Life Securitization Stalled, Sector Pins Hope On Embedded Revival

With capital markets “no longer a viable source of funding” for life insurance reserve securitizations, the sector is focusing on embedded value strucures to restart the deal cycle, according to a discussion at the Standard & Poor’s Insurance Conference on Thursday.

Despite the fact the that life insurance funding needs are still “substantial”, there has been little interest in securitizing insurers’ redundant reserves into the public markets through XXX and AXXX deals, says Gary Martucci, director at S&P.

“Capital markets and banks have served as a source of funding for the life insurance community,” Martucci said. “However, as the financial crisis has unfolded risk appetite, concentration limits and duration concerns have increased dramatically.”

According to S&P, then firm rated over $4 billion in XXX and AXXX notes in 2007 with little to no activity since that time.

Life insurers continue write new business and grow reserves despite the capital markets disinterest. “Some companies are just warehousing these reserves,” Martucci said. “At some point these issues need to be dealt with.”

Despite the falloff in publicly traded deals the private market remains fairly robust, said Dennis Ho, director of Capital Markets & Treasury Solutions at Deutsche Bank in New York. “We have seen several billion in AXXX transactions in 2011 and we think there will be at least that amount in 2012,” he said, adding that the demand for life reserve financing has built up since the 2008 financial crisis with banks stepping in with lines of credit.

Ho added that most of the deals done lately have been nonrecourse transactions — with a 15 year to 20 year durations — and are priced “well inside the [credit default swap spread] of the insurers.”

“If you are going out 30 years, it gets very expensive,” Ho said. “There is no market for longer durations.”

The one bright spot for life securitizations are so-called “embedded value” transactions that allow a life insurer to sell-off liabilities “embedded” in a particular book of business.

Ho said that more insurers are circling these deals as their balance sheets stabilize.

“As markets started to normalize, insurers will try to use more efficient of capital and they are starting to turn to embedded value,” Ho said, adding that that closed, “plain vanilla blocks” of business are the best candidates for the capital markets.

But even focusing on plain vanilla structures will not be an easy task with investors, said Gregg Clifton, CFO of Aurigen Group. Canadian-based Augiren’s Vecta I securitization was the last, large publicly traded embedded value deal to hit the markets. Then deal was completed in 2011.

“What surprised us the most was a very wide range of views on the key risks; mortality and lapse,” Clifton said “Once we got over the fact that investment risk was taken care of in [Canada’s] principal-based regulatory environment, it was challenge for our independent actuary to come up with a stress scenario on a wide range of views on mortality and lapse. Everybody seemed to have their own view,” he said.

But even if investors are willing to received embedded value deals, not all issuers will run the securitization door until their own business is stable, argued Deutsche Bank’s Ho.

“You don’t want to do an EB transaction unless you want to know you do with the capital,” he said. “Embedded value transactions are not a have to do, they are nice to do.”

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