On November 4th, at the International Financial Leaders Investment Summit hosted by the Hong Kong Monetary Authority, the Chairman of UBS Group issued a warning that insurance companies escalating the ratings of their private credit assets are posing “imminent systemic risks” to the global financial system. CEOs of Apollo and Ares hold different views on this matter.
Chairman of UBS Group, Colm Kelleher, stated on Tuesday that insurance companies are engaging in rating arbitrage similar to banks before the 2008 financial crisis. He pointed out that the insurance industry, especially in the United States, is engaging in behavior reminiscent of banks and other institutions before the 2008 financial crisis, using subprime loans for “rating arbitrage”.
According to the Financial Times, Kelleher’s perspective aligns with an increasing chorus of voices indicating the risks present in the insurance industry, which include their holdings of illiquid private credit loans and issues of transparency.
Kelleher expressed concerns about the proliferation of small rating agencies to meet compliance requirements. He emphasized that regulatory agencies have failed to effectively control the insurance industry while driving rapid economic growth. He warned that due to a lack of effective regulation, systemic risks are looming in the insurance sector.
Kelleher stated, “In 2007, subprime loans were entirely arbitrage opportunities for the rating agencies.”
In a report on Tuesday, Business Insider mentioned that CEO of private equity giant Apollo, Marc Rowan, rebutted Kelleher’s claims, stating that the issue does not lie with ratings themselves. Rowan supported the viewpoint of his competitor, Michael Arougheti of Ares, arguing that larger institutions are better participants in this arena.
At present, the insurance industry, which major institutional investors typically favor investment grade bonds for stable returns, is flooding into private credit assets. Private equity investors are also acquiring or establishing dedicated insurance loan entities, such as Athene Holdings under Apollo or collaborating directly with major insurance companies for investments.
Rowan cited Athene as an example, noting that 70% of its assets received ratings from two of the largest and most established rating agencies – S&P, Moody’s, and Fitch. Rowan also praised smaller rating agencies such as Kroll and DBRS, which Athene utilizes for their expertise in structured products.
Rowan specified that not everyone is following Apollo’s approach, acknowledging that Kelleher’s discussions on systemic risk are not unfounded. However, he believed the focus should not solely be on private credit ratings.
In his industry, the issue lies in companies transferring assets to jurisdictions like the Cayman Islands, which have not established systems aligned with U.S. ratings and regulatory reforms.
Rowan mentioned that the notion of accumulating systemic risks is not baseless but stressed that shifting the focus to insurance is a diversion tactic; for him, “credit is credit”. Nonetheless, he highlighted that over 90% of Athene’s balance sheet consists of investment-grade assets, higher than the 60% in bank portfolios.
Rowan expressed regrets for not attending the Global Financial Leaders Investment Summit this year, noting that he usually engages in post-event discussions with Kelleher, whom he considers “one of the most respected figures in the banking industry”.
He believed that loan risks should not be determined by issuance and structure but by underwriting quality. Rowan highlighted that the market faces issues related to late-cycle behavior and bad actors rather than systemic risk.
He also pointed out that his competitors have “adequately” explained the current state of the credit industry.
On Monday, CEO of Ares, Michael Arougheti, stated that concerns about structural risks in credit are somewhat perplexing. As the cycle continues, some smaller companies or new entrants may take on higher risks in the private credit sector, but most firms in the industry uphold high standards.
Arougheti mentioned that the industry is largely concentrated in the hands of major platforms, with 65% or more of the assets raised and deployed controlled by large existing institutions. He believed these institutions focus on the right types of risks and structures.
(This article references relevant reports from the Financial Times and Business Insider)