Guernsey: Cell Captives – Size Doesn’t Matter

Last Updated: 19 March 2014
Article by William Dalziel

Most Read Contributor in Guernsey, September 2016

Cell captives have historically not been able to fully capitalise on investment markets because they lack scale. William Dalziel explains how London & Capital's new cell captive investment solution, Cell Portfolios, provides smaller captive clients with the same investment expertise as larger entities.

Captive Review (CR): How has London & Capital's specialist captive investment management division evolved since its inception?

William Dalziel (WD): London & Capital was established in 1986. The company has always focused on capital preservation and risk management in relation to portfolio construction, aspects which are particularly important for the investment needs of captive insurers. Our captive investment management division, established in 2006, now has around $850m in assets under management (AUM), representing roughly one third of the company's total AUM. Over the past seven years this division has become a very important and strategic part of London & Capital's offering. We place significant emphasis on providing high levels of client service, a testament to our wealth management heritage, which differentiates us from competitors.

Many clients have previously avoided the investment market. There was a perception that risk had to be taken on an 'all or nothing' basis which understandably made them uncomfortable. London & Capital controls the risk content of its client portfolios accordingly, ensuring a client isn't exposed to the market's full downside.

CR: The current environment is characterised by low returns. What is London & Capital's market outlook and how should captives navigate this kind of market?

WD: Although our captive clients are concerned about the lower returns on the horizon, it is important for them to remember that investments in high quality bonds (which are common captive investments) have seen assets appreciate significantly as yields have compressed. Interest rates will stay where they are for a little while longer, and in light of that, captives need to think about the real risks their portfolios are running. Highly rated bonds can still hide substantial liquidity problems.

Clients should also be aware of the sub-asset classes they may be exposed to, such as mortgage-backed securities, asset-backed securities and municipal bonds. It's important to have a disciplined methodology for assessing the risks and rewards of each asset (and sub-asset) class. Even in the current market there are investment opportunities to be had – with the right asset mix it's possible to match or outperform inflation, but there's no doubt that bond investments are running with a much higher level of volatility than investors are traditionally used to and clients that don't recognise that are in for some unpleasant surprises. We think that globally diversified bond portfolios can generate good returns, particularly with some equity allocations to provide for risk diversification.

CR: How do active and passive investment strategies compare in the current market context?

WD: Passive investing is being recognised by clients as having value. It has its place in a portfolio, although the current environment does tend to favour active management. Clients need to use the approach that best suits them at any given time, but currently active managers are likely to outperform. Selectivity within asset classes is required to ensure that they add value to a portfolio. A passive strategy has full exposure to an entire asset class, which can present problems when it comes to controlling risk. Passive portfolios really find it difficult to anticipate and react to market changes, such as a decrease in yields. Clients need to understand the nuances between the two investment approaches to take advantage of each of them where appropriate.

CR: What investment options are available for cell captives?

WD: For most cell captives, the only investment option is to adopt a passive strategy, either through exchange-traded, mutual or money market funds or cash deposits, and this has been very limiting. In our view, the needs of cell captives have been ignored, largely because they have been seen as too small to generate a profit for investment managers. Very few managers will deal with portfolios of less than $10m. Few cell captives have assets in excess of that and the vast majority have assets that fall well below the $10m mark. Many cell captives haven't been able to take full advantage of investment markets for this reason. We don't feel that mutual funds can meet the needs of most captives – they can lack transparency and in many instances have hidden costs. We know of some funds that are being offered to cell captives with total expense ratios in excess of 2.5%, which is just not feasible in an environment with such low interest rates. That is why London & Capital established Cell Portfolios, our cell captive investment solution.

CR: Can you tell us more about this solution?

WD: The cell captive investment solution was developed in response to a client request – we were approached by an organisation managing 180 cells and were asked to find a solution to address their investment needs.

Cell Portfolios allow captive cells to invest in a segregated portfolio and benefit from full cost and asset transparency. We, as investment managers, actively adjust the portfolio to ensure it only takes the level of risk that is appropriate for that particular client. Effectively, our solution treats small cells in the same way as large, standalone or group captives.

The establishment of the segregated portfolio follows the same process that we would undertake with any other client such as asset allocation as a risk diversifier, then portfolio construction discipline to mitigate unrewarded risk and finally appropriate stock selection to give clients a good balance between capital preservation, liquidity and reasonable rates of return. With this solution, cell captives also benefit from the management discipline applied to all portfolios. We provide monthly performance reviews and link every investment decision to our prospective macro-economic outlook for each asset class. Cell portfolios provide clients with economies of scale, reducing the aggregate costs of trading and ensuring this is viable for captives of all sizes, but particularly those cells with relatively small portfolios. Our solution is flexible and simple, key requirements for cell captives. Our clients can access and download all the material they need in a full, auditable format at their convenience, ensuring smooth communication between all parties regardless of time zone or geography.

CR: What do the next 12 months hold for the cell captive industry?

WD: We see the future for cell captives as being extremely strong – this is one of the key growth drivers in the overall captive market. We expect to see the formation of a greater number of cell captives where traditionally standalone captives have been used, simply because the regulatory burdens being placed on captives are increasing. We are the first investment manager to offer such a targeted approach to the investment needs of cell captives, but we would welcome the entry of additional managers to this space, to ensure that the diverse needs of clients are met.

An original version of this article was published in Captive Review's Guernsey Report 2014.

For more information about Guernsey's finance industry please visit

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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