Selecting appropriate exposures to municipal bond markets ‘critical’ for US insurers

Written by Adam Cadle

05/06/2020

US insurance companies with significant exposures to municipal bond markets are set to feel the negative market effects stemming from COVID-19, and therefore selecting appropriate exposures will be “critical” to insurers’ ability to manage through this tumultuous cycle, AM Best has said.

According to a report entitled Severe Test for the Municipal Bond Market, published by AM Best, negative market effects will be particularly felt in revenue bonds for the more vulnerable sectors such as transportation and retail.

AM Best said more than two thirds of the municipal bonds held by insurers are from 15 states, including states hard hit by COVID-19, such as New York, New Jersey, Illinois, Massachusetts and California. Of the three major insurance segments, property/casualty insurers have the greatest municipal bond exposure, although it has decreased by 20% since 2016, when the Tax Cuts and Jobs Act made the tax-exempt status of this asset class less advantageous. Nevertheless, the segment’s exposures remain considerable, as municipal bonds constitute nearly 14% of the property/casualty segment’s invested assets, compared with 12% and 4.1% for the health and life/annuity segments, respectively.

The life/annuity segment’s municipal bond exposures represent 42% of their capital and surplus, exceeding that of other two segments. Companies rated by AM Best account for nearly 90% of the insurance industry’s municipal bond holdings.

“The expertise and risk management practices of insurers and their investment managers will be tested,” AM Best associate director, industry research and analytics Jason Hopper said.

“Insurers that have a deep understanding of the municipal bond markets and well-defined risk thresholds based on solid credit risk fundamentals will perform better during and after the pandemic crisis.”

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