Over the past few years, private equity firms are moving further and further away from home runs; instead, they’re deciding to play small ball with some singles and doubles. During the late 1990s and into the early 2000s, this would have been nearly unheard of. Private equity firms were known for their high-risk, high-reward strategies. These firms would take on massive amounts of debt to acquire companies and then change the structure by eliminating unprofitable operations while also putting more efficient management strategies in place. This allowed private equity firms to knock it out of the park when it came to the initial public offering (IPO).
Since 2011, firms such as the Ares Private Equity Group, Blackstone Group and Apollo Global Management have moved into a more secure sector – insurance. By purchasing these insurance companies, there is much less risk involved.
There is some speculation, however, as to why these companies are investing in fixed annuities in this sector – ones that have a lower rate of return. However, the payoff seems to be evident; by establishing themselves in the life and annuity insurance sector, these private equity firms are adding billions in assets. This allows firms to put their investment expertise to use, allowing fairly predictable and steady returns.
One reason why these private equity firms are jumping into insurance now is because of the realization by insurers that interest rates are remaining low, squeezing their profit margins. Thus, these insurance companies need to inject more capital into their businesses. This need for capital is where private equity firms come into play.
While interest rates are currently low, they are expecting these rates to take off in the near future. Because of new capital coming in the door, better return on investment will be achieved through the rising interest rates. Combined with the fact that the baby boomer generation is due to retire soon, insurers could see much greater investment returns than usual.
A problem that private equity firms are running into, however, is the fact that insurance is highly regulated. States must approve changing ownership within the insurance industry – giving these firms another hoop to jump through.