U.S. life insurers are poised to outperform in the debt market next year as they invest premiums at higher interest rates, according to CreditSights Inc. A gauge of U.S. company credit risk rose for the second day.
Higher rates help insurance companies to better match long-term liabilities, CreditSights said today in a report, upgrading the sector to “outperform.” The extra yield investors demand to hold insurance company debt exceeds the spread on all financials, a gap that will narrow in 2014.
Insurers are benefiting from interest rates near two-year highs, strong equity markets, and record cash on hand, the debt researcher said. After the Federal Reserve decided to curb its record monetary stimulus, yields on the 10-year Treasury have climbed to about the highest level since July 2011.
The Markit CDX North American Investment Grade Index, a credit-default swaps benchmark used to hedge against losses or to speculate on creditworthiness, increased 0.5 basis point to a mid-price of 63.8 basis points, according to prices compiled by Bloomberg.
The index, which typically rises as investor confidence deteriorates and falls as it improves, reached its lowest level since October 2007 on Dec. 26 and is headed for its biggest annual decline since 2009, Bloomberg prices show.
The extra yield investors demand to hold investment-grade corporate bonds rather than government debt narrowed 0.7 basis point to 113.8 basis points, Bloomberg data show.
The Fed said in a Dec. 18 statement that it will begin slowing its bond purchases to $75 billion a month from $85 billion in January because of improved economic and labor conditions. The bond-buying program has helped send the Standard & Poor’s 500 Index up 29 percent this year, putting the index in position for its best return since 1997. The gain has helped performance in businesses dependent on fees and asset accumulation, including group pensions and mutual funds, CreditSights said in the report. Improving economic and employment data may increase premiums on life insurance and annuities, CreditSights said.
U.S. life insurers currently hold about 464 percent of risk-based capital, or more than four times the minimum regulators require, CreditSights said. That’s up from 377 percent in 2008.
The risk premium on the Markit CDX North American High Yield Index, tied to the debt of 100 speculative-grade companies, rose 1.3 basis points to 312.4, below this year’s average of 388.7, Bloomberg prices show.
The contracts pay the buyer face value if a borrower fails to meet its obligations, less the value of the defaulted debt. A basis point equals $1,000 annually on a contract protecting $10 million of debt.
High-yield, high-risk bonds are rated below Baa3 by Moody’s Investors Service and lower than BBB- at Standard & Poor’s.