Liquidity Alternatives for Insurers and Government Risk Pools

Liquidity is an everpresent need and consideration for both insurance companies and governmental risk pools. We spoke with UMB Bank to discuss how some manage liquidity within their treasury and custodial operations.

John Weasler | SVP, Manager, Business Development | UMB Bank
john.weasler@umb.com | Learn More >>

SAA: Insurers and risk pools can face liquidity gaps (both unforeseen and foreseen). What are some liquidity options to help bridge these gaps?

UMB: That is correct—it is not uncommon for insurers to experience a mismatch between the timing of claims versus when premiums are received or an investment matures. Of course, insurers take this into account in their investment policy by holding cash and other liquid assets. That said, there are situations where an insurance company may need to borrow funds to avoid liquidating investments or altering its asset allocation.

Traditional bank lines of credit and FHLB advances are common liquidity sources in the insurance world. One option that may be less well-known is a reverse repurchase agreement (“reverse repo”). A reverse repo allows the borrower to utilize its existing custody assets as collateral for short-term borrowing needs. This can be done as a “rainy day” liquidity mechanism or, in some cases, as a strategic tool for longer term liquidity management.

SAA: Tell us more about reverse repurchase agreements. Are there any advantages compared to other liquidity options?

UMB: Reverse repo enables financial market participants to borrow funds for short periods of time by utilizing the investments already held in their custody account as collateral. Here are a few details surrounding the mechanics and terms:

• Eligible securities typically match well with government risk pool and insurance holdings: U.S. treasuries and agencies, commercial paper, investment-grade corporate bonds and ABS, and investment-grade taxable municipal bonds, mortgage-backed securities, equities, as well as other asset types.
• Clients can arrange reverse repo liquidity facilities that are either committed or uncommitted. If it's on a committed basis, clients pay a commitment fee on the total committed amount.
• Providing reverse repo upon demand by the client, such as is done at UMB, at preexisting terms that are not subject to current market conditions can replicate the guaranteed availability of a line of credit.
• The rate on funds utilized varies depending on type of assets available as collateral. Advance rates/haircuts vary depending on the security type and credit quality.
• If the insurer has late-day liquidity needs that aren’t known until later in the day, this can typically be accommodated. Once the facility is in place, accessing liquidity is considerably easier than it typically is to access a line of credit.

Insurance companies may find this program cost-effective compared to traditional lines of credit. The specific terms of the agreement and rate vary by asset type but are set at the time the facility is established and are not subject to change. Clients may find committed access to liquidity at preestablished economic terms valuable, especially in times of market stress.

SAA: What about the assets set aside as collateral? Does this limit insurers’ and their investment managers’ ability to transact? What other limitations arise with reverse repo?

UMB: For clients, securities set aside as collateral are identified and segregated into a sub-account. These securities continue to collect interest payments. At any given time, the client can identify securities within the portfolio to substitute as collateral. Since securities are simply transferred at the sub-account level, this process can be accomplished same-day with proper notification. This allows clients and their investment managers to freely trade those securities previously earmarked as collateral.

Source: Strategic Asset Alliance, UMB. The information contained herein has been obtained from sources believed to be reliable, but the accuracy of information cannot be guaranteed.