Luxembourg: The "Cost" Of Performance: Alternative Asset Funds Under Solvency II

Last Updated: 12 December 2018
Article by Gianluca Frena

The increasing appetite for alternative investment products by institutional investors is dramatically changing the asset management industry. Opportunities are on the rise, as are competition and new regulatory challenges.

In this context, asset managers in the alternatives space are asking themselves how much they "cost" in solvency capital requirement terms, and how they can make their products more appealing to potential investors under Solvency II.

What should alternative asset managers know about Solvency II?

By now, three years after the regulation went live, it is common knowledge that Solvency II requires (re)insurance companies to set aside capital for each of their investment funds, and that the capital "cost" depends on the riskiness of the target asset class. Nevertheless, there's no common wisdom yet regarding which quantitative and qualitative factors are important, or which levers must be pulled to optimise the solvency capital requirements' profile of an investment strategy—especially when alternative assets are at stake.

This lack of knowledge often translates into low self-awareness, sub-optimal allocation, poor due diligence practices, and, ultimately, potentially missed opportunities for alternative asset managers. Arguably, AIFs identical in assets, fees, and compensation can have massive differences (by margins of 100% or even higher) in their "capital-adjusted" return profiles when specific Solvency II elements are considered.

Solvency II positioning of alternative investment funds

The solvency capital requirement (SCR) profile is critical for asset managers in marketing their products to (re)insurance companies and in standing out from their competitors.

In cases where no look-through1 is performed, investment funds may demand a solvency capital requirement of nearly 49%.2 This means that, speaking generally, for every euro invested in the fund, the investor must set aside almost half the amount of capital in reserves. This penalising approach stems from the aim of the regulator to discourage institutional investors from getting into products which they cannot properly understand and monitor.

On the other hand, when the look-through is performed, the capital requirement is driven by the risks underneath the specific asset allocation and by the investment fund's strategy. The classification of the asset, under Solvency II's risk dimension, is therefore crucial for the estimation of expected SCR. Under the "standard approach", and leaving aside some debatable exceptions (e.g. "unleveraged AIFs", private loans, or equity), the SCR is proportional to the riskiness of the asset class, as estimated by the regulator when the technical specifications document is transcribed.

Counterintuitively, all of these prescriptions may lead to situations where products with attractive risk return profiles on paper are still avoided by insurance companies, who perceive high risks and therefore capital burdens under Solvency II. This can be mitigated (or even turned into an opportunity) with more sophisticated stances on product-structuring (asset selection), investment strategy, and disclosure practices.

The nuts and bolts of optimising your capital requirements

Unbeknownst to many, the calculation of a fund's SCR doesn't depend wholly on a mathematical formula or stress model. Indeed, there are several not-purely-quantitative factors to take into account.

Among the manifold possibilities of limiting a performance drag from capital requirement, the most overlooked is probably the exchange of investment-level information in order to perform the look-through. Many asset managers may be unwilling to share this information, hoping to protect their know-how and deal access, but the (likely) significantly higher capital adjusted returns may be a strong argument for doing so.

Asset class allocation naturally defines a portfolio's first-level approximation of the SCR level; from that point, asset managers can set specific strategies to lower the expected capital costs, including hedging, collateralisation, and other risk management and due diligence practices.

Furthermore, asset categorisation and qualification under specific regulatory requirements (e.g. infrastructure assets) can be pursued to achieve substantial diminishment, ceteris paribus, of the expected SCR cost.

Notably, these strategies should be rolled out under Solvency II and are therefore subject to very detailed applicability conditions and requirements. Ultimately, this encourages asset managers to intensify their disclosures so as to help their investors, personnel, and even regulators acknowledge their strategies.

Challenges and opportunities for alternative asset managers

Beyond the usual difficulties of collecting structured investment information on alternative assets, other factors also pose challenges for AIMs under Solvency II.

The heterogeneity of alternative assets and the related valuations and reporting framework represents a remarkable informational barrier. Standard reporting solutions (like the Tripartite Template) can mitigate this barrier, but are often insufficient in collecting all the information needed.

Furthermore, different (re)insurance companies may have substantially different expectations and methodologies for handling Solvency II data. For example, some methodologies don't depend solely on whether a standard or an internal model is being used.

The lack of specialised knowledge on regulatory topics (among asset managers) and alternative investments (among insurers) may hinder mutual understandings, in turn stopping (re)insurance companies from exploring more sophisticated alternative asset products.

The key takeaway is that the capability of asset managers to collect, process, and exchange specific investment information is a fundamental element in getting their investment strategies recognised under Solvency II—which ultimately is what can help them establish a mutually beneficial relationship with investors.

A New Year's resolution: get your Solvency II practices in shape!

New regulatory updates, some of which could relieve the capital requirements on alternative assets, are on the horizon. In the meantime, there is much to do for asset managers keen on reassessing their product strategies, especially for those whose natural audience includes institutional investors concerned by Solvency II.

While the deal-driven nature of the alternative investment industry is unlikely to be severely swayed by these policy considerations, other factors such as compensations, fees, and regulatory capital costs are growing in importance, becoming terms of comparison in the investment selection process of institutional investors. As national regulators continue to advocate transparency and risk management improvements, alternative asset managers must realise that future competition will not solely come from within the industry, but also from traditional asset classes.

Accordingly, an attentive stance over regulatory and reporting topics will certainly be a distinguishing trait of the alternative asset managers better positioned to ride the momentum of the alternative investment industry.


1 The look-through practice is that of exchanging exhaustive asset-level information within collective investment undertakings, allowing (re)insurance undertakings to determine their own solvency capital requirement.

2 +/- symmetrical adjustment charge and not acknowledging other potential provisions for target allocation method or "unleveraged" AIFs.

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.

To print this article, all you need is to be registered on

Click to Login as an existing user or Register so you can print this article.

Similar Articles
Relevancy Powered by MondaqAI
Some comments from our readers…
“The articles are extremely timely and highly applicable”
“I often find critical information not available elsewhere”
“As in-house counsel, Mondaq’s service is of great value”

Related Topics
Similar Articles
Relevancy Powered by MondaqAI
Related Articles
Related Video
Up-coming Events Search
Font Size:
Mondaq on Twitter
Register for Access and our Free Biweekly Alert for
This service is completely free. Access 250,000 archived articles from 100+ countries and get a personalised email twice a week covering developments (and yes, our lawyers like to think you’ve read our Disclaimer).
Email Address
Company Name
Confirm Password
Mondaq Topics -- Select your Interests
 Law Performance
 Law Practice
 Media & IT
 Real Estate
 Wealth Mgt
Asia Pacific
European Union
Latin America
Middle East
United States
Worldwide Updates
Registration (you must scroll down to set your data preferences)

Mondaq Ltd requires you to register and provide information that personally identifies you, including your content preferences, for three primary purposes (full details of Mondaq’s use of your personal data can be found in our Privacy and Cookies Notice):

  • To allow you to personalize the Mondaq websites you are visiting to show content ("Content") relevant to your interests.
  • To enable features such as password reminder, news alerts, email a colleague, and linking from Mondaq (and its affiliate sites) to your website.
  • To produce demographic feedback for our content providers ("Contributors") who contribute Content for free for your use.

Mondaq hopes that our registered users will support us in maintaining our free to view business model by consenting to our use of your personal data as described below.

Mondaq has a "free to view" business model. Our services are paid for by Contributors in exchange for Mondaq providing them with access to information about who accesses their content. Once personal data is transferred to our Contributors they become a data controller of this personal data. They use it to measure the response that their articles are receiving, as a form of market research. They may also use it to provide Mondaq users with information about their products and services.

Details of each Contributor to which your personal data will be transferred is clearly stated within the Content that you access. For full details of how this Contributor will use your personal data, you should review the Contributor’s own Privacy Notice.

Please indicate your preference below:

Yes, I am happy to support Mondaq in maintaining its free to view business model by agreeing to allow Mondaq to share my personal data with Contributors whose Content I access
No, I do not want Mondaq to share my personal data with Contributors

Also please let us know whether you are happy to receive communications promoting products and services offered by Mondaq:

Yes, I am happy to received promotional communications from Mondaq
No, please do not send me promotional communications from Mondaq
Terms & Conditions (the Website) is owned and managed by Mondaq Ltd (Mondaq). Mondaq grants you a non-exclusive, revocable licence to access the Website and associated services, such as the Mondaq News Alerts (Services), subject to and in consideration of your compliance with the following terms and conditions of use (Terms). Your use of the Website and/or Services constitutes your agreement to the Terms. Mondaq may terminate your use of the Website and Services if you are in breach of these Terms or if Mondaq decides to terminate the licence granted hereunder for any reason whatsoever.

Use of

To Use you must be: eighteen (18) years old or over; legally capable of entering into binding contracts; and not in any way prohibited by the applicable law to enter into these Terms in the jurisdiction which you are currently located.

You may use the Website as an unregistered user, however, you are required to register as a user if you wish to read the full text of the Content or to receive the Services.

You may not modify, publish, transmit, transfer or sell, reproduce, create derivative works from, distribute, perform, link, display, or in any way exploit any of the Content, in whole or in part, except as expressly permitted in these Terms or with the prior written consent of Mondaq. You may not use electronic or other means to extract details or information from the Content. Nor shall you extract information about users or Contributors in order to offer them any services or products.

In your use of the Website and/or Services you shall: comply with all applicable laws, regulations, directives and legislations which apply to your Use of the Website and/or Services in whatever country you are physically located including without limitation any and all consumer law, export control laws and regulations; provide to us true, correct and accurate information and promptly inform us in the event that any information that you have provided to us changes or becomes inaccurate; notify Mondaq immediately of any circumstances where you have reason to believe that any Intellectual Property Rights or any other rights of any third party may have been infringed; co-operate with reasonable security or other checks or requests for information made by Mondaq from time to time; and at all times be fully liable for the breach of any of these Terms by a third party using your login details to access the Website and/or Services

however, you shall not: do anything likely to impair, interfere with or damage or cause harm or distress to any persons, or the network; do anything that will infringe any Intellectual Property Rights or other rights of Mondaq or any third party; or use the Website, Services and/or Content otherwise than in accordance with these Terms; use any trade marks or service marks of Mondaq or the Contributors, or do anything which may be seen to take unfair advantage of the reputation and goodwill of Mondaq or the Contributors, or the Website, Services and/or Content.

Mondaq reserves the right, in its sole discretion, to take any action that it deems necessary and appropriate in the event it considers that there is a breach or threatened breach of the Terms.

Mondaq’s Rights and Obligations

Unless otherwise expressly set out to the contrary, nothing in these Terms shall serve to transfer from Mondaq to you, any Intellectual Property Rights owned by and/or licensed to Mondaq and all rights, title and interest in and to such Intellectual Property Rights will remain exclusively with Mondaq and/or its licensors.

Mondaq shall use its reasonable endeavours to make the Website and Services available to you at all times, but we cannot guarantee an uninterrupted and fault free service.

Mondaq reserves the right to make changes to the services and/or the Website or part thereof, from time to time, and we may add, remove, modify and/or vary any elements of features and functionalities of the Website or the services.

Mondaq also reserves the right from time to time to monitor your Use of the Website and/or services.


The Content is general information only. It is not intended to constitute legal advice or seek to be the complete and comprehensive statement of the law, nor is it intended to address your specific requirements or provide advice on which reliance should be placed. Mondaq and/or its Contributors and other suppliers make no representations about the suitability of the information contained in the Content for any purpose. All Content provided "as is" without warranty of any kind. Mondaq and/or its Contributors and other suppliers hereby exclude and disclaim all representations, warranties or guarantees with regard to the Content, including all implied warranties and conditions of merchantability, fitness for a particular purpose, title and non-infringement. To the maximum extent permitted by law, Mondaq expressly excludes all representations, warranties, obligations, and liabilities arising out of or in connection with all Content. In no event shall Mondaq and/or its respective suppliers be liable for any special, indirect or consequential damages or any damages whatsoever resulting from loss of use, data or profits, whether in an action of contract, negligence or other tortious action, arising out of or in connection with the use of the Content or performance of Mondaq’s Services.


Mondaq may alter or amend these Terms by amending them on the Website. By continuing to Use the Services and/or the Website after such amendment, you will be deemed to have accepted any amendment to these Terms.

These Terms shall be governed by and construed in accordance with the laws of England and Wales and you irrevocably submit to the exclusive jurisdiction of the courts of England and Wales to settle any dispute which may arise out of or in connection with these Terms. If you live outside the United Kingdom, English law shall apply only to the extent that English law shall not deprive you of any legal protection accorded in accordance with the law of the place where you are habitually resident ("Local Law"). In the event English law deprives you of any legal protection which is accorded to you under Local Law, then these terms shall be governed by Local Law and any dispute or claim arising out of or in connection with these Terms shall be subject to the non-exclusive jurisdiction of the courts where you are habitually resident.

You may print and keep a copy of these Terms, which form the entire agreement between you and Mondaq and supersede any other communications or advertising in respect of the Service and/or the Website.

No delay in exercising or non-exercise by you and/or Mondaq of any of its rights under or in connection with these Terms shall operate as a waiver or release of each of your or Mondaq’s right. Rather, any such waiver or release must be specifically granted in writing signed by the party granting it.

If any part of these Terms is held unenforceable, that part shall be enforced to the maximum extent permissible so as to give effect to the intent of the parties, and the Terms shall continue in full force and effect.

Mondaq shall not incur any liability to you on account of any loss or damage resulting from any delay or failure to perform all or any part of these Terms if such delay or failure is caused, in whole or in part, by events, occurrences, or causes beyond the control of Mondaq. Such events, occurrences or causes will include, without limitation, acts of God, strikes, lockouts, server and network failure, riots, acts of war, earthquakes, fire and explosions.

By clicking Register you state you have read and agree to our Terms and Conditions