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Earlier this month, Aviva became the latest major insurance group to launch a hybrid bond with call features that would trigger in the event the instrument is deemed inadmissible for Tier II capital under the forthcoming Solvency II directive.
Bankers say the latest round of debt issued by insurers indicates that firms are alive to the need to build a capital structure that can withstand the uncertainty between now and the implementation of Solvency II.
Bankers say insurers are mimicking the banking sectors' approach with these new bond structures. Piers Ronan, a member of the financial institutions group syndicates team at Credit Suisse in London, says: "We've seen a couple of situations in the banking market where issuers have made features conditional on future regulation. So there is a precedent from a structural perspective, and I wouldn't rule out more banks and insurance companies doing similar transactions in the future."
The changes to banking regulation are also giving insurers a temporary advantage in sourcing debt finance from the capital markets, says Ronan. Under Basel III, hybrids must contain specific features to qualify as Tier I capital, such as loss absorption if a bank's common equity ratio dips below 5.125 per cent. For Tier II instruments, banks are no longer allowed to issue bonds with step-up features. Insurers currently have more flexibility in issuing hybrids in all three capital tiers under Solvency II proposals.
"The insurance supply has been much higher than normal this year, because insurance companies have recognised they have this window of opportunity to access the capital markets while the rules around bank hybrid capital are being finalised", Ronan adds.
The structural differences between banks and insurers are also driving investor interest towards hybrids issued by insurance companies, say insurers. Matthias Jaeggi, head of funding at Swiss Re in Zurich, explains: "Pre-crisis, insurers were trading somewhat wider than banks [in terms of their debt issues]. Post-crisis, I think people [have] started to appreciate the kind of risks banks were running because of their higher leverage ratios versus the more conservative insurance and reinsurance companies."
Jaeggi says that banks that have issued stock settlement hybrid bonds and write-off hybrid bonds are typically running between 30 and 35 times their core equity Tier I ratio. In contrast, Swiss Re, for example, is running at five-and-a-half times its capital ratio. "So the same percentage change in balance sheet values would have a much more adverse effect on the banks' capital buffer than our own. Investors have clearly understood the implications behind these metrics", Jaeggi says.
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