Captive Insurers Need To Ask Investment Managers More Meaningful Questions

Businessman and adviser sitiing at a table with an orange question mark between them

Alton Cogert | July 13, 2023 |

Businessman and adviser sitiing at a table with an orange question mark between them

What questions should you be asking your investment manager but probably are not? Alton Cogert, president and chief executive officer of Strategic Asset Alliance, provides an answer below.

The Four Unasked Questions You Should Ask Your Investment Manager

Submitted for your approval. A recent, probably typical, meeting with your investment manager.

"Let me tell you," the investment manager says, "This financial environment is completely unprecedented. Globally, central banks are manipulating supply and demand of fixed income and equity securities. Most of them are on the warpath against inflation, and that means higher interest rates that will drive the value of your bonds lower while increasing investment income, slowly, over time. And that will likely produce a recession."

"Yes, we know," you tell him, "but what can we do about rising interest rates? It seems that every time we meet our portfolio's market value moves lower and lower."

"Good question," he says, and then turns to his associate.

"We are getting more yield, which will eventually result in more investment income. That's the silver lining to those large unrealized bond losses you are seeing," she says. "So, unless you tell us we can realize some of those losses and reinvest at higher yields, there is not a lot we can do other than investing new money."

"That is true," you realize and the meeting drones on in its usual fashion. The economy, the portfolio, securities of interest, etc., etc. You exchange pleasantries and wish everyone a good day. Then the Zoom window closes.

After the meeting, sitting in your office, you start to think something may be missing.

"Did I ask the right questions?"

You probably did, but you may have missed a few questions that managers typically don't hear, but should, from their insurer clients.

What should you be asking and why? Let's review four typically unasked questions.

1. Why Don't We Realize Some of Those Losses and Reinvest at Better Yields?

We have most of our investments in investment grade bonds, that are highly unlikely to default (US treasuries and agencies, government guaranteed mortgage-backed securities, highly rated corporate bonds, etc.). So, if we realize those unrealized losses, we are making permanent something that is likely temporary. So, it's easy to say, "no losses" and move on to the next issue.

But, what if we could then reinvest at a higher yield that produces more investment income and that investment income more than recoups the realized loss in a very short period of time (1 to 2 years), after which it provides more income than just holding the original bond and not realizing the loss.

Managers call the period of time it takes to make up a realized loss the "breakeven period." It's a simple concept, and one that allows a captive to consider the tradeoffs between realized losses and more investment income. However, we should be certain that "breakeven period" is a very short period of time and understand how it will impact financial results.

2. What Are Other Captive Insurers Doing?

Some managers may have a better advantage than others at answering this question, simply because of their experience with managing insurer assets. And, even if they have that experience, it may not be broad enough or similar enough to your captive to provide a useful answer. So, this might be a more difficult question to answer than you might think.

In addition, some managers are affiliated with insurers. In those cases, they may (or may not) feel comfortable revealing what other asset classes their affiliated insurer is utilizing in the current environment.

3. What Would You Ask If You Were in Our Shoes?

This may be my all-time favorite question that I once heard a client ask a manager.

To properly answer it, the manager has to put themselves in your shoes, which should take some thought, and then, using their experience and knowledge, determine what they would really want to know.

Too many times, someone who is asked this question will merely parrot back what they had been saying was important all along. However, by asking them "why" they said what they said, and then "why" again and, perhaps, again, you might find a rather interesting idea at the core of their initial response. This can be time consuming, but it can also be enlightening. This approach is very similar to the "Five Whys" approach originated by Toyota.

4. How Do You Compare, Quantitatively and Qualitatively, to Your Peer Managers?

Insurers usually compare themselves to other insurer peers, and that certainly can be a worthwhile exercise. However, have you wondered how your manager compares to its peers?

This is both an easy and difficult question for the manager to answer.

Easy, because there is data available that can be properly presented by the manager to show how its performance is "in the top quartile," or something like that, of similar managers. In fact, data analytic companies that market such performance comparisons to the managers feature the ability to customize peer groups, so the manager can be seen in the best possible light. (Of course, there is always the issue of comparing performance from one insurer's account to another due to differing constraints and mandates.)

Difficult, because fairly comparing your manager to other managers is much more complex than just looking at performance. There are numerous other quantitative and qualitative factors that should be considered. For example, we utilize Manager Select when performing a manager peer analysis, or a manager search (whether an active or just an initial fiduciary search). The traits we find most useful for comparison include organizational background, investment team, experience managing insurance assets, investment process and performance (including attribution).

Manager Select allows us to easily run these analyses. You can preview Manager Select  here and begin comparing your manager to its peers across these various attributes.

The Four Unasked Questions

At your next meeting with your investment manager, you might try asking one or more of these four unasked questions. Of course, they are not designed to be the only questions you ask. But, they can lead to a much more meaningful and useful meeting with your investment manager.

Alton Cogert | July 13, 2023