Pricing in the benefits of old age

Genworth chief investment officer Kelly Saltzgaber explains how the US insurer makes the most of its liabilities characteristics to find yield in duration and illiquid assets

Can you introduce Genworth to our audience?

Traditionally, we are an insurance company underwriting long term care insurance, life insurance and annuities products. We actually suspended sales on all of those products a several years ago, but we've announced that we're going to reenter the long-term care insurance market next year through a new insurance company we've named CareScout Insurance. We think there's a huge opportunity with the aging population.

Long term care is providing insurance for people to get care if they can't do the activities of daily living. These include things like dressing yourself or feeding yourself. Most of our policyholders start with bringing caregivers into the home to help them with those activities of daily life. Some see their disabilities advance to the point where they enter a facility.

A very large proportion of people who reach later ages, mid 80s, need some help, and that's expensive either to have somebody at home or to go in a facility. Often that help is provided by family members, which puts a big stress on them. So, we think we're providing a real service and that the demand for long term care and the ability to finance it is going to continue to grow.

Separately we also own just over 80% of Enact Mortgage Insurance Corporation. We manage their assets as well.

Our assets under management are currently at $60bn, most ($54bn) of which is from Genworth and the remaining from the mortgage insurance business.

And looking at the investments for Genworth's balance sheet, what are you investing in?

Our asset allocation strategies are really based on the liability characteristics. People generally buy long term insurance products in their 50s, and, we'd expect them to claim, if they do claim, in their mid-80s. As a result you have this 30 year window, and our liabilities extend out to 60 years, so it's very long duration.

Also, it doesn't need a lot of liquidity because, in contrast to things like fixed annuity, there are no surrenders, therefore no market driven liquidity is needed.

Therefore, we tend to invest in in longer duration assets and assets where we get paid a little bit extra by giving up liquidity. We like private assets: straight private corporate placements, commercial mortgage loans. These are assets where we get added protections, either through covenant or through the security of the actual property.

One area that we're starting to invest in, where we think there is a good opportunity, is in private asset finance. It's a big topic of conversation within the insurance sector at the moment given the disintermediation of the banks and a lot of the alternative asset managers moving into that space.

For us this is an area that provides diversification away from corporate credit. And because these deals are well structured, we're very well protected even if we were to experience things like an economic downturn. And these opportunities have a good amount of extra yield: an equally rated corporate versus a private ABS, we get 100bps to 150bps more.

This market is exploding, and everybody is talking about it. It will continue to grow so that's a space we will continue to allocate to.

Do you manage everything in-house?

We manage most of our assets in-house, less than 10% is managed externally. Where we either don't have the expertise or the sourcing capability, we will hire an external manager. For example, part of our emerging market portfolio is managed externally, because we just don't have the scale to have boots on the ground in LATAM or the Middle East. Then we've hired an external asset manager for private asset backed finance because we don't have the sourcing capability.

Another area where we have external advisors is in our alternatives for our private equity portfolio. About 94% of our portfolio is fixed income, 5% LPs, and then 1% is public equity - just an index based strategy. For our LPs, we do hire external advisors.

Most of the fixed income portfolio is invested in public investment grade credit, like most insurers. But we're well diversified across public and private investment grade credit. Of our total fixed income portfolio, only 4% is below investment grade.

One area I haven't mentioned yet is our program for middle market loans, what some refer to as 'private direct lending'. That's also externally managed.

You mention some allocations to EMD, what trends are you seeing there at the moment?

We've had a pretty stable allocation to emerging markets, we started our program over a decade ago. It's one that we're not super opportunistic with, it's been a good diversifier for us, where we get additional yield for the same rating in developed market's corporate bonds. I wouldn't say there is screaming value at the moment, but from diversification and capital efficiency standpoint it's very valid, and we view EMD as a long term asset class to allocate to.

Going back to the size of the private markets, as you said it's the 'topic du jour', as a result we see lots of asset managers coming up with solutions for institutional investors to invest in that space, do you see that having an impact in terms of origination and sourcing of these assets?

I've talked to a lot of the originators, and really the thought is that the absolute scale of this market is so large that even with the increase in demand and the increase in players, there's plenty of supply to go around. The estimates about what the size of this market could be varies dramatically, but people are throwing out very large numbers. When you think about how big the asset backed securities market could be, there's so many different collateral types and they're massive markets unto themselves – you are talking trillions and trillions of dollars. Definitely the early entrants get the biggest spread concession, but even now with a lot of new buyers in the space, there's still some pretty nice concessions to public ABS and also corporate credit.

Where I would probably worry a little bit more about it being a crowded trade, would be in the direct lending space to smaller orhighly leveraged companies. Because that's an area where there's more finite supply.

One of the question marks is around whether some of these asset classes have been tested enough in stressed scenarios, is that a concern for you?

A lot of these underlying loans were on bank balance sheets. The private structure program we're investing in, a lot of it is mortgage related - single family rental, consumer loans, credit card loans, solar home improvement. A lot of these loans, or the collateral itself has been around for a long period of time.

There's a relatively long track record in terms of the performance of these loans as a whole. A lot of them sat on bank balance sheets or other places and now they're being securitized and sold to the private market. I'm not concerned because the structures are fairly robust in terms of underlying subordination and the protections you have where we would play in this market.

As a CIO what are you worried about then, either from an asset class or macroeconomic perspective?

The economy is still in relatively good shape, and the Fed is beginning its easing cycle which should support the economy.

The base case is we're in relatively good shape, we're in a slowing but still growing economy. We're relatively optimistic, although there are a lot of tail risks out there, including the Fed potentially being behind the curve, the US presidential election and geopolitical risk more broadly.

But we build our portfolio for resilience and we are not going to trade our of an entire asset class into another because of certain market calls. So, from an asset classe standpoint, I'm not overly concerned about our portfolio, but there are areas I watch, for example, commercial real estate. We are keeping
a very close eye on our office loans. But we have a very conservative CML program. We make smaller fixed rate amortizing loans on stabilized properties with conservative underwriting, as opposed to others who are a little bit more aggressive in the space. Our portfolio has been holding up relatively well in this challenging environment.

The other thing we have our eye on is our private equity portfolio. The realizations in general, in the whole market, have been lower over the last couple of years. There aren't as many companies changing hands for a variety of reasons. If we can have one of our GPs sell a portfolio company at a nice gain, that's good investment income for us, and obviously a better return. Right now, the total returns are holding up very well because the portfolios are marked relatively attractively, but we're not seeing as much money coming back in terms of actually realizing those gains, which has an impact on income.

At our conference we did an audience poll asking for the most underappreciated risk currently, geopolitics came first, recession second and climate risk third, what would you highlight?

I wouldn't put climate risk on top of my list, it has along way to develop before that actually has major market impacts. Same for recession, I'm not a believer that we're close to recession.

I get the geopolitical side of things. However, but is it underappreciated? I'm not sure. I agree that a lot of optimism is priced into the market, spreads are at very tight levels. Although there are a lot of tail risks out there, the market is interpreting them as very deep in the tail, and not pricing a lot into the current valuation.

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