Kathleen Birrane: I am an insurance regulatory lawyer and litigator. Before being appointed the Maryland Commissioner, I was a partner at DLA Piper. My practice there focused on advising clients regarding compliance issues and representing them in transaction or proceedings with a regulatory component.
Before that, I was in-house counsel for a set of portfolio companies that were owned by Reservoir Capital and Cantor Fitzgerald, and I was at the [Maryland] Attorney General’s Office where I was principal counsel to this agency.
I began to serve as Commissioner in May 2020. The Maryland Insurance Administration is the state agency within Maryland that regulates the insurance industry. We oversee all aspects of the conduct of the business of insurance in our state, everything from solvency considerations, to rating, to addressing customer complaints, and examining companies to determine whether they are living up to their contractual and regulatory obligations.
Insurance is a $46 billion industry in our state, which puts us in the middle of the pack, but in regard to our geographic size it’s significant.
Kathleen: Maryland is an accredited member of the National Association of Insurance Commissioners’ (NAIC) broader solvency protection system. So we’ve adopted all the standard requirements that the NAIC has to assure consistency and uniformity within our state system. That system has multiple checks and balances requirements such as not using GAAP accounting – we use statutory accounting instead – and those rules are constantly being adjusted.
It's a nimble system, because you don't need legislation to enact a new statutory accounting principle to provide guidance or to react to something that's happening in the market. That nimbleness is an important feature of the US oversight system.
Maryland does have legislation that establishes rules related to investments, including the categories of investments that will be recognized and permitted concentrations in types of investments. At a broad level, states do differ slightly in what they allow in terms of concentrations – such as what kind and how much of your book you can have in one category or another.
"The issue is one all state regulators must address: investments are becoming
increasingly complicated, sophisticated, and are constantly changing."
The Maryland state legislature has not had an appetite – and I don't see it having one in the future – for imposing specifics investment rules or criteria on the insurance industry. I am aware that some state legislatures have considered or adopted criteria around investing state funds in companies or through advisors based on the ESG or low carbon principles of those companies or advisors. That has not been an issue is Maryland. There has been no effort in our state to enact legislation to reduce investments in certain sectors or to limit investments by insurers in certain sectors based on political criteria.
As we haven’t had those issues, we haven't had to smooth anything over with our licensees. Instead, the issue that we are addressing in Maryland is one that all state regulators must address, which is that investments are becoming increasingly complicated and sophisticated, and are constantly changing and evolving.
Kathleen: For us, good governance is about remaining in close contact with our domestics. When we go through our review of insurer’s investments, we have a team dedicated to evaluating and understanding those – and open communication and collaboration are critical.
We do this on the ground with our domestic companies as we have to understand those companies and their objectives. That's relational – and at the same time, we have to be active participants at the national level and leverage the information that we are receiving based on our counterparts at the NAIC.
It's getting that broader picture of what's happening nationally and making sure that we are relying on that in communications with licensees as we delve into their investments.
Kathleen: Companies continue to chase yield in what has been a low interest environment for a long time – and yield is particularly important in product lines where you are taking in premium today for a loss that you're not going to pay for 20 to 30 years, so you have that longer horizon to look at. And as very long time investments mature, there can be a struggle to replace yield. But even in P&C companies that are on shorter cycles, yield is a concern. And, for us as regulators, the concern is insurer investments with a lower credit quality that can present a higher risk.
Many of the new shiny objects of the day have to do with structured assessments and very complicated structured investments – Collateralised loan Obligations (CLO), Collateralised Debt Obligations (CDO), and other asset-backed securities – and the arrangement of these devices are in a way that some people would suggest can gain more favourable risk-based capital (RBC) treatment.
This then means that if you took each of those tranches and took a slice off and looked those layers of investment separately, they would be treated differently for RBC purposes, but because of how they are packaged and structured, and because they're treated as bonds, they have a more favourable treatment.
"We’re seeing an increase in investment in privately issued securities –
private labels and securities, which, by their nature, can be riskier."
There are discussions happening at the NAIC about whether that is appropriate and whether that approach is reflective of the actual risks within some of those investments.
We’re also seeing an increase in investment in privately issued securities – private labels and securities, which, by their nature, can be riskier. Part of what the NAIC is looking at is the question of: What are the appropriate mechanisms for assuring that the approach to assessing the riskiness of a particular investment is sound? Who do we rely on for that? How do we rely on them for that? Are there some types of investments where it makes sense for the NAIC to pull back and not allow an independent rating agency to be the baseline of the NAIC’s risk assessment?
These conversations are happening, because we need to recognise that the NAIC is never going to have the staffing levels or ability to rate every private label product. Practically speaking, we have to rely on rating agencies to provide that baseline.
We’re also seeing an increase in investments that are designated as alternative investment classes and are reported on Schedule BA of the statement. This could be a good thing, because there is a benefit to diversification, but it also raises concerns about counterparty credit and liquidity risks. This means my team needs to do additional analysis research of those investments, because ultimately we need to understand investments at a ground level. At the end of the day, while we follow standards and protocols, the admission of an asset is decided by the domestic regulator.
"We're also seeing reinsurance transaction trends and associated
investments – such as related or affiliated offshore reinsurers."
We’re also seeing reinsurance transaction trends and associated investments – such as related or affiliated offshore reinsurers. This triggers another level of consideration. We might say “my domestic has good ‘vanilla’ investments, but there's a significant portion of their book that's insured by an offshore entity, perhaps an affiliated entity, that doesn't have such vanilla investments. What does that mean? How does that factor in?”
These are all trends and considerations that my financial team monitors to assure the financial capabilities of the companies that operate in our markets.
Kathleen: Because of statutory accounting and an oversight system that is front-loaded and designed to be preventative – and was further shored up as a result of 2008 – solvency isn’t the biggest concern for US insurers.
That's not to say that there is never an insolvency, but there's rarely an insolvency – especially one that results from bad investments.
Our approach to solvency is consistent and will remain as it has been. We have quarterly monitoring of our domestics by our financial analysts and – every five years or as otherwise necessary – a target exam by our financial examination team. We rely on that information and those structures to be vigilant about what's happening with our companies.
"The rules we have around liquidity and credit work; these warning systems
make us aware when a company is experiencing problems."
The rules that we have around liquidity and credit work. They've stood the test of time, and state regulators have proven many times that these warning systems – such as the RBC system – make us aware when a company is experiencing problems. Our systems are strong, and the NAIC is making incremental changes in response to market patterns.
We don’t have to make big macro changes, but we do need to stay on top of innovation in the investment space.
We also need to ensure that the goal of solvency regulation is achieved – that when a consumer has a claim, there are assets there to pay that claim and that is the core part of consumer protection. It is what insurance regulation was created to do.
Kathleen: Our industry consists of everything from global companies to single line/single state companies, so how they invest differs a lot. But inflation and the Federal Reserve's efforts to combat that inflation by raising interest rates have an obvious impact on insurers. As interest rates rise, the valuation for bonds held declines, resulting in portfolio losses.
In general, bonds are held at book adjusted carrying value as opposed to our fair market value. They're typically held to maturity, so that in terms of their principal back, in severe cases, this can result in Other-Than-Temporary Impairment (OTTI) bond holdings that require fair market value reporting.
You see adjustments in what carriers may be trying to do in terms of their portfolios to address that.
Kathleen: It's the smaller, less sophisticated, less well-capitalised companies that tend to need more assistance with their investment guidance. That would be a case in which we work alongside a company, and their directors understand how and when and why they need to diversify. But our system ultimately allows companies to make their own investment decisions.
We do have a set of structures, guidelines, and rules around this, though. For example, $1 of investment may not be $1 that is counted for your RBC depending on what that investment is. We do not allow GAAP accounting and we do not allow companies to take full credit for every single investment – on debt investments, which are riskier – they don't get a full dollar worth of credit for their RBC calculation, which is one if the primary strengths of our system.
Companies are aware of these controls as they allocate.
