Balancing investment and liability management 

As defined benefit managers understand well, liability driven investment management means balancing investment management responsibilities (factor/asset allocation, portfolio construction, manager and security selection) with the additional responsibilities of managing asset risks against liabilities.
 

APRA-regulated insurers take on an additional complexity as their liability driven investment programs also need to optimise return on prudential capital. With these moving parts its unsurprising many insurance investment teams focus on the highest value adding activities, such as Asset-Liability Management (ALM) and asset allocation, then utilise specialist investment mandates to implement. 
 

Challenger's expertise in regulated investment programs

As an APRA-regulated life business, Challenger Life brings unmatched expertise in institutional and regulated investment programs. Leveraging this expertise, Challenger Life introduced "Index Plus" in 2009, a capital-efficient investment vehicle designed specifically for financial institutions in the Australian market. 
 

Since its inception, Index Plus has been a fundamental financial solution for many institutional, regulated, and government partners, consistently delivering value through changing market cycles.
 

Deepening partnerships with insurers

In recent years Challenger Life has expanded its partnerships with Australian and global insurers. These collaborations are built around mutual synergies and shared expertise in investment management. Based on these institutional partnerships, this article explores why Index Plus remains the preferred investment platform for financial institutions and insurers. 
 

A highly efficient investment beta solution

At its core, Index Plus delivers investors with contractual beta plus guaranteed alpha, with zero management fees.  This ultimately means that investors benefit from the certainty that they will receive the agreed market return without any tracking error, and alpha with absolute certainty.  

Key features:

• Customised benchmarks: Clients select from a range of investment benchmarks across asset classes.  Regularly used benchmarks for financial institutions and insurers includes specific or blended nominal Bloomberg AusBond Indices for ALM, as well as Bloomberg AusBond Inflation Indices for inflation matching.
• Fee-free exposure: Benchmarks are delivered without fees or tracking error over the agreed investment term.

Guaranteed alpha: Investors receive an agreed "alpha" (e.g., 50 basis points per year) in addition to the benchmark's total return, regardless of market conditions. This alpha is derived from sharing the net investment spread Challenger Life generates from its own balance sheet investment program. 
 

Index Plus therefore creates two return streams for the investor; the total return of the selected benchmark index (‘beta’), and the certain and stable Challenger ‘alpha’. 
 

The investment objective of the strategy is to provide investors with exposure to the performance of an agreed index plus guaranteed alpha for zero management fees.

Benefits for insurers

In the 17 years Index Plus has been operating these two return streams have generated some incredibly efficient and effective solutions for Challenger Life’s financial institutional partners. For insurer clients however there are additional benefits.
 

1. Prudential capital efficiency 

The first additional benefit insurers can derive is Index Plus’ efficiency when calculating an insurer’s asset risk charge. If an insurer invests in an Australian Treasury benchmark, then the prudential capital requirements of that investment reflect the risk-free nature of the Australian Government. 
 

However, in addition to receiving the total return of that benchmark, an Index Plus investor will also receive the second return stream, the Challenger alpha. This second return stream will result in the investor’s total return being higher than government bond index without incurring asset risk charges. Better still, as the Challenger alpha is fixed and certain, an insurer does not have to manage potential volatility in credit spreads, which can degrade an ALM match and detract from investment returns. In a similar vein, if an insurer replaced some credit investments with a treasury benchmark investment via Index Plus, replacing the credit spread with Challenger alpha, that would reduce the insurer’s asset risk charges thus freeing up prudential capital. An insurer may then choose to utilise that prudential capital in other parts of their investment program, elsewhere in the business, or as a higher capital coverage ratio.

2. Flexibility with benchmarks 

The second benefit Index Plus opens for liability driven investors is utilising Challenger’s ability to change benchmarks during the term of an Index Plus investment not only for asset allocation but also for ALM purposes. 

• Addressing credit market constraints: Australian credit markets often lack sufficient depth, posing challenges for investors managing concentrations or delayed implementation. 
• Efficient hedging without derivatives: Index Plus eliminates the complexities of derivative-based ALM management, such as margin maintenance, operational risks, and cashflow volatility.

By using AusBond Treasury benchmarks through Index Plus, insurers benefit from fixed return streams without exposure to spread volatility, credit rating changes, or impairments.

A robust investment counterparty in Challenger Life 

Challenger Life’s credibility as an investment counterparty stems from its strength as an APRA-regulated A-rated life insurer and its robust capital and risk management programs. It has also embedded market-leading governance and regulatory compliance across its processes.
 

Challenger Life is focused on the spread it earns between its investment assets and its annuity liabilities. That ALM spread focus, combined with the Challenger Group holding the largest life insurance balance sheet in the country¹, means Challenger’s investment management expertise is a central pillar of the Group’s success. 
 

Challenger’s fixed income expertise, public and private, is a dominant strength and particularly relevant for other insurers. 

Challenger Life already collaborates extensively with local and global institutions to manage complex investment programs, such as reinsuring longevity exposures and providing defined benefit de-risking solutions, drawing on its investment capabilities. 
 

Challenger is unique in the Australian market, and its core fixed income and ALM competencies fit well with the requirements of insurance investment programs, particularly when paired with the efficiency of the Index Plus platform.
 

Why index plus is the investment platform of choice 

Summary of key advantages:

1. Fee-free, tracking-error-free benchmark exposure 
2. Guaranteed alpha returns independent of market conditions 
3. Prudential capital efficiencies for insurance investors 
4. Flexibility in asset allocation and ALM Strategies 
5. Strong institutional pedigree as an A rated, APRA-regulated entity 
    

Taken together, Index Plus delivers unparalleled efficiency and certainty for liability-driven investors, solidifying its role as the investment vehicle of choice for Australia’s leading insurers and financial institutions. 
 

¹ Challenger Analyst Pack, as at 30 June 2024

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