, establishment of relevant investment benchmarks, and search for external investment manager(s).
Result: The company has achieved significant increases in investment income and return on surplus by adding different sectors, including municipals and other securities favored by premium tax credits. External manager has added sophistication and expertise to the investment function. SAA’s monitoring of investment process has kept manager focused on meeting and / or exceeding customized benchmarks, adjusted for risk.
Property / Casualty Insurer
Predominant product: Medical Malpractice
Problem: Insurer was utilizing the services of an investment consulting firm with primarily pension expertise and limited insurance expertise. Investment managers were providing spotty performance against relevant benchmarks. There was no risk management in place that linked underwriting risks with investment risks.
Solution: SAA initially reviewed work of existing investment consultant and found significant logical holes in the analysis, as applied to an insurance company. SAA reviewed investment and overall risk management process resulting in suggested revision of investment policy, improved asset allocation focused on maximizing after tax risk adjusted return on surplus, establishment of relevant investment benchmarks, and search for external investment manager(s).
Result: The company has achieved significant increases in after tax investment income by adding some credit risk and convexity risk. These and other risks are now measured and monitored by SAA in order to control risk within revised investment policy limitations. New external managers have added vast insurance specific expertise to the investment function. SAA continues to monitor investment portfolio risks and rewards, while measuring performance against more relevant benchmarks.
Property / Casualty
Predominant product: Auto, home and farm
Problem: Insurer was buffeted by extraordinary credit losses, despite having a very conservative credit risk policy. New fixed income investment manager was hired. However, that manager did not have sufficient insurance specific expertise. Equity portfolios used various styles, but had not all performed as well as expected.
Solution: After reviewing current manager’s capabilities, SAA suggested revisions to the benchmarks as well as limitations to be placed on the manager. A detailed asset allocation analysis was performed that recommended changes to equity styles, managers and form of investment. The company’s focus was on total return, so the asset allocation focused on maximizing risk adjusted return, while simultaneously considering the impact of downside risk on key financial measures such as net income, return on surplus and Best Capital Adequacy Ratio.
Result: The company’s communications with its fixed income manager improved, while the manager achieved returns adjusted for risk, in excess of the benchmark. The company reallocated its equity portfolio to lower cost, better performing alternatives. SAA continues to review the investment process for additions to the manager’s current style and the company’s risk appetite for changes in its equity portfolio.
Predominant product: Liability insurance
Problem: Insurer’s existing consultant was ‘pushing’ an asset allocation that management felt was flawed, but was unsure how to explain best to the Board of Directors. This raised issues of potential conflicts of interest (i.e. hard or soft dollars flowing from certain managers to the consultant, either directly or through another third party).
Solution: After reviewing current consultant’s asset allocation recommendation, it was fairly obvious the consultant’s insurance knowledge was subject to question and the asset allocation was flawed. SAA performed an asset allocation analysis that recommended changes to equity styles, managers and form of investment. The company’s focus was on total return, so the asset allocation focused on maximizing risk adjusted return, while simultaneously considering the impact of downside risk on key financial measures such as net income, return on surplus and Best Capital Adequacy Ratio.
Result: The company was able to shoulder the harmful effects of the bursting of the high-tech bubble in 2000-2002, while achieving solid risk adjusted return on the portfolio.
Predominant product: Specialty Casualty
Problem: Insurer had been buffeted by significant credit losses over a two year time frame. This was tied to a strategy focused on opportunistic investing in higher yielding sectors of the market. Senior management wanted to know exactly how to quantify losses going forward, as this factor was undoubtedly imbedded in the current yield to maturity of the portfolio.
Solution: SAA initially reviewed the past credit risk experience of the portfolio, noting differences with a less risky, core fixed income approach. Using a Portfolio Credit Review approach, SAA was able to both quantify and qualify the expected default and loss, net of recovery, of the portfolio in different environments. SAA was also able to develop an expected loss distribution, indicating a non-normality (i.e. ‘fat tails’).
Result: The company used the Portfolio Credit Review to estimate expected losses on the portfolio and get a better understanding of the value being added, net of expected loss, of the portfolio. In essence, the company has been able to develop an accurate implicit ‘reserve for losses’ that it uses in its economic planning cycle.
Property/Casualty Insurer (captive)
Predominant product: Liability
Problem: Captive insurer had used the services of a well known pension consulting firm for several years, but realized that the lack of insurance knowledge had become a problem. Insurer want to determine if an insurance specific investment consultant would add value and how.
Solution: SAA initially reviewed the investment process and portfolio and noted some inconsistencies with the key goals of the company. Notably, a focus on total return was clashing with a corporate goal of improving net income. In addition, some investment policy performance targets were being exceeded due primarily to performance achieved very early in the relationship with the manager, instead of by more current performance.
Result: The company, using improved risk adjusted analytics provided by SAA, has a better understanding of the value added by the manager. The manager has also begun revealing performance attribution statistics that are analyzed by SAA. The company has started the process of changing the investment process to focus on overall risk management and meeting and exceeding corporate financial goals.