Bottom fishing: A strategy for now 

Issue 5, October 2022 | PCS Vision

How do you optimize the value of an asset while limiting liquidity expenditure? The two seemingly contradictory outcomes can be achieved if we fully utilize the flexibility in life insurance products while heeding some historical lessons from before the Global Financial Crisis (GFC). How? PCS by Mercer Chief Product Officer, Patrick Jiang* explains.

Looming multi-jurisdictional recessionsi, extreme weather and geopolitical events, and the continuing unpredictable effects of the COVID-19 pandemic, including global excess mortalityii, are all contributing to a sense of unease.

As protection experts, we are observing two distinct themes during these times:  

1. A heightened awareness of the need for protection – both as a hedge against the unforeseen, and, as a stable asset class. In fact, protection impetus is arguably at an all-time high.
2. In uncertain environments, liquidity is king.

Yet, there seems to be a tension between the two – how do you procure significant protection without tying up liquidity? Reinforcing that tension are the interest rate hikes by central banks around the world, further elevating the value of cash.

Whilst doing nothing can be a tempting holding pattern for individuals during periods of uncertainty, it’s actually time to act – providing your actions are right for the conditions. As advisors, we are committed to helping our clients procure the most protection while minimizing cash outlay. And one of the most effective ways to do so is Bottom Fishing.

Bottom Fishing is a strategy of investing in assets that have experienced a decline and are considered undervalued. In short, it’s the concept of buying low and selling high.

In the context of insurance, we are able to capture the concept and similar benefits (i.e. value) with a new wave of index-linked solutions. The solutions cover both protection and saving needs. These products’ underlying growth in value are linked to benchmark indices with full transparency, such as the S&P 500 Index. They encompass downside protection mechanism, ensuring principal protection, while retaining the ability to capture market upside.

Let’s take Universal Life Insurance as an example. It is a highly flexible product that can be incepted without huge commitments on future cash flows. Clients can choose a number of ways and timelines to fund the insurance premiums, and thereby retaining full control over liquidity.

Protection is enhanced in several ways:

• If a client chooses a product that is international index-linked, the risk can be further-spread across jurisdictions.
• Indexed-linked Universal Life insurance can include features that allow the policy holder to capture some upsides without loss risk as a “zero” floor can be set by the insurer.**
• An index-linked savings plan can further strengthen the Bottom Fishing exercise by investing in the reference index (ices), with the goal of providing mid to long term liquidity supplement.

**Upside ceiling limitations are also set by the insurer.

Whilst not entirely comparable, the current economic conditions, particularly the rapidly rising interest rates, are quite similar to what we experienced pre-GFC. Clients were able to obtain the right protection then. So, we can look to the pre-2008 playbook, which have some invaluable lessons.

1. Secure your principal to avoid catastrophic losses in a market downturn.
2. Spend your available liquidity wisely: With regards to insurance, this means attaining as much risk coverage as possible with minimal initial cash outlay. We can achieve this  by setting up multi-pay funding schedule with Universal Life-type solutions, as opposed to single premium financing strategy popularized in the low interest rate environment post-2008.
3. Wherever possible, build in flexibility when preserving liquidity. An overfunded Universal Life-type solution is a strong strategy for legacy planning. Over-funding builds future liquidity buffer for any unexpected cash flow needs in later years. The strategy also provides living benefits.

• The protection solutions that have been appropriate and beneficial in the past few years might no longer be suitable. Therefore, clients are advised to review their protection strategy to reflect present market conditions. This is especially the case if the client has not had regular reviews.
• Even as more jurisdictions relax travel restrictions, we understand some people are choosing not to travel. To enable choice, PCS by Mercer have the capabilities of facilitating access, review, and inception of a broad range of solutions via our digital and remote processes. Clients can find appropriate solutions from anywhere in the world^.
• In relation to increasing global mobility, in many jurisdictions, life insurance is classified differently to traditional capital assets, and therefore subject to different tax and legal considerations†.
• Irrespective of economic conditions, when used with traditional wealth structures such as trusts - life insurance and savings plans remain key legacy planning tools and can safeguard estates while providing liquidity when you need it most.

In the context of life insurance, Bottom Fishing is one strategy to conserve cash right now while creating dependable conditions to realize value in the medium term (i.e., 10-15 year onwards). That is not to say what individuals do today is a “set and forget”. If nothing else, what we have learnt is that adaptability and agility are key to thriving in any condition. So, it’s vital to re-evaluate market conditions on a regular basis and protection plans accordingly.

The market will cycle, the fish will gather elsewhere, and each individual client’s circumstances will change. When they do, we’ll be there to help them adjust their strategy.

ⁱ https://www.imf.org/en/Publications/WEO
ⁱⁱ https://www.who.int/data/stories/global-excess-deaths-associated-with-covid-19-january-2020-december-2021
^{^} Subject to the relevant legal and regulatory requirements of respective jurisdictions
^†This article is general in nature and not intended as tax and legal advice to individuals. Readers are advised to seek specialist tax and legal advice before making decisions.