Solvency II: A Unique Opportunity for Co-Legislators

Private equity is an asset class that has long demonstrated its value for institutional investors in the EU. With their ten-year horizon, private equity offers insurers and pension funds the opportunity to make investments that perfectly matches their own liabilities. Simultaneously, they provide much-needed diversification benefits by allowing investors to invest indirectly into several companies in a single fund. And, as shown in Invest Europe’s latest Performance Report, private equity is also providing investors with returns that have long stayed unmatched by those of listed equity. European buy-out and venture capital funds have respectively delivered since inception an IRR of 15% and 12%, up to three times above the listed markets percentages.

Most importantly, however: Investing in private equity funds allows insurers to commit some of their capital to businesses in the heart of the European economy. European start-ups and scale-ups require capital to grow and become international competitors. Likewise, infrastructure projects across Europe cannot be set up without the right financing. Oftentimes, only equity funds can provide the support – capital, advise and active ownership - these companies need.

This is why the EU needs legislation that fosters investments into these funds by institutional investors, as opposed to laws that actively disincentivise their use. Prudential rules, set in the Solvency II Directive, are crucial in this respect.

One of the objectives of the latest revision of Solvency II was to amend the criteria surrounding the use of the “long-term equity (LTE) category” - a mechanism for insurers that allows them to set up long-term portfolios under specific conditions - and which would receive a lower risk weight with more appropriate features for long-term investments.

Despite these good intentions, most insurance companies have not made use of the LTE category since it was introduced – for two main reasons. The first is that overly narrow geographic criteria prevent insurers from seeking diversification by investing in different markets. The second is that strict “ring-fencing” rules for when the LTE category can be used are impossible to apply for insurers in certain Member States.

The revision of Solvency II was the moment to address this, which is why we are glad this opportunity has been used in amendments introduced by MEPs Stéphanie Yon-Courtin and Markus Ferber. With these amendments voted on in July of this year, the European Parliament’s position addresses most of the shortcomings arising from the original proposal, including the two aforementioned points.

Integrating these changes into the final proposal will be a vital step for the Capital Markets Union’s agenda, which was laid out by the European Commission at the beginning of its mandate. The ball is now firmly in the Council’s – and the European Commission’s – court.

Despite having grown significantly over the past few years, venture capital, growth and infrastructure asset classes are still not large enough to cover all the needs of European businesses. We remain hopeful that Member States will seize this chance to make their financing easier so that insurers and private equity can jointly continue to contribute to the improvement of Europe’s economy.

Eric de Montgolfier
CEO
Invest Europe