The expert magazine of Ostrum AM

With today’s extremely low interest rates, insurers and health insurance companies need to look farther afield for yield on their bond investments. Some instruments can offer attractive spreads as compared with standard bonds, such as callable bonds and perpetual bonds. However, these instruments have unpredictable redemption dates and cash flows, thereby dragging on capital required under Solvency 2 and hence ultimately affecting the investment’s returns. It is crucial to take on board these instruments’ specific features to optimize their appeal, and this requires specific tools, data and skills. Ostrum AM can offer all the resources required to support investors in their quest for yield, under cost of capital restrictions.

Key takeaways

  • Bonds which include an early redemption clause - known as callable bonds - offer spreads which may be more advantageous than plain vanilla bonds. They represent most corporate debt, particularly in the high yield credit segment.
  • The redemption and scheduled cashflows for callable bonds and perpetual bonds are not set at specific dates. This factor of uncertainty weighs on the capital required under Solvency 2 and therefore on the profitability of an investment compared to its cost of capital and ultimately on the interest paid by these types of assets in a portfolio.
  • Specific tools are required to carry out these complex calculations, which have no stipulated methodology in the delegated acts, along with data and skills used to assume probable call dates and calculate the sensitivity of probable cash flows. This calculation may have a major impact on allocation models particularly in highly granular cases.