Barings argues capital rules favor IG CLO tranches for insurers

European and US regulatory changes are making senior investment-grade CLO tranches more capital efficient for insurers, Barings client portfolio manager Bo Trant wrote in an article published Oct. 29.

Writing in Insurance AUM Journal, Trant sets out three potential uses for IG CLO tranches on insurer balance sheets. He cites evolving regulation, attractive spreads and capital efficiency, and separates the drivers by region: targeted rule changes in Europe and the US, and broader risk-based capital regimes being introduced across a number of Asia-Pacific jurisdictions.

For a general-account portfolio manager, the capital charge is the variable that matters, because the charge sets how much capital sits behind each dollar of spread. A tranche that prices well against a similarly rated corporate bond can lose that edge once the insurer's solvency calculation assigns it a higher charge. That suggests the modelling work sits with the domicile and its regime, and the treatment should be confirmed under an insurer's own rules before the spread reaches a credit committee.

Europe and the US are adjusting existing frameworks through targeted changes, while several Asia-Pacific jurisdictions are introducing risk-based capital regimes outright, according to the article. Barings concludes that the combined effect has positioned IG CLOs as a capital-efficient asset class for insurers.

Barings also points to a change in who holds the paper. For more than 30 years, CLOs were held mainly by banks, insurers and pension plans, according to the article. Retail adoption has accelerated over the past several years, helped by CLO-focused ETFs that have grown to more than $60 billion in assets. A wider holder base could deepen the secondary market for tranches an insurer might later sell, though the case Barings makes for insurers rests on capital treatment, not liquidity.

As Private Wealth Daily previously reported on Oct. 28, Barings has already urged insurers to review IG CLO allocations on the same regulatory logic. Barings sized the CLO market at about $1.5 trillion and said the structure is spreading into direct lending and infrastructure debt, according to that earlier report.