The shaky economic recovery around the world is eroding profitability for Asian insurers, prompting them to take on more investment risk, particularly in private asset classes, to improve yield.

This transition requires insurers to step outside their comfort zone at a time when resources are already stretched by increasingly demanding regulatory requirements.

BlackRock commissioned the Economist Intelligence Unit to gauge how insurers were responding to the pressure on their fixed income portfolios, and whether they saw higher-yielding private assets as an investment opportunity to move up the risk spectrum.

Almost half of respondents in the Asia-Pacific see weak economic growth as the biggest macro risk to their fixed income portfolios, while around 2 in 5 cite concerns over inflation, echoing their global counterparts. They also regard credit and liquidity risks as the top market risks, but the degree of worry over persistently low interest rates is 14 percentage points lower in the Asia-Pacific compared with the rest of the world.

Insurers in Korea have a higher likelihood than their peers in the region to increase risk exposure. Eighty percent of those surveyed, as opposed to the regional average of 34 percent, intend to increase exposure to risk over the next three years to replace, or enhance, investment income and seek greater portfolio diversification. And two-thirds plan to allocate more than 15 percent of their portfolio to private asset classes, such as infrastructure and real estate, over the next three years. That is a 50 percent rise from the proportion that does so today.

All of those surveyed in Korea strongly agree that private asset investment represents a very attractive option, while 60 percent see it as a diversified source of risk and return. Assets backed by real estate or infrastructure proved particularly popular. The survey found that currently 27 percent of respondents across Asia-Pacific have exposure to commercial real estate mezzanine debt, set to rise to 45 percent over the next three years.

Such assets are often hedged against inflation risk and come at a premium, because they are less liquid than the products insurers traditionally invest in. The upshot is that the rationale for investing in private market assets becomes compelling.

But this change in strategy comes with challenges. Insurers tend to struggle with portfolio pricing and transparency in private market assets. They also have difficulty getting access to the right opportunities and modeling risk factors.

In addition, insurance companies are entering this transition at a time when their resources are already stretched by new and rapidly evolving regulations. Those managing investment-grade core fixed income portfolios are now focused on increasing or maintaining book yield, but this is about to change, as the survey found 48 percent of them in Asia-Pacific said their chief concern over the next three years would be complying with increasing and changing regulation. In Korea, 80 percent of surveyed insurers think managing regulatory requirements is a top priority.

Regulation in the Asia-Pacific region is highly fragmented, unlike in the U.S. and Europe, where federal or Europe-wide regulatory requirements govern insurance firms. Solvency II, which comes into effect in Europe in 2016, is prompting many insurers to adopt a more sophisticated risk-based capital approach to regulation. South Korea, Taiwan, Singapore, Malaysia and mainland China have implemented some regulatory measures similar to those in Solvency II, but regulation retains a strong national flavor in most Asian countries.

Regulatory change could be costly for Asian insurers, because the supply of investment-grade core fixed income products is comparatively low. This could potentially expose investors to higher capital charges, if regulators in the region adopt more of the stringent requirements governing the industry in other parts of the world.

Asia-Pacific insurers face uncertain times. And while many of their concerns are shared globally, they will also have to contend with some unique regional challenges. Insurers will need seasoned investment expertise if they want to step outside those comfort zones to achieve their income and diversification objectives.

By David Lomas 

The writer is head of BlackRock’s global financial institutions group.