SEC proposal could open up ILS assets to more sophisticated investors

A proposal from the U.S. Securities and Exchange Commission could result in an expanded range of sophisticated investors being able to access and invest in insurance-linked securities (ILS), as the SEC proposes to extend the definition of accredited investor.

The SEC’s rules over who can qualify as an accredited investor govern who can access asset classes such as ILS and instruments such as catastrophe bonds.

With reinsurance as an asset class continuing to gain favour, while assets such as cat bonds are increasingly seen as an environmental, social and governance (ESG) appropriate investment, interest in ILS looks set to continue growing, something that would only be accelerated by a wider range of investors being able to allocate to the sector.

The SEC is not proposing an opening up of securitisation markets to retail investors. Rather the Commission wants to adjust the definition of “accredited investors”, as at the moment it feels this excludes some investors that are definitely sophisticated enough to allocate to private and securitised asset classes.

The “accredited investor” qualification is a key one for enabling access to private capital markets investments. By updating and improving this definition, the SEC hopes to “more effectively identify institutional and individual investors that have the knowledge and expertise to participate in our private capital markets,” the Commission explained.

“The current test for individual accredited investor status takes a binary approach to who does and does not qualify based only a person’s income or net worth,” explained SEC Chairman Jay Clayton. “Modernization of this approach is long overdue. The proposal would add additional means for individuals to qualify to participate in our private capital markets based on established, clear measures of financial sophistication. I also am pleased that the proposal specifically recognizes that certain organizations, such as tribal governments, should not be restricted from participating in our private capital markets.”

The amendment to the definition of accredited investors is designed to enable more investors to participate in private offerings, the SEC explained.

This would be achieved by adding new categories of natural persons that are able to qualify as accredited investors, based on the extent of their professional knowledge, experience, or certifications.

The amendments would also grow the list of entities that are able to qualify as accredited investors by, among other measures, allowing the qualification of any entity that meets an investments test.

A public comment period is now open on the proposal.

The SEC’s goal is to “promote capital formation and expand investment opportunities while maintaining appropriate investor protections.”

So making it easier to invest in private capital markets securities for those sophisticated enough to fully appreciate the risks they are entering into, thus helping more private capital access asset classes such as insurance-linked securities (ILS) and reinsurance linked investments.

The proposals focus on: the qualifications of individuals and their ability to understand sophisticated investment classes; an expansion of the range of family offices able to qualify as accredited to those with at least $5 million in assets under management and their family clients; an expansion of organisations to include more LLC’s, registered investment advisers, rural business investment companies, etc; open access to fund employees as knowledgeable persons; allowing spouses to co-participate; and adding a new category for other entities owning over $5 million of investments and that was not formed for the specific purpose of investing in the securities offered.

It’s easy to see how this expansion of the definition could bring new end-investors into the insurance-linked securities (ILS) space, especially as the attraction to reinsurance remains high in some of these categories, such as high net worth sophisticated investors and family offices.

The SEC also explained, “The proposed amendments to the qualified institutional buyer definition in Rule 144A would add limited liability companies and RBICs to the types of entities that are eligible for qualified institutional buyer status if they meet the $100 million in securities owned and investment threshold in the definition. The proposed amendments would also add a “catch-all” category that would permit institutional accredited investors under Rule 501(a), of an entity type not already included in the qualified institutional buyer definition, to qualify as qualified institutional buyers when they satisfy the $100 million threshold.”

As we explained earlier today, the growing ILS investor base is positive as it enables transactions to be increasingly broadly syndicated, while reducing the pressure on any single market to be a significant leader in terms of capacity deployment on specific transactions.