Asset-liability management and investment for health and care insurers
The liability you are matching
PMI is short-tailed and repriced annually, so its liabilities are close to cash. Income protection and critical illness are long-tailed: claim duration and reporting lag give a duration of many years, and the claim cost is sensitive to medical inflation, which has historically run above CPI. Long-term care adds longevity and morbidity-improvement risk.
Asset toolkit
- Gilts and high-quality corporate bonds: the risk-free and spread building blocks, and the backbone of a matching adjustment portfolio.
- Matching adjustment assets need fixed or highly predictable cash flows; the discount rate is the risk-free rate plus spread less the fundamental spread.
- Illiquid credit, infrastructure and equity release: yield pick-up with liquidity and prepayment risk.
- Equities and property: only where the liability or with-profits/unit-linked backing supports the volatility.
Worked example
Assets of £1,000m with duration 8; BEL of £1,000m with duration 12. A 1% parallel rise in yields gives assets −£80m and liabilities −£120m, so the surplus improves by £40m. Now suppose 60% of liabilities sit in a matching adjustment portfolio where spreads are locked in, so liabilities fall only 9% (−£90m): the surplus gain shrinks to £10m. Effective liability duration has fallen, so the portfolio should be re-durationed or the gap accepted within risk appetite and SCR.
Traps
Assuming the matching adjustment applies to any asset; ignoring that spread widening hurts surplus when the adjustment damps the liability move; matching duration but not inflation - medical inflation is not CPI; forgetting capital charges, counterparty limits and liquidity for collateral calls; assuming income protection liabilities are short because premiums are annual.