Insurers Sold ETFs As Fed Bought
Key Takeaways
Despite recently representing approximately 25% of ETF assets held by insurance companies, fixed income funds represented more than half their ETF trades in the second quarter of 2020.
While corporate bond ETFs gathered $50 billion of net inflows industrywide between April and June driven directly and indirectly by the Federal Reserve’s (Fed’s) purchases, insurers were net sellers of these ETFs and buyers of Treasury funds according to a new S&P Dow Jones Indices report.
The iShares iBoxx USD Investment Grade Corporate Bond ETF (LQD) and the iShares iBoxx USD High Yield Corporate Bond ETF (HYG) were sold, providing liquidity for buyers outside of the insurance industry.
Insurers’ traded more fixed income ETFs than equity products in the second quarter.
At the end of 2019, fixed income ETFs represented just 27% of insurance company ETF holdings, much smaller than the 71% for equity products. Yet in the second quarter of 2020, 52% of the trading activity occurred using fixed income funds, according to an S&P Dow Jones report titled “ETF Transactions by U.S. Insurers in Q2 2020.”
We think insurers found the liquidity of fixed income ETFs appealing relative to accessing the cash bond market. ETFs also provide diversification and price discovery benefits relative to individual bonds. Greater usage by institutional investors, such as insurance companies, helps all investors have confidence that trades will be executed at close to the fund’s net asset value.
Raghu Ramachandran, head of Insurance Asset Channel at S&P Dow Jones Indices, analyzed second-quarter insurance company transactions using National Association of Insurance Commissioners (NAIC) data available on the S&P Global Market Intelligence platform. He counted $14 billion worth of transactions, down from $25 billion in the first quarter when COVID-19 volatility was elevated.
Although property and casualty companies hold the most ETFs in the insurance industry, Ramachandran noted that health companies traded more in the second quarter.
Selling While Fed Buying
Insurance companies were selling corporate bond ETFs, even as the Fed was buying them.
As the credit market dried up at the end of the first quarter due to the initial impact of COVID-19, the Fed sought to provide stability of the financial system. In late March, the Fed announced unprecedented efforts to support corporate bonds, found in many popular bond ETFs, as well as plans to purchase the ETFs directly.
The Fed’s buying of corporate bond ETFs started in May, but net inflows to fixed income ETFs, particularly corporate bond ETFs, climbed in April, according to CFRA’s First Bridge ETF data. Those purchases continued throughout the quarter, with investor front-running of the Fed believed to be the key driver. Meanwhile, broader net inflows for Treasury and government ETFs that occurred in April turned into outflows in June, as shown in Chart 1.
This was not evident in analysis of second-quarter insurance company trading activity. Insurers were net sellers of $386 million worth of corporate bond ETFs in the second quarter, but net buyers of $565 million of Treasury and government bond ETFs.
Net purchases or sales of ETFs do not directly impact a product’s asset growth. ETF buying by insurers in the secondary market might have occurred as other investors sold fund shares.
Chart 1: Q2 Industrywide Fixed Income ETF Flows ($B)
Source: CFRA’s First Bridge ETF Database, as of June 30, 2020
Buy-And-Sell
First-quarter LQD purchases by insurers were short lived, with selling in April and May. The investment-grade corporate bond fund LQD had net purchases totaling $2.1 billion in the first three months of 2020, with $1.5 billion (72%) in March alone. Yet approximately $550 million of LQD was sold in the second quarter, more than any other fixed income ETF, with $231 million in April and $307 million in May.
Meanwhile, the more credit-sensitive HYG was second, with $572 million worth of purchases between January and March, but HYG was also the next most sold fixed income ETF in the second quarter, with $330 million. Even as the Fed and many other investors were buying LQD and HYG, insurers were taking advantage of the liquidity and redeeming shares.
Chart 2: Insurers’ Net Buying & Selling Activity in First Half of 2020 ($M)
Source: NAIC via S&P Global Market Intelligence, as of June 30, 2020
Intermediate-Term Treasury ETFs were in demand. During the second quarter, insurance companies purchased $105 million of the Vanguard Intermediate-Term Treasury Index ETF (VGIT) and $44 million of the iShares 3-7 Year Treasury Bond ETF (IEI). These funds have stronger credit profiles than the corporate bond ETFs that incurred net redemptions, and provide a liquid alternative to individual bonds.
Many U.S. large cap equity products were sold in the second quarter. A combined $1 billion worth of the SPDR S&P 500 ETF Trust (SPY), the iShares Core S&P 500 ETF (IVV) and the Vanguard S&P 500 ETF (VOO), three of the four largest ETFs based on overall assets, were sold in the second quarter.
Both SPY and IVV experienced net purchases in April, before net selling commenced in May and continued in June. In contrast, the iShares Core S&P Small-Cap ETF (IJR) received net purchases of $7.2 million, with all of it coming in May and June, as insurance companies were more comfortable taking on equity risk.
Chart 3: Insurers’ Net Buying & Selling Activity of S&P 500 Index ETFs ($M)
Source: NAIC via S&P Global Market Intelligence, as of June 30, 2020
Conclusion
Insurance companies continue to gain comfort in trading ETFs, but we are particularly encouraged by the usage of fixed income ETFs. Investors who piled into corporate bond ETFs in the second quarter following the Fed’s moves benefited from the liquidity provided in part by the selling by insurance companies.
All of the views expressed in this research report accurately reflect the research analyst's personal views regarding any and all of the subject securities or issuers. No part of the analyst's compensation was, is, or will be, directly or indirectly, related to the specific recommendations or views expressed in this research report. For more information and disclosures, please refer to CFRA's Legal Notice at https://www.cfraresearch.com/legal/.
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