Chinese insurers: GP or LP?

In contrast to many global insurers, over the last eight years Met Life has stopped pursuing direct and co-investments in private equity. It was decided that the benefits of low or no management fees and carried interest did not outweigh the volatility risks.

"You are taking larger positions in a smaller number of companies; adverse selection risk is significant for us," David Lindstrom, managing director for alternative investments at Met Life, told the AVCJ China Forum. "Volatility is a concern so we try to balance the benefit of better economics on an individual deal versus creating volatility which would mean our allocation to equity would be lower - otherwise we would push up the overall volatility of the company."

Met Life has been investing in private equity for more than 30 years, and of its $500 billion in balance sheet capital, 2% is committed to PE and hedge funds. This allocation is held down by a combination of regulatory issues, capital charges and above all a desire to minimize volatility. Building a meaningful co-investment portfolio also requires a substantial team. And while Met Life manages third-party capital in other asset classes, there are no plans to do so for PE.

With Chinese insurance companies now empowered to do more in private equity than ever before - including setting up their own GPs - it is instructive to consider why some of their international peers have passed on opportunities to broaden exposure.

Opening the door

Insurers were first allowed to make LP commitments to domestic private equity funds in 2010. The following year the cap on investment was lifted from 5% of total assets to 10%, and then last year it was decreed that public and private equities combined could account for 30% of assets. Fast-track approvals have also been introduced for PE fund commitments.

Along the way, insurers were also given the green light to participate in offshore funds, with overall offshore investment capped at 15% of total assets. China Reinsurance (China Re) was the first GP to participate in a big-name offshore GP, committing $30 million to KKR's 11th North American vehicle. It has followed up with investments in funds raised by The Carlyle Group and Lexington Partners.

In the last six months the pace of reform has speeded up considerably. As Sally Shan, managing director with HarbourVest Partners, put it: "When China moves fast, it moves fast. We have seen that in the stock market and in many industries, even for the regulators."

First, in December insurers won approval to invest in domestic venture capital funds, albeit with tighter exposure restrictions than for private equity. Within three weeks of that announcement, clearance was given for insurers to set up their own PE funds that focus on investments in small and medium-sized enterprises (SMEs). The China Insurance Regulatory Commission said this could see RMB2 billion ($322 million) being invested in SMEs.

The asset management unit of Sun Life Everbright Life Insurance, which is backed by China Everbright Group, has launched a fund, but others are in no hurry to follow suit.

"At this point in time we haven't set up a GP under China Re to do direct investments. Rather, we work with our partners to look at co-investment opportunities and also use our principal balance sheet money to do some direct investments if those opportunities are really interesting," said Xiangming Fang, managing director at China Re. Her firm's current priority is building a diversified global portfolio.

One obstacle to faster progress is regulation. While the CIRC has said that insurers can set up asset management companies to act as GPs, it has yet to offer detailed guidance as to how this will work. Sammuel Zhao, a partner at law firm Junhe, identified one particular problem: most insurers are state-owned and companies of this nature cannot act as GPs; therefore, these companies must dilute their shareholdings in asset management subsidiaries.

Beyond this, recruitment remains a pressing issue. The standard response to queries about insurers' gradual move into international private equity is that they are busy building in-house investment teams that are familiar with long-term asset allocation strategies. This is a challenge for any investor branching out into new areas. "There are constraints in terms of finding qualified people and putting in place a compensation structure for qualified people is not easy thing," Met Life's Lindstrom observed.

Horses for courses

Nevertheless, there are already some teams in the insurance ecosystem. Ping An Ventures was set up three years ago, not as an insurance company-owned vehicle - this was prohibited at the time - but as a captive investment arm of the ultimate parent, financial conglomerate Ping An Group. The idea was to replicate the Google Ventures model and identify innovations that can benefit the group.

"We started as a strategic initiative and after 1-2 years we realized we had the capability to deal with the business and then we transformed into more of an investment company," said Le Yu, managing director at Ping An Ventures. "It is very difficult to find the right people but if you find them you can set up your own company. Last week the head of Ping An Asset Management was talking to me about the possibility of setting up an investment company together."

Junhe's Zhao also sees potential in insurance companies teaming up with independent private equity firms to form joint venture GPs.

It remains to be seen whether insurance companies can be successful if they try to raise capital from third parties. Much might rest on convincing prospective investors that they have an advantage over the rest of the market in terms of deal-sourcing, by virtue of their established networks. Met Life's Lindstrom cautions patience, noting that it takes years to put a private equity strategy in place - as LP or GP - and trying to change too quickly is counterproductive.

Based on the speed of recent regulatory reforms, it is unclear at what pace the industry might evolve. "I think we should recognize that in China 30 years means 10 years and patience is also probably defined differently," said HarbourVest's Shan. "It is a very interesting time - maybe the best time and the worst time."

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• Topics
• LPs
• Greater China
• GPs
• Fundraising
• China
• LPs
• GPs
• Fundraising
• China Re
• Ping An
• Met Life
• insurance