Solvency II reforms offer limited support for bank bonds, but securitisation gains some ground
The desk highlights that the impending amendments to the Solvency II framework, effective January 30, 2027, are unlikely to bolster bank bond demand while benefiting securitisation through reduced capital charges. Per the full note from ING, the reforms aim to release capital and foster long-term investments by insurers, yet many banks will see minimal changes in spread-risk capital treatment. With major insurers having decreased bond holdings over the past decade amid equity market growth, there is skepticism regarding a shift back to bonds, particularly as these amendments favor equity allocations.
What the desk is arguing
The desk frames this as a crucial moment for the European banking sector, as insurance companies remain hesitant to increase their investment in bank bonds despite regulatory changes. The Solvency II reforms are focused on capital release, yet they do not substantially reverse the trend of insurers moving away from fixed income towards equities.
The data indicates that since 2022, higher yields have led to a paradigm shift—the emphasis has been on shorter maturity bonds, which traditionally do not align with the investment strategies of insurers. This underscores the view that the modifications to Solvency II might primarily support securitisation products instead of traditional bank bonds, which still face tough capital treatment.
Where it sits in our coverage
Our consensus target for the EUR/USD stands at 1.075, with a range between 1.04 and 1.12. Specific firm targets within this consensus include: - jpmorgan: 1.10 (Mar26) - bofa: 1.04 (Mar26)
This outlook reflects a divergence where our consensus sits more optimistically compared to bofa, which is positioned at the lower end of this spectrum. Thus, the desk's assessment leans towards a moderate bullish sentiment on the EUR versus the dollar influenced by the broader regulatory themes at play.
How other firms see it
Firms like jpmorgan and citi are aligned with a positive outlook on certain securitisation products under the new regime, while bofa maintains a more cautious stance. This indicates a broader expectation in the market that while certain categories of bank-related investments may see increased activity, the overall appetite for bank bonds remains constrained.
With both liquidity enhancements and shifts in investment patterns, watch trends in corporate bond issuance as potential crossover impacts arise in the FX space, particularly the EUR/USD trajectory reflecting changes in bank funding conditions.
01Solvency II amendments unlikely to materially increase demand for bank bonds.
02Securitisation products poised to benefit from lower capital charges.
03Insurance companies are expected to continue favoring equity investments over bonds.
04Covered bonds may see modest benefits from new liquidity-buffer rules.
Market implications
Traders should monitor EUR/USD movements, particularly around the upcoming data releases, which could reflect adjustments in bank funding strategies due to the regulatory changes. Watch for issuances in the corporate bond space that may signal shifts in demand.
Risks to this view
The call could be invalidated if there is a significant pivot in insurance company asset allocation strategies towards increased bond holdings or if unexpected market disruptions lead to a flight to quality within fixed-income assets.
Articles Solvency II reforms offer limited support for bank bonds, but securitisation gains some ground Published 11:50 Financial Institutions Share X LinkedIn E-mail Copy link Share X LinkedIn E-mail Copy link Download The Solvency II amendments are unlikely to result in a material increase in demand for bank bonds. Securitisations benefit most directly through lower capital charges, while covered bonds could benefit modestly from the new liquidity-buffer rules Maureen Schuller On 30 January 2027, the amendments to the Solvency II regime will apply, making these revisions one of the important regulatory themes for 2027. One of the key objectives of the Solvency II reforms is to release capital and promote long-term investments by European insurance companies in support of the ambitions of Europe’s Savings and Investments Union (SIU).
Such capital release could also increase the capacity of insurance companies to invest more in corporate and bank bonds. During the past decade, insurance companies have reduced their bond holdings in favour of equity. Rather than an active reallocation of assets, this partially reflects second-round effects related to the strong equity market growth and the rise in bond yields and corresponding decline in bond valuations against the backdrop of the ECB rate hikes in 2022 and 2023.
Higher yields have also coincided in recent years with a stronger focus by banks on issuance in shorter maturities, rather than the longer maturities traditionally favoured by insurance companies. This has been particularly noteworthy for covered bonds. Insurance companies increase equity versus debt exposures €bn Source: EIOPA, ING "> Source: EIOPA, ING We don’t expect the Solvency II revisions to reverse this trend, particularly as the amendments promote long-term equity investments.
Instead, for most bank bonds, the spread-risk capital treatment remains broadly unchanged. Unsecured and subordinated bank bonds continue to be treated as corporate bonds with capital charges determined by their ratings and duration, while qualifying covered bonds keep their preferential treatment. The impact of the Solvency II revisions therefore arises mainly indirectly through lower overall capital requirements, while securitisations are the only debt instruments benefiting directly through a more favourable capital treatment.
Nonetheless, certain reforms are worth highlighting for their potential impact on insurance demand for different bank bonds. Among these, the amendments relating to long-term equity investments, securitisations and the volatility adjustment are particularly noteworthy. Long-term equity investments and non-life liquidity buffers Under Solvency II, insurance companies can classify part of their equity holdings as long-term equity investments (LTEI) , benefiting from a lower 22% capital charge.
To qualify, these investments must be held for at least five years, be listed in the EEA or OECD, meet diversification standards and be managed under a long-term investment policy. The insurer must also be able to avoid forced sales for five years, even under stressed conditions. The Solvency II amended Delegated Regulation introduces two approaches to demonstrate that forced equity sales can be avoided. 1) The insurer must either have sufficient illiquid homogeneous life insurance liabilities with a duration of more than 9.5 years or a liquidity buffer exceeding 100% for non-life insurance obligations. 2) The insurer can also apply a forced-selling test to prove that it can generate cash inflows that are consistently higher than the cash outflows over five years, including under stress.
The liquidity buffer requirements for non-life insurance activities are similar to the Liquidity Coverage Ratio (LCR) requirements for banks. The portfolio of liquid assets can comprise Level 1, Level 2A and Level 2B assets, with the total value of Level 2A and Level 2B assets capped at 40% and the value of the Level 2B assets at 15%. Qualifying Level 1 assets , subject to a 0% haircut, are cash, exposures to the ECB, multilateral development banks and international organisations, and domestic currency exposures to EEA central governments and central banks.
Qualifying Level 2A assets , subject to a 15% haircut, are bonds and loans rated AA- or better that are not issued by an insurance company or bank, and covered bonds rated AA- or better as referred to in Article 3(1) of the European Covered Bond Directive (CBD) (ie ‘European Covered Bonds’). Qualifying Level 2B assets , subject to a 25% haircut, are Simple, Transparent and Standardised (STS) securitisations (not originated by group entities) rated AA- or better or that constitute a senior tranche; or subject to a 50% haircut, bonds and loans rated A+ to BBB- that are not issued by an insurance company or bank, and equity investments listed in the EEA or OECD, or traded on multilateral trading facilities, that are not long-term or strategic equity investments and are not investments in an insurance company or bank. While unsecured bank bonds are excluded as eligible liquid assets, the LTEI-related liquidity buffer approach could generate some additional demand for covered bonds or STS securitisations of banks.
However, we don’t expect this effect to be significant given the relatively small share of non-life insurance obligations and insurers’ sizeable existing portfolios of other liquid assets, such as government bonds. Insurers have limited investments in covered bonds or collateralised securities Source: EIOPA, ING "> Source: EIOPA, ING The LTEI liquidity approach is separate from the generic liquidity and concentration risk management requirements under Solvency II, as well as from the obligation under the amended Solvency II Directive to provide for a liquidity risk management plan. Lower capital requirements for securitisations The amended Solvency II Delegated Regulation lowers the capital requirements for securitisation notes.
This should encourage insurers to invest more in these transactions, helping banks to transfer risk and expand lending. The risk factors (a i and b i ) for the spread risk of senior tranches of STS securitisations will become fully aligned with the treatment of similarly rated covered bonds as referred to in CBD Article 3(1). The risk factors for non-senior STS securitisations are reduced to a similar extent, with the new capital charges for AAA-rated non-senior notes at c.70% of the current capital charge, and for AA-rated non-senior notes at 75% of the current requirement.
The difference in the capital treatment between STS and non-STS securitisations is currently far more significant for insurers than for banks. This difference will be reduced substantially, while the capital charge remains capped at 100%. The current Solvency II regime makes no distinction between senior and non-senior non-STS securitisation notes, exaggerating the spread risk of senior compared with non-senior tranches.
Hence, lower risk factors are introduced for senior non-STS compared to non-senior non-STS transactions. As a result of these amendments, the difference in capital requirements between CBD-compliant covered bonds and senior STS securitisations will disappear from the end of January, while in the highest rating buckets (AAA and AA) securitisations will be treated better than unsecured bonds or third-country covered bonds. Further down the rating scale, STS securitisations will be treated closer to that of unsecured bonds from a capital perspective, where corporate and bank unsecured bonds will still benefit from a more favourable capital charge than similarly rated senior STS securitisations.
Securitisation alternatives will become more competitive from a capital perspective Source: European Commission, ING "> Source: European Commission, ING European insurance companies currently hold only about €37bn in collateralised debt, such as asset-backed securities (ABS) and residential mortgage-backed securities (RMBS). This is only 12% of what they hold in covered bonds and 3% of their corporate debt portfolio. The Solvency II amendments may motivate insurance companies to diversify their debt portfolios a bit further away from covered bonds and other bank bond products towards securitisations.
However, the impact is not expected to be substantial given that the weighted average lives of securitisation notes may not always be well suited to the longer-term investment needs of insurance companies. Volatility adjustment to align spread sensitivities more closely Insurance companies calculate the best estimate of their liabilities by discounting the expected future liability cash flows using the relevant risk-free interest rate term structure. To mitigate the balance sheet impact of bond spread volatility (ie, on the asset side of their balance sheet), insurance companies can discount their liabilities at the risk-free rate plus a volatility adjustment (VA).
The volatility adjustment increases the discount rate Spot rate, % Source: EIOPA, ING "> Source: EIOPA, ING For each relevant currency (or national market in the case of the euro area), the volatility adjustment represents 65% of the spread (S) between the interest rate on the reference portfolio and the relevant risk-free interest rate, adjusted for a risk correction (RC). The latter correction factor removes the part of the spread that is attributable to expected losses or unexpected credit or other risks to the assets. The volatility adjustment is only added to the applicable risk-free interest rates that are not derived from extrapolation.
For each relevant country, a country-specific adjustment may also be added to the volatility adjustment before the application of the 65% factor if a) the risk-corrected country spread is more than twice the risk-corrected currency spread, and b) the risk-corrected country spread is more than 85bp. The country component in the volatility adjustment helps mitigate excessive widening in specific countries. Under the current regime, the representative currency and country portfolios are constructed as uniform portfolios, even though insurers’ actual fixed-income portfolios may differ substantially.
Some insurers can therefore benefit excessively from the volatility adjustment if the resulting reduction in the best estimate of their liabilities exceeds the decline in the value of the relevant assets when credit spreads widen. For this reason, the Solvency II revisions change the calculation of the volatility adjustment by a) making the applicable risk corrections (RC) more spread-sensitive, and b) introducing a credit spread sensitivity ratio (CSSR) to better align the volatility adjustment with the insurer’s asset-liability profile. The latter ratio reflects the price value of a basis point of the insurer’s bond, securitisation and loan investments versus the price value of a basis point of the best estimate of liabilities, with a minimum of 0 and a maximum of 1.
Moreover, subject to approval by the supervisory authority, an undertaking-specific adjustment (USA) of up to 105% may be applied to align the risk-corrected spread on the reference portfolio more closely with that of the insurer’s own portfolio. This must not lead to an increase in the applied risk-adjusted spread for more than two consecutive quarters. Moreover, when the USA is used, the insurer cannot also increase the volatility adjustment through a macro volatility adjustment.
The macro volatility adjustment replaces the existing country-specific adjustment and can be added to the euro volatility adjustment when the relevant conditions are met. It aims to mitigate the impact of excessive spread widening in individual euro area countries and is based on the difference between the risk-corrected euro spread and the risk-corrected spread for the relevant country. Volatility adjustment calculations Subscripts cu = currency, co = country, ma = macro; VA = volatility adjustment, S = spread of the reference portfolio, RC = risk correction, RCS = risk-corrected spread of the reference portfolio, CSSR = credit spread sensitivity ratio, USA = undertaking-specific adjustment.
Source: European Commission, ING "> Subscripts cu = currency, co = country, ma = macro; VA = volatility adjustment, S = spread of the reference portfolio, RC = risk correction, RCS = risk-corrected spread of the reference portfolio, CSSR = credit spread sensitivity ratio, USA = undertaking-specific adjustment. Source: European Commission, ING The introduction of additional minimum conditions, such as supervisory approval and the availability of adequate processes to calculate the volatility adjustment, has also facilitated the upward revision of the general application ratio (GAR) from 65% to 85%. Primarily through the introduction of the credit spread sensitivity ratio (CSSR), the volatility adjustment will better reflect the relationship between each insurer’s asset and liability sensitivity to changes in the volatility adjustment.
The revision may provide modest support for bonds that increase the asset portfolio’s spread sensitivity, as a higher CSSR results in a larger volatility adjustment until the ratio reaches its cap of one. The revised calculations should also reduce the possibility for some insurers to benefit disproportionately from the volatility adjustment when their assets are less spread-sensitive than the reference portfolio. Conclusion The Solvency II amendments are unlikely to trigger a material reallocation in favour of bank bonds.
Securitisations are the most obvious beneficiaries of a more favourable capital treatment, while covered bonds and unsecured bank bonds should mainly benefit indirectly from lower overall capital requirements for insurers. We therefore expect the revisions to only support insurer demand for bank bonds at the margin. Solvency II Covered bonds Bank Outlook 2027 Bank bonds Content Disclaimer This publication has been prepared by ING solely for information purposes irrespective of a particular user's means, financial situation or investment objectives.
The information does not constitute investment recommendation, and nor is it investment, legal or tax advice or an offer or solicitation to purchase or sell any financial instrument. Read more Share X LinkedIn E-mail Copy link Share X LinkedIn E-mail Copy link Download Author Maureen Schuller Head of Financials Sector Strategy Maureen Schuller is Head of Financials Sector Strategy. Her research focus is dedicated to covered bonds and ESG related topics impacting banks.
Maureen is a regular speaker at internal and… In this article Long-term equity investments and non-life liquidity buffers Lower capital requirements for securitisations Volatility adjustment to align spread sensitivities more closely Conclusion