In 2009, as new regulations were set to reshape banking in the wake of the Great Financial Crisis, private equity giant Apollo Global Management found a way to make money from the retirement savings of millions of ordinary Americans.
Through Athene, an insurer it helped found and later merged with, Apollo acquired portfolios of annuities – a type of insurance policy that guarantees streams of income, usually to retirees – from other insurers and used the collected premiums to to expand its lending business, for example through mortgages for aircraft financing.
Athene, which now accounts for about half of Apollo’s business, also issues annuities and has become the largest U.S. issuer of such policies. Last year, the company managed $236 billion in pensions and other securities. The company’s innovation has spurred several imitators and transformed private equity firms – many have rebranded themselves as “alternative asset managers” – into influential players in the insurance industry.
Carlyle, KKR and Blackstone are among the private equity giants that have either bought stakes in other insurers or bought books of business from them. As of the second quarter of 2023, these companies owned nearly 9 percent, or about $774 billion, of the U.S. life insurance industry’s assets, up from just 1 percent in 2012, according to the latest data from insurance ratings agency AM Best.
Insurance assets are attractive to private equity firms because they provide so-called permanent capital, minimizing the need to raise funds from large investors every few years. But companies’ rapid entry into insurance has worried regulators, bankers and researchers, including those at the Federal Reserve, because companies often invest insurance premiums more aggressively in private markets – which are opaque, difficult to value and largely outside the control of companies are the strict regulations that apply to banks – than to securities such as US government and corporate bonds.
Jamie Dimon, chief executive of JPMorgan Chase, raised concerns about the increase in private lending since the 2008 financial crisis. In July, he told investors that banks could not compete as well with private equity firms because banks were forced to raise much more capital than to hold the loans they planned.
Asked by an analyst about comments by Michael Barr, the Federal Reserve’s top banking regulator, that banks should hold even more capital, Mr. Dimon said: “I think this is great news for hedge funds, private equity, private credit, Apollo, Blackstone,” adding: “They’re dancing in the streets.” Mr. Dimon did not specifically refer to insurers affiliated with private equity firms.
Marc Rowan, Apollo’s chief executive and co-founder, said his company has more so-called Tier 1 capital, which includes investments that regulators consider to be the safest and highest quality, than the majority of the 10 largest U.S. banks have a percentage of his total assets. Insurers, including those tied to private equity firms, say they invest in long-term, highly rated securities and that the timing of holding their investments is consistent with their annuity payout calculations.
According to PitchBook, which tracks private markets, the private loan market was about $1.75 trillion in 2022, compared to about $500 billion in 2012. PitchBook expects that number to rise by will rise to around 200 billion US dollars. About a fifth of the money raised last year by the seven largest publicly traded private equity firms, including Carlyle, KKR and Blackstone, came from the insurance industry, according to PitchBook data.
Although retirees’ money is not at immediate risk, Fed and university researchers worry that the complex and opaque nature of the arrangements between some private equity firms and their “captive” insurers could obscure the buildup of risk in the system.
“Within days of a PE acquisition of an insurance company, they are rebalancing their bond portfolios toward riskier assets,” said Natasha Sarin, a professor at Yale Law School who has studied the investments that private equity firms make compared to traditional insurers . U.S. Treasury bonds and investment-grade corporate bonds are among the assets that are generally considered safe.
Insurers backed by private equity firms are increasing their holdings of asset-backed securities — financial products backed by income-producing assets like auto loans or mortgages that are bundled and then sold in portions to investors — by two-thirds of the industry average, or 16, according to one 2020 paper by Dr. Sarin co-authored with Divya Kirti, an economist at the International Monetary Fund, they make up just 10 percent of its total portfolio, compared to 10 percent for traditional insurers.
“We don’t yet know what consequences this will have for long-term financial stability,” said Dr. Sarin in an interview.
Fed researchers are also concerned. In an article published in 2020 and updated in April, three researchers, Nathan Foley-Fisher, Nathan Heinrich and Stephane Verani, asked whether life insurers were “the new shadow banks.”
The National Association of Insurance Commissioners, the insurance industry’s data analysis and oversight organization, has studied the growth of private equity in insurance and the insurance industry’s entry into lending, but has no official regulator.
Private equity industry executives say entering the insurance industry is safe and transparent.
“There is nothing secret about insurance,” Erin Clark, an Apollo spokeswoman, wrote in an email. “It is one of the most regulated industries and has been one of the largest loan owners/lenders in the U.S. market for decades.”
One of the most popular complex financial products that attracts insurers is the collateralized loan obligation, or CLO. These are bonds that consist of pooling private loans to highly indebted companies.
A 2021 study by researchers at the Federal Reserve Bank of New York found that insurance companies often opted for the “mezzanine” portion of a CLO, which is riskier than the highest-rated tranche but can also provide higher returns . The paper said insurance companies owned nearly half of CLO mezzanine securities in 2019.
The rules require banks, whose uncontrolled risk-taking was responsible for much of the financial crisis, to maintain large amounts of capital to offset risks from investments. But insurers, which are heavily regulated by states, are not subject to the same federal banking regulations or capital requirements, making risky debt a much more lucrative investment for them.
“Life insurers have filled a gap left by banks in risky corporate loan markets,” the Fed researchers wrote.
Even traditional insurers like MetLife and Prudential Financial, seeking higher returns during the last decade of low interest rates, have started buying riskier assets.
The private equity industry, which emerged in the late 1970s, was known for buying up public companies, taking them private and burdening them with large amounts of debt. But since the 2008 financial crisis, these firms have expanded beyond acquisitions into almost every area of the financial world – credit, mortgages, infrastructure and real estate. The industry currently has about $8 trillion in assets under management, up from $1.5 trillion in 2008, according to PitchBook.
Insurance has become one of the most enticing areas for private equity firms as insurers accumulate premiums paid by ordinary Americans. This creates a continuous source of funding compared to companies’ traditional route of raising money from pensions and endowments every few years. Premiums must be invested in such a way that insurers can earn a return that exceeds what they pay policyholders.
Warren E. Buffett built Berkshire Hathaway on this insight: He invested the difference between the premiums the conglomerate’s insurance companies collect and what they pay out each year—the source of what he calls billions of dollars in “float.” Mr. Rowan, who brought Apollo into the insurance sector and helped develop the concept for the private equity business, has noted that Apollo and Athene use elements of the Berkshire model.
In 2018, Carlyle invested in Bermuda reinsurer Fortitude Re, which was formed earlier that year from an annuity business of insurer American International Group. Since Carlyle’s investment, Fortitude Re has bought more books of business from other insurers. In 2021, KKR acquired a majority stake in retirement and life insurance company Global Atlantic. This year, Blackstone bought a 10 percent stake in AIG’s life and retirement business and struck a deal to manage its existing portfolio worth $50 billion.
Canadian investment firm Brookfield Asset Management, which had a minimal presence in the insurance business three years ago, has since signed contracts to manage insurance assets worth about $100 billion. In its recent investor day presentation, Brookfield said it aims to add another $250 billion in insurance assets over the next five years, eventually reaching $1 trillion.
Unlike Apollo, which bought Athene in 2022, Blackstone, which recently reached $1 trillion in assets under management, bought stakes in insurers rather than acquiring it outright. Still, Jonathan Gray, president of Blackstone, expects the insurance industry to continue shifting its assets into private loans. He said the insurers’ move was “at a very early stage”.
Many U.S. insurance companies also own reinsurers — companies that provide insurance to insurers — often based in Bermuda, a British territory where reporting requirements are less stringent and taxes can be lower. Some private equity-linked insurers, including Apollo after its merger with Bermuda-based Athene, pay U.S. taxes on all of their insurance products.
Still, companies with ties to a Bermuda-based insurer can attract outside investors with the chance of higher returns by creating specialized investment vehicles that take advantage of the territory’s lower tax regime.
“One way PE firms add value in insurance is by being really smart at identifying opportunities for regulatory and tax arbitrage,” said Dr. Sarin from Yale.