The subject of whether life insurance-linked securities (life ILS) structures should be rated or not is a conversation almost as old as the market itself.
To date, the cons have largely outweighed the pros. The confidentiality of data and assumptions, the costs and complexity of getting trades rated, the perceived risk of commoditisation and loss of control, and the investor base being comfortable with these structures without ratings have all contributed to something of an ‘if it isn’t broke, don’t fix it’ mentality in the market.
But times, they may be changing, particularly if asset managers structuring these transactions want to raise money in the UK.
Historically, British capital allocators to life ILS funds have been large institutional investors, including pension funds. But recent macroeconomic events have directed pension fund assets away from private assets like life ILS structures.
“We’ve seen an uptick in long-term gilt rates in the UK since 2022 so therefore, pension funds are thinking about where they allocate capital. In the past, they may have allocated to life ILS because of the complexity premium or the illiquidity premium associated with this asset class but that is changing because they can get as attractive absolute returns by just investing in low-risk assets that are less complex and that are more liquid,” said Tom Spreutels, Partner at insurance-linked securities investor Leadenhall Capital Partners.
There is further nuance to this. Many defined benefit (DB) pension schemes are de-risking – i.e. purchasing a bulk annuity contract with a life insurer with a view to winding up the scheme and removing the pension liabilities from the corporate sponsor’s balance sheet. The significantly improved funding position of these DB schemes – thanks to the rise in gilt yields – has only served to accelerate this shift.
The impact of this is twofold; first, it will often involve the pension scheme reducing exposure to illiquid private assets (such as life ILS assets) since an insurer will always prefer a premium that is composed of liquid assets, and second, life insurers are increasingly the recipient of DB pension scheme assets.
So, life ILS asset managers need to be knocking on the doors of life insurers when out and about on the fundraising trail.
The question is whether to structure some or all of these transactions to obtain a rating from one or more of the agencies – and how far that would assist these fund-raising efforts?
“Ratings make any asset class less esoteric and that would be the case therefore for life ILS structures as well,” said Spreutels.
“Introducing a rating agency to a transaction also means a third party provides an additional level of scrutiny above and beyond the underwriting and analysis done by the investment manager. Also, as there is some obscurity around some of the concepts of life ILS, rating a transaction would mean that our market could get access to a broader investor universe, which in turn may increase ongoing supply and create a degree of homogeneity to the underlying assets. I make reference here to an insurance distribution agency which recently had an ILS transaction rated whereby they raised over $500m from a broad group of international investors, including traditional ILS participants.”
An investment by an insurer is subject to the regulatory capital requirements of the Solvency II regime (now carried through into the UK in the form of Solvency UK). Solvency II/UK requires an insurer to hold capital against any asset that it holds, the amount of such charge varying from one asset type to another. The safer the asset, the lower the charge, and the regime does take ratings into account here, giving credit for a rating of BBB and higher. How far does a (good) rating help from the regulatory capital perspective?
“The Solvency II/UK regime applies a ‘look-through’ approach, with the idea that the capital charge is assessed by reference not to the ‘packaged’ instrument but to the underlying asset. That means that achieving a rating for the life ILS fund, whilst helpful, may not deliver the full intended regulatory benefit for the investing insurer. This is different to the US where the regulatory capital charge for a ‘rated feeder fund’ will typically attach to the rating,” said George Belcher, Partner at law firm Mayer Brown.
The difference between the US and the EU/UK’s regulatory approaches to which Belcher refers also feeds into the opportunity set for the life ILS market should rated structures become more prevalent. A report from Fitch earlier this year suggests that at the end of 2023, US life insurer exposure to asset-backed securities, commercial mortgage-backed securities, and residential mortgage-backed securities totalled 14.4% of invested assets.
“This for us is a very important reason why ratings could help bring this source of capital to the life ILS market,” said Spreutels.
Back to the EU and UK, the look-through approach does not mean that there aren’t nuances; indeed, these are built into the regime itself. An insurer may avoid ‘look through’ in certain cases – for example, where the underlying data does not permit this. Also, an insurer may have its own method of calculating its regulatory capital requirement. Whilst by default, insurers calculate their Solvency Capital Requirement (SCR) using the Standard Formula, which applies a one-size-fits-all set of regulatory stresses, large insurers, especially groups with complex risks, can apply to use an Internal Model (full or partial). These models let insurers use their own risk modelling approaches for capital requirement calculations, rather than the regulator’s formula (of course with regulatory approval from the PRA in the UK or local regulators in the EU).
“The playing field in the UK is not quite uniform from one insurer to another. That might present opportunities, as well as challenges, for private asset managers such as those in the life ILS space, particularly where the product is designed with the insurer’s needs in mind,” said Belcher.
For instance, large insurers with internal models could work with managers to establish that a rated life ILS structure – which is typically uncorrelated with market dynamics – adds diversification to its asset portfolio or that its risk profile is less volatile than the Standard Formula implies. If the regulator approves, this can materially lower the capital hit. Alternatively, insurers could seed vehicles managed by life ILS managers, with structures tailored to regulatory needs. An insurer originating risk could transfer a slice to a life ILS fund, and in turn take back a rated note from the vehicle which would align the balance sheet treatment. Such a structure might start to resemble a securitisation by the insurer, a concept which is well established (see, for example, the various VIF/ embedded value securitisations that have been implemented in Europe prior to 2016).
“Solvency II intentionally suppressed investment by insurers in securitised assets (of any kind) and this has become the subject of loud and influential calls for reform – again with a view to reduced regulatory capital charges for the investing insurer. In June 2025, the European Commission published the first set of reforms to amend, among others, the EU Regulation No. 2015/35 with the aim to promote a more proportionate and targeted use of securitisation, reduce the regulatory burdens, simplify the processes and free up capital for insurers,” Belcher said.
The bottom line for Spreutels is that if the life ILS market wants to expand its life insurance client base, getting a rating for certain structures, while perhaps not a silver bullet, still makes sense.
“Ratings are important if you want to start getting these assets onto insurance and/or other regulated balance sheets. As we think through various opportunities to deploy capital, and as we look at the sources of capital, having some degree of rating would continue to support the relevance of the life ILS space,” said Spreutels.
“The more people think about it, the better it is because it will re-energise the supply again. If we can get back to activity levels similar to those before Solvency II came in, that it would be a good thing for everyone involved.”