Friday, November 17, 2017

China’s asset dilemma

Depending on whom you believe, Anbang may or may not have been asked to sell its overseas assets by the Chinese insurance regulator.

Both deny the rumour, originally reported by Bloomberg, but the story certainly fits with recent moves to discourage large overseas acquisitions by Chinese insurers and other groups.

“Anbang at present has no plans to sell its overseas assets,” the company was quoted as saying in a statement issued through WeChat. “Currently, Anbang’s various businesses and operations are all normal, and the company has ample cash and sufficient solvency capabilities.”

This is an interesting response, as Bloomberg’s reporting did not focus on solvency issues at Anbang, choosing instead to portray the story as an example of China’s increasing capital controls. “China’s problems go beyond Anbang,” said the headline on one such story, which worried that the country’s foreign exchange reserves have fallen by more than US$1 trillion during the past three years and that forcing Anbang to sell assets at fire-sale prices is a sign of desperation for the Chinese economy.

That is one interpretation, and there may be an element of truth to it. But the response from Anbang hints at another interpretation, which is that the most aggressive Chinese insurers face a significant asset-liability mismatch after raking in billions from the sale of short-term universal life products and investing the proceeds in illiquid or risky assets.

Anbang’s acquisitions are well-known by now and include US$1.95 billion paid for the Waldorf Astoria Hotel in New York, US$6.5 billion for Strategic Hotels & Resorts in Chicago and a variety of commercial properties in Canada, not to mention the acquisition of troubled insurers in Korea, Belgium and the Netherlands.

It has also been involved in some high-profile failed bids, such as the US$14 billion move for Starwood Hotels & Resorts Worldwide and, recently, a rumoured US$400 million deal involving Jared Kushner, Donald Trump’s son-in-law, for a Manhattan office building at 666 Fifth Avenue.

These are clearly all long-term investments that cannot be sold quickly, yet the liabilities in the universal life sector are quite different. The short-term savings products that have allowed Anbang and others to grow so quickly tend to offer extremely competitive returns compared to other investment products sold by banks and are typically designed to offer the best returns at the end of one or two years.

The universal crediting rate offered by insurers has ranged from 5% to 7%, according to Fitch, while the investment products sold by banks generally pay less than 5% and the benchmark deposit rate is 1.5%.

It is not just Anbang that has grown rapidly by offering these products, which are typically sold through banks. Huaxia Life, Funde Life and Hexie Health have all gained significant market share in the life sector during the past three years. Today, only China Life and Ping An are bigger. Evergrande is also a significant player.

On average, these companies have a risky asset-to-shareholder equity ratio of 5.4x, according to Fitch, compared to the 1.9x average of the country’s six listed life insurers. Huaxia had 22% of its assets in alternative investments at end-2016, while 20% of Funde’s invested assets were in a single stock: Shanghai Pudong Development Bank.

The investment patterns of these companies clearly raise concerns about liquidity in the event that policyholders suddenly start surrendering these products in unison. However, Anbang is perhaps surprisingly the most conservative of the bunch. Half of its assets are in cash, bank deposits and repos, and liquid assets make up 74% of its investments when stocks, investment funds and bonds are included.

Anbang’s troubles may not be about either solvency or capital controls. Its chairman Wu Xiaohui remains in detention and there is possibly a political or corruption element to the scrutiny the company is facing, having drawn attention through its marquee overseas acquisitions.

While CIRC is clearly concerned about the sector and continues to crack down on sales, such policies represented just 18% of life assets at the end of 2016. Even so, it faces something of a dilemma in resolving the issue. China clearly wants to liberalise interest rates and allow banks and insurers greater freedom in selling such products, but intense competition, a lack of domestic assets and undisciplined asset-liability management are a recipe for trouble.

The last thing the government wants is millions of disgruntled investors demanding the government makes them whole. Safely navigating this issue will continue to test regulators.

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