This interview with Robert Young, head of PIMCO’s U.S. insurance business was originally posted on InsuranceAssetManager.com on February 6, 2012.
IAM: To get us going, how large is the PIMCO insurance group in terms of staff numbers, and where are its main offices in North America, Europe and Asia-Pacific? Plus, who are the senior executives managing the group, and their locations?
Young: In addition to our portfolio management group, PIMCO has more than 40 client service professionals in our global insurance group. Our team is split between Newport Beach, CA, New York, London and Munich. The firm manages over $529 billion as of December 31, 2011, including insurance assets for our parent company, Allianz Group. Of this, almost $395 billion is in general accounts, another $118 billion in variable annuity, and $16 billion in bank owned life insurance (BOLI). I head PIMCO’s U.S. insurance business, Joe Fournier runs our variable annuity business, and Scott Millimet is the chief of our general account business. Matthieu Louanges runs our European insurance business.
IAM: Ten years ago, PIMCO was managing less than $1 billion in outsourced insurance assets, and the total size of the market was about $250 billion. Today, you manage more than $50 billion in a $1.75 trillion market. What triggered this sector's growth? Was it the insurers themselves, or was it asset managers like yourselves?
Young: It is definitely a combination of the two. Market dislocations resulting from the financial crisis led many insurance companies to look for outside investment managers with a global investment platform and a track record in risk management. Meanwhile, investment managers are quickly ramping up their skill set in this specialized space and recognize the business opportunity.
IAM: Today, as the insurance industry starts its fourth year of the recovery phase from the financial crisis, what are the chief factors – both opportunities and risks -- influencing the investment management strategies of insurers and their third-party managers and advisors?
Young: It's not clear that we are out of the woods. PIMCO remains concerned about "left tail" outcomes, and we continue to watch the European situation closely. A disorderly unwind of the European Monetary Union, although not our base case, would have profound consequences not only for Europe, but also for all global economies and markets. Understanding the risks and potential implications is a key portfolio theme for 2012 and beyond.
IAM: In the same vein, when you look back at the investment performance of insurance companies during and after the financial crisis, do you have any observations that might help insurers and their advisors the next time round – in terms of positioning, strategy, staffing, regulations and so forth?
Young: The lesson learned is that balance sheet strength matters, market volatility will persist for the foreseeable future, and the probability of fat left tails is higher than normal market outcome distributions would predict. This is evident in the European crisis today. The global economy is increasingly interconnected; events in Europe (or in other regions of the world) have significant implications for domestic portfolios. In 2007, it was the real estate crisis. Maintaining staffing, technology and an investment process to handle this complexity and fluidity requires significant scale and a range of expertise.
IAM: A confluence of factors made the third quarter of 2011 a wrenching time for the investment field, as reflected in the recent quarterly earnings reports. Nevertheless, do you think insurers and their advisors would have done much worse if they hadn't gone through the 2008 scare and learnt some lessons?
Young: Yes, market volatility and, in particular, low interest rates certainly make life difficult for insurance companies – especially in the third quarter of 2011 – hitting life insurance liabilities the hardest. Since 2007, most companies have done a good job de-risking their investment portfolios. Consequently, on balance, companies are considerably better positioned. The challenge ahead will be managing through what will be an extended period of low rates. Companies will need to be thoughtful about exploiting the global supermarket of fixed income for "safe spread," or investment opportunities that they believe offer the best potential for attractive returns across a wide range of risk scenarios.
IAM: As we come out of a difficult 2011, what are the prospects for 2012 in terms of building your insurer outsourcing business, and the kinds of strategies that are going to appeal to insurance companies that have been hesitating to take the plunge?
Young: Yes, the interest in outsourcing should continue. Insurance companies will need to expand their investment opportunity set to earn meaningful yields without taking on excessive risk. Investment managers with the right combination of scale, breadth, global footprint -- as well as a firm understanding of the industry -- will be well positioned. Regarding specific strategies, we expect to see continued interest in emerging market debt and other strategies that offer attractive risk-adjusted yield prospects.
IAM: On the matter of investment strategies, alternatives have been receiving a lot of attention, on the basis that they can offer better returns than traditional investments, especially if interest rates stay near the floor. Is this a view that is likely to hold true for the next year or two -- or longer?
Young: Yes, despite higher capital charges for many of these sectors, we should see growth in the use of non-traditional sectors given low interest rates. Adding alternatives and global investments may allow for both higher potential returns for long term investors and improved portfolio diversification albeit these investments can come with additional risk.
IAM: Still on the subject of alternatives, where do you think the best opportunities currently lie in the emerging markets field? Do the BRICS (Brazil, Russia, India, China and South Africa) still qualify as EMs, or have they passed this appellation down to another group of smaller countries, in the eyes of institutional investors?
Young: As guidelines allow, PIMCO generally looks to allocate capital to the fastest growing parts of the world – countries that fundamentally have the strongest balance sheets. As developing countries increasingly gain economic importance on the global stage, their debt dynamics appear increasingly more favorable than their developed country counterparts. PIMCO is currently pursuing value for clients in countries such as Brazil, China, Mexico and Russia.
IAM: Finally, as insurance companies continue to outsource more of their core assets, how important are non-alpha-related factors such as accounting and analytics becoming, and does PIMCO have a handle on these specialized support services?
Young: Yes, non-alpha related factors are important to our insurance clients. We definitely recognize the need to collaborate and partner on the various corporate finance and risk management dimensions that affect insurance company investment strategy. Consequently, we have built a team of investment professionals who, in many cases, "grew up" in the insurance industry either working for or on behalf of insurance companies. As a team, we are well versed in asset-liability management, accounting, rating agency and other matters that typically arise. To be fair, though, we lead with our investment management capabilities. We aim to optimize client portfolios in the context of their liabilities, but also in the context of a world of "fatter tails." After all, history has shown that the biggest factor that can compromise the health of an insurance company is deterioration of the investment portfolio and that is where our focus is most intense.
IAM: Thank you, Robert.
All investments contain risk and may lose value. Investing in the bond market is subject to certain risks including market, interest-rate, issuer, credit, and inflation risk. Investing in foreign denominated and/or domiciled securities may involve heightened risk due to currency fluctuations, and economic and political risks, which may be enhanced in emerging markets. Diversification does not ensure against loss.