(Bloomberg) — The booming demand for hot exchange-traded funds has finally caught up with the insurance industry.
U.S. insurers are the latest group of investors to start buying ETFs en masse, with one of the fastest adoption rates among institutions. And they’re not done yet, according to JPMorgan Chase & Co.’s Mark Snyder, who helps oversee funds for the industry. Insurance companies are holding an estimated $200 billion in cash and another $80 billion in equities that could be reallocated, he said, and by shifting some of their portfolios about $25 billion to $50 billion could flow into ETFs.
“It’s pretty clear that it is an area of pretty dramatic growth,” said Josh Penzner, head of BlackRock Inc.’s iShares fixed-income and insurance sales. “Insurers, they’re not quick to change, however they’re really looking at their investment processes and looking at ways they can evolve.”
As ETFs have grown from small niche products targeted at retail investors to market behemoths held by hedge funds, pension funds and other sophisticated institutions, insurers have been slow to take them on.
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Insurance companies can invest premiums in the funds while waiting to pay out claims. In recent years, they’ve suffered from low interest rates because their portfolios are mostly composed of bonds. In 2014, only 26 percent of the firms had their reserve assets in ETFs, according to a Greenwich Associates LLC survey.
Now that’s changing, with insurers expected to double their ETF wagers over the next five years, according to an analysis by S&P Dow Jones Indices.
Insurers are turning to ETF strategies such as smart beta, which bases decisions on those of talented human stock pickers. (Photo: iStock)
The shift is another setback for traditional managers who have struggled to beat their benchmarks as ETF purveyors offer cheaper and more complex products. U.S. insurers had $17.7 billion invested in hedge fund strategies at the end of 2015, and companies such as MetLife Inc. have been scaling back.
They’re turning to ETF strategies like smart beta, which use computer models to augment passive holdings and promise to replicate everything a talented stock picker brings to the table except the emotions and fees. What’s more, demand for the newest smart beta product — multifactor ETFs — is strongest among insurers than any other investor class, according to the Greenwich Associates study.
“What we see in the insurance market it not too dissimilar from what we’re seeing in other institutional channels,” John Hoffman, national sales director at Invesco Ltd.’s PowerShares ETF unit. “These entities have very long holding periods, and they’re buying a lot of smart beta ETFs because they can capture risk premiums over a long market cycles.”
USAA Insurance Group is the largest insurance investor in ETFs in the U.S., with about $1.6 billion allocated to the asset class, according to S&P’s report. The insurer still internally manages a large majority of its holding but has become increasingly attracted to ETFs, said Lance Humphrey, the firm’s executive director of global multi-assets. As asset managers like BlackRock and Charles Schwab Corp. slash their costs in an ongoing fee war, insurers can get cheaper exposures they otherwise might not have had, he said.
“ETFs were the first way we’ve gotten factor-based quantitative exposure,” said Humphrey, who’s firm is also the biggest buyer of Goldman Sachs Group Inc.’s U.S. multifactor fund, with 12 percent of the shares outstanding. “It was a function of having quality products come to market with reasonable fees and trading costs that allowed us to make allocations to those types of investments.”