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Captive Risk Management and Asset Investment

In June, 2018, Chris Murray, President of Caitlin Morgan Captive Services, presented insights to the attendees of the 8th Annual Tennessee Captive Insurance Association (TCIA) conference. The event, held at the Westin Hotel in Nashville, Tennessee, brought together insurance professionals from across the country. Chris’ educational sessions presented details on financial assets and how those assets form the core of a captive insurance firm’s risk management strategy. Here is a closer look at asset investment from the perspective of an experienced captive risk management professional.

Minimizing Risks in Captive Asset Investments

Captive insurers are accustomed to addressing highly-specialized risks, including both property and casualty risks, in their daily operations. Investing captive assets, on the other hand, is an area where captive insurers are far more cautious. The goal of any captive asset investment is twofold: to ensure sufficient financial resources available for claim payments and to protect the overall value of captive assets. This twofold goal must be at the forefront of any investment decision, and here market risks must be balanced carefully with the need to pay claims as they become due.

Stable, low-risk investment vehicles are preferred. In a research study compiled by a leading capital asset management firm, the overwhelming majority of captive insurers invest the bulk of their assets in fixed-income products like:

  • State-issued bonds
  • U.S. Treasury bonds
  • Treasury notes
  • High-rated corporate bonds

These investment instruments have low volatility and are relatively unaffected by market shifts. One successful strategy to use when investing in fixed-income bonds is to evaluate maturity of those instruments. Liquidity should match the payout projections and requirements for cash availability of the captive, and for this reason bonds and other fixed investments with very long maturity dates should be avoided. It is also a wise practice to avoid investing in mutual funds that contain fixed investments like corporate bonds; rather, investing by purchasing corporate bonds directly is the preferred strategy.

Diversification is the key to success in investments, however, and taking on a certain level of risk can pay off in the long term. To a smaller degree, equities – which have a higher volatility — have gained a foothold among some captive insurer investments. Some captives may invest 15%-20% of their assets in equities, diversifying the portfolio without exposing themselves to too much market volatility.

Regulatory Constraints on Captive Asset Investments

No matter the type and percentage of asset investments, captive insurers must remain in compliance with applicable regulatory requirements. These requirements differ from traditional investment strategies, and can constrain insurers. Each state has its own regulatory requirements, and the goal of these regulations is to protect the interests of insured parties by balancing several objectives, including:

  • Preserving asset principal.
  • Allowing for and encouraging portfolio diversification.
  • Allowing for allocation of investments to achieve financial strength and to ensure adequate resources for covering foreseeable claims.

It is critical that captive insurers understand the regulatory requirements before making investment decisions. In certain states, assets can be allocated in specific percentages to investment instruments; for example, in South Carolina, captives may only invest no more than 5% of admitted assets with any one issuer of corporate bonds. Similar rules and limits apply in most other states. Diversification is important in protecting assets, but these limits can have a stifling effect on the overall investment strategy. In these situations, seeking the insights of a qualified investment advisor may be a smart solution.

Investment Advisors

To achieve financial stability and to preserve funds for use in paying claims, many captive insurance firms rely on professional investment advisors and managers. In Chris’ educational presentation at TCIA’s conference, he touched on aspects of choosing the right manager for the specific needs of the insurer. Evaluating a potential investment advisor’s investment philosophy, especially as pertaining to underlying rationales for undertaking securities transactions, is crucial for creating a long-term relationship. Balancing investment growth versus investment value is another aspect where investment advisors differ, and identifying how this balance is achieved through the financial decisions and practices the advisory firm uses.

About Caitlin Morgan Captive Services

Caitlin Morgan Captive Services provides clients with captive insurance solutions supported by years of experience in establishing the successful formation and implementation of a wide range of captives. To learn more about how we can help you, please contact us at (317) 575-4440.