Saturday, 25 May 2019
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Private equity: Apollo’s lucrative but controversial bet on insurance

Marlene Albert had $110,000 in her investment account when she left her job at AT&T a decade ago. But what she needed instead, she told her broker, was a monthly cheque for the rest of her life.

“He didn’t charge [for advice], because my mother would bake him fudge,” recalls her daughter, Sherrie Kelly. “She just felt very comfortable with him.” All the same, when Ms Albert decided to put her money into an annuity contract from a British insurer called Aviva, Ms Kelly phoned her son in England to ask what he knew about the company.

A few years later, her policy passed to a new owner — Athene Holding, a controversial and highly acquisitive life insurance company which has shaken up the way the annuity business operates in the US. Americans hand over $200bn a year in annuity premiums, usually opting for an insurer that will invest the money in safe bonds and then keep a modest portion of the investment returns for itself. But in the past decade, a private equity billionaire has elbowed those incumbents aside, devising a way to push a portion of the retirement savings of people such as Ms Albert into complex credit instruments conventional insurers would not dare touch.

The result of this exercise in financial engineering has been Athene, whose hundreds of thousands of policyholders often had no say in the transfer of their retirement savings to the new and untested vehicle. Its unusual relationship with its original backer, the private equity powerhouse Apollo Global Management, risks creating conflicts of interest that some say could sting Athene’s investors and policyholders in the next market downturn, as the relatively easy returns of the last decade start to recede.

Athene CEO James Belardi owns 5 per cent of the company set up to manage Athene’s portfolio © Bloomberg

Yet in its short history it has notched up an impressive financial record. Even its critics concede that from the standpoint of its creators, Athene has been perhaps the greatest investment strategy of the past decade. Apollo has created both a listed $10bn life insurance company as well as a perpetual stream of fees that account for several billion dollars of its own $13bn equity value.

The architect of this trade is Marc Rowan. Nearing 50 when the financial crisis hit, the co-founder of Apollo already stood atop one of the world’s biggest private equity firms. In 2009, fresh from engineering the $30bn take­over of the Las Vegas-based Caesars gaming empire, he helped create Athene as a platform to make a big bet on insurance.

The move into insurance was a departure for Apollo, whose bread and butter had become big leveraged buyouts of whole companies where it would keep 20 per cent of the profits. Such profits could be huge but they occurred erratically and involved the protracted process of flying around the world every few years, hat in hand, asking pension and wealth funds to commit capital. Athene’s assets now amount to $100bn, a figure that eclipses the money housed in Apollo’s own famed buyout funds.

For Apollo, Athene was a way to double dip. Along with its stake in the insurer — for which it put up little cash — Apollo earns hefty fees for managing Athene’s asset base. In 2017 alone, the firm earned more than $400m from its contract to manage Athene’s portfolio, which includes esoteric credit instruments linked to residential mortgages, corporate debt, aircraft leasing and even the deals of private equity rivals.

Yet some insurance experts worry this gusher of fees gives Apollo powerful incentives that may sit uncomfortably with the interests of Athene’s policyholders and investors. Apollo has a 10 per cent stake in Athene, but that obscures its far more extensive influence: Apollo controls 45 per cent of the voting shares at Athene and has even installed one of its own employees as the insurance company’s chief executive.

A Financial Times investigation paints a worrisome picture of the governance arrangements meant to keep this conflict in check. Based on interviews with insiders, competitors, bankers and other industry observers, as well as a review of securities filings, it shows how investors raised concerns Apollo had exploited its position.

Jim Belardi, the insurance veteran who is chief executive of Athene, receives 5 per cent of the private equity firm’s profits from Athene, an agreement that calls into question his oversight of an arrangement critics say is far too costly. Even some Apollo insiders concluded that Athene could save hundreds of millions of dollars a year if it replaced Apollo with an independent asset manager.

“Marc Rowan is a genius but in a twisted way,” says a former senior Athene executive who claims his concerns prompted him to resign. “What was happening at Athene left me cold.”

Apollo said its “broad-ranging partnership with Athene has been, and continues to be, a great success that has helped Athene significantly outperform its peers, benefiting its customers and investors.” The private equity group added: “The claims cited in the Financial Times article, which Apollo strongly denies, are baseless.”

Apollo, founded by three former Drexel Burnham Lambert bankers in 1990, made a fortune in insurance investing in its early years. By 2009, it had decided that insurance was ripe for a new model. “[We have] seen the best returns following chaos,” Mr Rowan told an audience that year at his alma mater, the Wharton School of Business. He signed up a team including insurance veteran Mr Belardi and set about building a different kind of life insurance platform.

Athene’s maiden deal took over a $1.6bn block of annuity liabilities from a struggling insurer called American Equity Investment Life and ploughed the matching assets into securities that the typical portfolio manager had been trained to avoid. A quarter of the total went into securities backed by residential mortgages and other debts, snapped up at deep discounts at a time securitised products were deemed too risky.

While annuity contracts promise customers a return of perhaps 2 or 3 per cent a year, a resourceful credit investor such as Apollo could earn perhaps as much as 4 percentage points on top of that. With every $10 of Athene’s assets funded by only one dollar of equity, returns could reach 15 to 20 per cent, double what the banking sector has offered in the past 10 years.

Athene’s biggest deal by far came in 2013, when it acquired Aviva USA and its $56bn of annuity contracts, along with its market-leading sales team. Athene was no longer a niche operator of legacy assets; its backers, now including sovereign investors from Abu Dhabi and state pensions from Canada, Texas and South Carolina, owned a piece of a growing insurance heavyweight.

Apollo was in line to receive hundreds of millions of dollars a year for running Athene’s book of assets. It decided it could do without the separate, far more modest fee it earned for overseeing Athene on behalf of Apollo’s fund investors. So it struck a deal with the Athene board. In return for cancelling these so-called monitoring fees, it would receive a generous allocation of Athene equity — an exchange that allowed Apollo to amass much of its 10 per cent shareholding in Athene while handing over little of its own cash.

Concerns over Apollo’s fees and influence over Athene have been raised © Alamy