China Drafts Rules for Insurers to Raise Private Equity Stakes; Trade Derivatives

By and | July 24, 2012

China plans to double the amount insurers can invest in private equity and allow them to trade financial derivatives both at home and abroad as part of efforts to broaden their investment scope, according to a set of draft regulations seen by Reuters.

Insurers will be permitted to invest up to 10 percent of their total assets in private equity, compared with 5 percent previously, according to rules drafted by the China Insurance Regulatory Commission (CIRC). That would potentially unleash about $50 billion of fresh capital into unlisted firms.

Should they choose to invest in foreign private equity funds in a bid to increase profits, China’s insurers will find no shortage of takers. Foreign private equity funds face a tough fund raising climate, and see Asia’s insurers and pension funds as a key source of capital for the global industry over the next 10 years.

Insurers will also be allowed to trade index futures and conduct margin trading and short selling in China. In addition, the insurance watchdog has for the first time detailed the types of overseas financial instruments, including derivatives, that insurers will be allowed to trade.

“It’s certainly a good thing for insurers to have more investment tools, but whether they can generate higher returns is a separate matter,” said Liu Yang, an analyst at Shanghai Securities. “Financial derivatives, for example, can both hedge losses and limit gains.”

Chinese insurers have struggled with low investment returns and asset depreciation. China Life, the world’s biggest insurer by market value, in April posted its sixth consecutive decline in quarterly profit. The world’s second-biggest insurer, Ping An, saw its 2011 investment yields fall to 4 percent from 4.9 percent.

The new insurance investment rules, which were drafted after a meeting of CIRC officials in Dalian last month, are the latest in a series of rule changes by the regulator to expand and diversify the types of investments insurers are able to make.

Chinese insurers currently have around 35 percent of their assets in cash and deposits, according to boutique investment bank and broker-dealer Keefe, Bruyette & Woods. They have been seeking to widen their investment scope to improve returns.

In addition to relaxing rules around private equity investment, the CIRC also plans to allow insurers to invest in modern agriculture, energy and resources companies. They will also be able to invest up to 20 percent of their total assets in infrastructure-related debt and real estate.

CIRC has not changed the percentage of assets insurers can invest overseas – that percentage still stands at 15 percent – but it has detailed the types of investment instruments insurers can buy, including commercial bills, government bonds, stocks, private equity funds and REITs.

It has also said insurers will be able to invest in overseas financial derivatives including interest rate forwards, interest swaps, Forex forwards and swaps, stock index futures and options, though they will only be able to use derivatives for hedging.

The regulator has identified 25 developed countries including the United States, UK and Japan, and 20 emerging market nations including Brazil, Indonesia and Korea that insurers will be able to invest in.

Trading in equity index futures and options will be limited to 13 global exchanges including the CME Group and the NYSE Euronext Brussels.

Some details of the proposed rule changes leaked in local media last month.

Since then, the CIRC has published new rules allowing insurers to outsource investment management and invest in hybrid and convertible bonds. Additional rules in the draft document are expected to be published over time.

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