RegTech Intelligence

Solvency II: rethinking infrastructure investments

On 1 April 2016, the European Commission’s Delegated Regulation (EU) 2016/467 relating to Solvency II – the European risk-based capital regime – was published into the Official Journal of the EU.  This covers the new risk charges imposed on insurers’ equity and debt investment in infrastructure projects.

Based on advice from the European Insurance and Occupational Pensions Authority (EIOPA), the delegated act reduces certain requirements for investing in so-called “qualifying infrastructure projects” – a distinct asset category under Solvency II.  In particular, the risk calibration for investment in unlisted equity shares of infrastructure projects has been changed to 30% (from 49%) while that of investment in infrastructure debt (i.e., bonds or loans) has been reduced by up to 40%.

Jonathan Hill, Commissioner for Financial Services, Financial Stability and Capital Markets Union, said: “Insurers told us that some of the Solvency II rules were putting them off investing in infrastructure”.  As a result of the aforementioned changes, insurers will be required to allocate less capital and are likely to find playing a bigger role in European infrastructure projects more attractive – a crucial part of supporting economic growth across the continent.

However, in order to be eligible for the new reduced capital charges, infrastructure projects must be able to generate stable and predictable cash flows that exhibit stress resilience under certain market conditions.  The investments can be in the form of equities, bonds or loans and the project’s contractual framework should be designed so that investor protection is guaranteed.

Interestingly, concerned parties would also like to see capital charges being reduced for investments in the debt and equity of “infrastructure corporates”.  These are firms, other than the special purpose project vehicles, which engage in a variety of activities; typically, an infrastructure investment is transferred into a corporate structure once the construction phase has concluded.  Yet, this is an area in which developing risk calibration will be far more complex than for those entities limiting themselves to an infrastructure project.

Following the application of Solvency II from 1 January 2016, the Commission will, in collaboration with EIOPA, monitor the implementation of the framework to improve it where necessary.  Ultimately, improvements, such as those for capital charges of “infrastructure corporates”, might be considered in the review of the Solvency II standard formula, which is due to happen by 2018.

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