How Insurers’ Investment Portfolios Thrive Despite Loss, Catastrophe

It has been a challenging time for the U.S. property and casualty insurance industry. Increased natural catastrophes, growing inflation (both economic and social) and the rise in punishing jury verdicts have led to increased losses. The total U.S. P&C industry posted a net underwriting loss of $21.6 billion in 2023, after a record loss of $25.8 billion in 2022, according to ratings agency AM Best. By comparison, the sector’s underwriting loss was $3.02 billion in 2021, and in 2020, the industry posted a net income of $4.4 billion.

In such an environment, it is crucial that insurers’ general account investment portfolios remain strong and generate income. After all, the portfolio provides the income and revenue the insurance companies need to pay claims.

It was a record year for severe convective storm losses in 2023, with AM Best estimating U.S. catastrophe-insured losses to reach $93 billion. But climate change isn’t the only reason why insurers are seeing an uptick in losses. Economic growth, rising social inflation (which refers to the increase in insurers’ claims costs beyond general economic inflation), and legal system abuse are also contributing to yearly losses.

But thanks to rebounding equity markets, higher interest rates and a growing move into the private markets, P&C insurers have recently seen a significant increase in investment income.

Fixed Income Remains Core

U.S. P&C insurers, which managed $2.7 trillion in assets in 2023, have maintained a conservative approach to investments, investing predominantly in fixed-income assets. Jim Auden, a managing director at Fitch Ratings, pointed out that the overall allocation has remained relatively stable, with about 80% of insurance companies’ investable assets held in bonds over the past decade.

Insight Investment’s Kerry O’Brien, head of insurance portfolio management for North America, confirmed this, stating that most insurance companies have 80% to 90% of their portfolios in fixed income, prioritizing income and capital preservation.

As a result of the Federal Reserve’s moves to raise rates by 525 basis points over the course of 2022 and 2023, P&C carriers’ portfolios have seen a substantial boost.

“New investments now offer yields that are often 100 basis points higher than maturing bonds,” Auden says.

O’Brien echoes this sentiment: “Given rates are higher, that’s offsetting some of those losses they’re facing. Now we have yield back in fixed income, and that’s providing some cushion for their portfolios.”

This shift has positively affected investment income for P&C companies. Per AM Best, insurers’ net investment income reached a record $73.9 billion in 2023. Adjusting for a one-time transaction in 2022, growth was nearly 20% in 2023. Overall net yield increased to 3.2% in 2022, the highest since 2014.

Equities and Private Markets

While fixed income remains the dominant asset class within most P&C carriers’ portfolios, they still invest in equities, which, according to Auden, “are the traditional risk asset for P&C insurers.” With the S&P 500 having gone up 44.25% for the two years that ended June 30, that has also served portfolios well.

Michel Leonard, chief economist and data scientist for the Insurance Information Institute, says that the historical range for equity exposure in P&C insurance exposure has been between 17% and 25%. In 2022, portfolios were, for the most part, on the upper end of that range. While it decreased in 2023, Leonard says he suspects that it may be going back up.

“Now would be time to be exposed to equity,” Leonard says. “We’re now at a more aggressive part of the cycle in equity.”

Within equities, O’Brien points to a shift from single stocks to exchange-traded funds, as insurers seek broader diversification in their equity allocations. She adds that insurers are “taking those equity gains and redeploying them into fixed income.”

Liquidity management is a key focus for insurers. Mercer and Oliver Wyman’s 2024 Global Insurance Investment Survey found that half of respondents reported having excess liquidity, while 43% said they had sufficient liquidity. According to Mercer Global Solutions CIO Niall O’Sullivan, this is driving insurers toward less liquid assets, particularly within the private markets.

“In a world where 50% of insurers said they have more than enough liquidity, we’re seeing a move into private credit and private debt,” O’Sullivan says.

Insight’s O’Brien also says she has seen “a big move into investment-grade private credit” among insurers, as well as into “direct lending.”

Mercer and Oliver Wyman’s survey revealed that 73% of insurers currently invest in private markets or plan to do so in 2024, with 39% intending to increase their private markets allocations. Specifically, 32% of insurers plan to increase asset allocations to private debt this year, up from 27% in 2023.

O’Sullivan added that over the next 12 months, insurers intend to increase their allocations to investment-grade credit, sub-investment-grade credit (both public and private) and, to a lesser extent, mortgage debt.

Regulatory Pressures and ESG Considerations

Since climate change impacts insurers more than many other industries, these companies face increasing pressures to manage climate-related risks. According to Dave Snyder, vice president of policy, research and international for the American Property Casualty Insurance Association, carriers are accommodating this demand.

“Most insurance companies submit an annual [National Association of Insurance Commissioners] climate risk disclosure survey that closely aligns with the Task Force on Climate-related Financial Disclosure framework,” Snyder says. “Insurers are also required to list all of their investments in the annual financial statements they must file with the NAIC and their domestic regulators.”

Snyder added that fossil fuel investments “represent a single-digit proportion” of P&C insurers’ total investments. Insurers generally seek diversified portfolios “to hedge against losses and maximize returns, subject to comprehensive regulation.”

While environmental, social and governance investing is nothing new, the landscape in the insurance industry is evolving. O’Sullivan noted that the term “‘Sustainability’ (with a capital S)” has different meanings in different regions of the world, and it has specific regulatory connotations in Europe, as compared with more varied interpretations in the U.S.

The Mercer executive also highlighted a shift in interest. In 2023, 83% of insurers were considering sustainable investing, but this dropped to 68% in 2024 data. However, there has been an increasing push to integrate sustainability across entire portfolios, including both stocks and bonds.

Wall of Demarcation vs. Open Communication

While higher yields have provided a cushion and strong equity markets have bolstered returns, profitability on the underwriting side remains crucial, regardless of investment performance.

“There is increased pressure to improve returns when underwriting isn’t as profitable, says the Insurance Information Institute’s Leonard. “But that won’t necessarily change how we invest our portfolio. We must be profitable on the underwriting side, regardless of what we make on the investment side.”

While Leonard pointed out that the underwriting side of the business cannot simply rely on strong investment performance to cover its losses, Insight’s O’Brien says there is growing collaboration between the liability and investment sides of the P&C sector.

“Decades ago, there was limited communication between the liability side and the investment side,” she says. “The dialogue and collaboration between the liability side and those managing the assets has improved exponentially. There shouldn’t be a wall.”