Understanding liquidity risk is essential for insurance investment teams, especially in more turbulent markets, and it can often mean sink or swim for a company.
So said a group of senior treasury and finance professionals from major insurers at the Insurance Investor Live | Europe summit last year, which has now been featured in the Insurance Asset Management report.
Steve Matthews, Fund Manager, Liquidity, Canada Life, and David Epstein, Group ALM & Treasury Director, Aviva, as well as representatives from Lloyd’s, spoke on a panel discussion titled “Managing capital and liquidity risk amid market uncertainty: The Function of cash and money markets and looking to alternative options”, sharing their views on how to better assess liquidity concerns in volatile macroeconomic conditions. They also discussed their outlook for insurance investment portfolios in 2024.
David Epstein: What we learnt from 2022 and 2023 is the value of the quality of your liquidity. Before the September gilts crisis perhaps there was less understanding across the board and a feeling that ‘if something is in my cash and cash equivalents bucket then that is good enough’ but actually, the value of a T+0 liquidity option compared to a T+3 or T+5 in a crisis is critical.
SS5/19, a supervisory statement on liquidity risk management for insurers, led people toward this journey a while back and there was a push for insurers to think more carefully about intraday liquidity following the banking crisis. The banks learnt a lot about intraday liquidity there and insurers were pushed to also understand it on equal terms.
"In terms of how much liquidity is enough, there are times when it feels as though you can never have enough."
When I think about what this means for liquidity at the short-term cash end, in the context of a group centre treasury function, I prefer having my liquidity as near, close, and quickly accessible as possible.
In terms of how much liquidity is enough, there are times when it feels as though you can never have enough - if interest rates and gilt yields are moving fast, and you don’t know where they are going to end up.
We have in-house liquidity funds that are run by our asset managers, and they have a range of funds with a range of credit appetites and liquidity from T+0 through to T+5 and we like to be at the very conservative end of that as the backstop centre liquidity function for the whole group. Within the group, our businesses might prefer to be somewhere in that range and have some investment at the conservative end and some spread throughout.
We have also found value if the organisation running your liquidity funds is also responsible for your collateral management, that helps a lot because they can follow the cash through the process.
Steve Matthews: It is about understanding your liquidity and the calls that are going to come to you. We saw in the early days of Covid the massive scramble for cash where even gilts weren’t safe and I remember the five-year gilt jumping 30 basis points to 0.80% in a morning as people sold them so that they could have cash in the bank.
"Liquidity is only liquidity if it is available in the worst of markets, so you want something that holds its value in terms of price and demand."
All the volatility that we have seen over the last 15 years in rapidly increasing bouts tells you that alternatives aren’t necessarily the way forward and that plain vanilla is. Having something that you understand, something you can get your hands on and that is of value is key. Liquidity is only liquidity if it is available in the worst of markets, so you want to have something that holds its value in terms of price and demand in the worst of markets and try and build your yield creation around that understanding.
