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Life insurers swap liquidity for yield

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Life insurers stepped up their investments in commercial mortgages last year and are expected to continue doing so, Fitch Ratings said Thursday. That’s the case even as mortgage underwriting standards generally have declined, a trend seemingly at odds with life companies’ conservative approach. The ratings agency notes that competition among life companies has been growing for mortgages, due to an increasing pool of insurers in this asset class that are willing to trade liquidity for yield.

Investment in mortgages grew 7.7 percent in 2015 to $360 billion for life insurers in the Fitch-rated universe, representing an increase over the prior-year growth rate of 5.8 percent. Mortgage allocations increased to 12.4 percent of invested assets for life insurers in the Fitch universe from 11.6 percent the prior year.

Over the course of last year, there was an increase in the number of large insurers with above-average mortgage allocations as well as a few relatively newer entrants in the mortgage loan space with large year-over-year increases, says Fitch. Almost 80 percent of US life companies experienced some degree of growth in their mortgage portfolios last year.

“Loan selectivity and credit discipline may start to differentiate investors further down the road, as US life insurers have increased their allocations to mortgages despite an increase in originations of riskier loans and property types.” says Nelson Ma, director with the ratings agency. Fitch notes that increased competition for yield among investors in the low rate environment has resulted in declines in mortgage loan underwriting. As evidence, the firm cites higher originations in riskier property types such as mezzanine and construction loans, an increase in riskier interest-only loans and higher loan-to-values in CMBS and market intelligence from Fitch’s discussions with senior management of life insurers.

Overall credit quality of the mortgage portfolios as measured by the National Association of Insurance Commissioners’ rating methodology remained high at year-end ’15. Sixty-two percent of mortgages were rated CM1 with strong credit metrics and 31 percent were rated CM2 with adequate metrics. Under the NAIC methodology, individual mortgage ratings are based on debt coverage ratios, LTV and property type metrics.

Furthermore, mortgages in ’15 continued their run of strong performance driven by low credit impairments. Life companies’ mortgage portfolio yields declined to 5.1 percent for ‘15 from 5.3 percent for 2014, in keeping with the general direction of low interest rates for new money investments, but remained attractive by comparison to investment-grade bonds.

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