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Tuesday, Feb 25, 2003

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Govt move on buyback — PSU insurers cool to swapping high coupon securities

C. Shivkumar


PUBLIC sector general insurance companies have expressed reservations against the proposed buyback of high-coupon securities by the Government.

Industry sources said that these buybacks would have a negative impact on the investment income flows of both life and the general insurance companies, in particular the state-owned companies. Buyback of high-coupon securities and replacing them with low coupons are among the methods proposed by the Government. This proposal was put forth to cut the interest costs in the revenue expenditure.

The sources said that even if the buyback offer were made on a yield to maturity (YTM) basis, implying current market prices, the insurers would still prefer not to participate in the buybacks since none of the debt issues of the Government included early exit options, either put or call.

However, the sources said, insurers' disinterest in the proposal stemmed from fears of a possible weakening of the solvency margins. Solvency margins imply that the values of the assets need to be higher than the estimated claims liabilities.

The insurance companies said that once such buybacks were effected, all their solvency margins would be affected negatively. This was because large volumes of the high-coupon securities are currently with the insurers, especially the public sector companies. These include securities with coupons of 14 per cent and 13.65 per cent maturing between 2006 and 2007. The face value of these securities is about Rs 13,500 crore. However, the market value of these securities is at least 75 per cent above the face value to align with the market YTM.

The sources said that based on the marked to market method, solvency margins were currently comfortable and none of insurers was prepared to accept any dilution.

Besides, the sources said, these securities were also generating substantial income by way of coupon flows. Replacing them with low coupons would mean these flows would be impacted negatively. This was one of the major reasons insurance companies preferred to hold these high-coupon securities until their redemption. In fact, most of the gilts trading by the insurance companies were mostly in the low-coupon securities. Insurers are traditionally buyers of long-dated securities. This was because some of their funds were long-term resources. Consequently, the trading by the insurers was focussed towards reshuffling portfolios, replacing maturing securities, and substituting them with high yielding long-dated securities.

The sources said for the general insurers, underwriting currently was a loss-making business, especially in the current regulatory environment. Investment income currently made it possible for insurers to absorb these underwriting losses. The sources said that agreeing for any buyback would therefore depend on the core business itself becoming profitable.

But the Centre is not the only one to propose buyback and premature redemption of securities and debts. Some corporates, including public sector companies, have already approached the insurance companies for premature redemption of high interest term loans. In addition, some of the State Government utilities, water supply boards, power companies and urban development authorities and municipalities have also approached the insurers for premature redemption.

But companies such as LIC and GIC have stridently rejected any such moves, on the ground that the borrowing covenants did not include premature redemptions.

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