Irdai allows insurers to hedge volatility through equity derivatives
Mumbai, Feb 28, 2025
The regulator also issued guidelines aimed at providing insurers with enhanced opportunities for risk management and portfolio diversification
The Insurance Regulatory and Development Authority of India (Irdai) on Friday allowed insurers to invest in the derivatives market to hedge the volatility in equity markets while preserving the market value of equity investments and reducing risks in the portfolio.
The regulator also issued guidelines aimed at providing insurers with enhanced opportunities for risk management and portfolio diversification.
In its circular, the insurance regulator said, “Considering the requests from the insurers, increasing trend in investments in the equity market by insurers and owing to the associated volatility in the equity prices, a need was felt to permit hedging through equity derivatives as a counter measure… Insurers are hereby permitted to use equity derivatives for hedging their existing equity exposures, subject to compliance with these guidelines.”
The regulation is likely to help the Unit Linked Insurance Plans (Ulips) backed life insurance companies due to their large exposure in equity markets.
“The new regulations by the Irdai will widen the scope to better manage the investment books of insurance companies and is a welcome move. Derivatives as a tool for hedging is likely to be used primarily by life insurance companies to manage their ULIP product portfolios. It is more likely to be utilised by the life insurance companies rather than non-life insurers. However, it will take a few months for the products to be used as it requires system readiness, board approvals and process changes,” said Aneesh Srivastava - Chief Investment Officer, Star Health Insurance.
Currently, Irdai allows insurers to deal in Rupee Interest Rate Derivatives in the form of Forward Rate Agreements (FRAs), Interest Rate Swaps and Exchange Traded Interest Rate Futures (IRFs). Besides Fixed Income Derivatives, insurers are also permitted to deal in Credit Default Swaps (CDS) as Protection Buyers.
According to the guidelines, insurance companies will be able to buy hedges in stock & index futures and options against their holding in equities subject to the exposure and position limits. The equity derivatives shall be used only for hedging purposes. Any Over the Counter (OTC) exposure to equity derivatives is prohibited.
Further, insurers are also advised to put in place a board approved Hedging Policy; Internal Risk Management Policies and Processes; Information Technology Infrastructure; and Regular and Periodic Audits.
Also, a robust corporate governance mechanism has to be put in place wherein the board and senior management reviews the contracts undertaken are not prejudicial to the interest of the policyholders. The companies will also share the details of the derivative contracts in the sales brochure of Unit Linked Insurance Plans (ULIPs)
Furthermore, the companies have to furnish Derivative Turnover Data; Data Pertaining to Unwinding of Equity Derivative Contracts; and profit/loss booked on equity derivative transactions to the competent authority on a quarterly basis.
[The Business Standard]
