Even in the best of times, it can be hard to find a home for half a trillion euros. For European insurers, the backbone of the region’s fixed-income market, these are anything but the best of times as quantitative easing has shaved yields in much of the bond market to microscopic, if not negative, levels.
Assicurazioni Generali Group, Italy’s largest and Europe’s third-largest life insurer, with €480 billion ($523 billion) in assets, is eschewing the public bond market and moving into private placements in a bid to generate returns. “We have done about €25 billion of deals in two years, well ahead of any of our peers,” says Nikhil Srinivasan, CIO of the Trieste, Italy–based company.
Fixed income accounts for about 85 percent of Generali’s portfolio, reflecting the need to provide an income stream that can match its liabilities to life insurance and pension clients. It has a further 7 percent in real estate, which also provides a steady income stream, though Srinivasan says this market is “tougher now” compared with the returns available a year ago.
Generali didn’t touch private placements before 2013, and by their nature, such debt placements are harder to arrange than simply buying bonds in the public market. So Srinivasan has adopted an equity-like approach to the sector. Generali set up a small team, including Srinivasan, that goes out to speak with companies it has identified as solid prospective borrowers.
“Historically, large companies don’t deal with investors unless they’re equity investors,” he explains. “It’s very rare for investors doing bond deals to come and talk to management directly, but we were going out to do deals rather than waiting for deals to come.”
Such efforts have led to euro-denominated loan agreements with Anglo-Swiss commodity trading and mining company Glencore, and U.K. satellite broadcasting company Sky. “The big thing was not so much an illiquidity premium, though it was there, but getting good-quality deals,” Srinivasan says. “If you wait for the market to come to you, you’ll never get the deal size you want.” He declined to provide any details of those loans but said Generali can obtain yields of anywhere from 3 percent to 6 percent on private placements, depending on the borrower’s rating. In comparison, year-to-date returns are 0.48 percent on the Bloomberg investment-grade European corporate bond index.
Other investors place more emphasis on the illiquidity premium, while also acknowledging other virtues in private placements.
“We worked with clients to make some allocations in private placement because the illiquidity premium is suitable for their requirements,” says Sanjay Mistry, director of private debt and private equity fund of funds at Mercer Investment Consulting in London. He estimates this premium at about half a percentage point relative to investment-grade corporate bonds, with higher premiums possible for subinvestment-grade credits.
Calum Macphail, head of private placement for M&G Investments, likes the diversification that the sector can offer. The £264 billion ($404 billion) asset manager, a unit of U.K. insurer Prudential, has €3.4 billion invested in privately placed debt. “Private placement works well for companies the next level down from large multinationals,” he says. Total private placement issuance by European companies, whether in European or other markets, was about €35 billion last year, Macphail estimates.
M&G’s private placements include a £200 million deal with Drax Group, a U.K. power generation company, with the first tranche lent in 2012. Macphail says he gets a yield pickup of 20 to 50 basis points on private placements relative to public bonds.
Generali is also diversifying geographically, seeking euro- and dollar-denominated private placements in Asia. In the past six months it has done more than $1 billion in deals in Asia, at maturities of seven to ten years, including a euro-denominated private placement with Singapore–based Puma Energy, which sells oil products.
The bulk of Generali’s portfolio remains in more conventional asset classes. Within mainstream fixed income, however, Generali has also made changes since Srinivasan came to the helm. It has increased average bond duration from 5.5 to 7.5 years to squeeze out a higher rate in a low-yield market. Srinivasan has also revamped the credit team. Although he has kept the team’s size stable at about 15 people, he has outsourced some routine “credit maintenance work” to external providers in India and had his staff focus “on the difficult and new credits,” he adds.
Generali achieved an overall return on its portfolio of 12 percent in 2014, up from an average of 9 percent a year from 2011 to 2013.
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