Chart of the Week - UK lifers' MA benefit revealed

By David Walker

'What have the Romans ever given us?'. That famous rhetorical question, answered in unexpected detail in Monty Python's Life of Brian, found an unlikely echo, of sorts, down the ages when UK Brexiteers campaigned by asking, 'And what has the EU ever given us?'.

Britons' rather less comical 'response' was, Brexit. If the People's Front of Judaea was surprised to hear 'aquedacts', 'sanitation', 'public baths' and 'the wine'. Britons might have been equally perplexed if Brussels and UK 'Remainers' had replied, 'well, there is the matching adjustment' (MA). ("The what?")

If you know someone dependent on the UK's growing stock of affordable housing, cared for in public health facilities, or even if you got a gift delivered via a logistics warehouse, chances are the MA might, indirectly, be involved.

It has let UK life firms hold onto just those kinds of tangible investments, backing life liabilities, that they might otherwise have had to sell in times of capital stress.

Aviva Life & Pensions' MA investments are worth £61.2bn. The MA lifts its Solvency II ratio from 58.1% to 146%. Just Retirement's MA investments are worth £16.9bn. Its ratio is elevated from -59% to 156.4%. Pension Insurance Corporation plc's MA investments can be made in part because its ratio is 168.1% not 15.5%, Scottish Widows perhaps the same, for sitting on 160.6%, not 68.5%.

As the world delivered some hefty shocks to insurers' capital since 2016, the MA took a combined £400bn off the amount of regulatory capital the 18 UK lifers using it would otherwise have had to hold. Their capital bill under Solvency II so far came to £342.9bn, not £548.9bn without the MA, according to analysis by Insurance Risk Data of their six annual solvency and financial condition reports (SFCR) since 2016. And the qualifying funds to 'pay' that bill have been £533.9bn, not £352.4bn.

The gap between the orange and grey lines on this chart is the 'cliff edge' MA users' ratios would tumble over, without the MA. The blue bars are the capital uplift - typically lower solvency capital requirements and more eligible own funds - that creates that gap. Some 11 of the 18 users would see their ratios fall below 100% without it. It is misguided to gasp at how far lifers' ratios would fall, absent the MA. Unlike the case of transitional measures, insurers on the MA are not in some 'race' to build their capital amid the planned 'erosion' of its capital-benefit. Quite the opposite, in fact.

The UK government issued a raft of proposals to reform the MA (and Solvency II) yesterday, most notably allowing some assets with pre-payment risk' - take note, issuers of callable bonds, commercial real estate loans, housing association bonds/loans, infrastructure assets and local authorities with loan portfolios. But beware lifers, as HM Treasury may also instigate firm-specific exposure limits, tests to allow the Prudential Regulation Authority to "assess and mitigate concentration risk", changes to liquidity requirements, and reporting by insurers using the MA.

The Treasury will also usher in "a more credit risk-sensitive fundamental spread, removing the need for a cap on the MA benefit for sub-investment grade assets [to] encourage insurers to diversify into a wider range of assets". Only £3.3bn, or 1% of MA assets are rated BB or worse, with a further £83bn - 25% - rated BBB. "Removing the cap reduces the likelihood that insurers would pro-cyclically sell BBB assets in a market downturn."

The Treasury has also vowed to look at accelerating MA approvals "for less complex assets, typically those that have not been either internally restructured or possess novel features [where] the eligibility decision could be separated from the review of asset valuation, credit rating and capital modelling - increasing the ability of insurers to rapidly deploy capital into new asset classes."

While the MA's workings are complex and, frankly, too boring to explain here, suffice it to say that lifers' CEOs like it, and want to use it more, and there is no sign of it disappearing. Aviva's Amanda Blanc, Legal & General's Nigel Wilson, and Phoenix's Andy Briggs agree more investment in infrastructure and property, and finance for companies and indeed for Westminster itself, is all possible under a widened-MA. John Glen, the second Bank of England bigwig after Alan Sheppard to recently tout benefits of reforming Solvency II rules to benefit UK insurers - and also, oddly, the second after Sheppard to miss having a NASA astronaut's name by just one consonant (a 'p') - sees opportunity for more financing of good works by UK lifers.

With the reforms now in open air, and the PRA backing most, one might expect the £400bn-odd benefit since 2016 to grow - allowing the MA users, and UK society more generally, to 'look on the bright side of life'.

Average Solvency II ratios with/out MA and capital benefit, %, £bn (2016-2021)