Long Rates, Life Insurers, and Credit Spreads

Abstract

This paper examines how the duration mismatch of life insurance companies, the largest institutional investors in the US corporate bond market, affects credit spread dynamics. Post-GFC, US life insurers face large and negative duration gaps. When long-term interest rates increase, life insurers realize equity gains, which boost their risk-bearing capacity and compress credit spreads. Empirically, post-2008, corporate bond credit spreads decline when long rates rise, which holds both unconditionally and around monetary policy announcements. In the cross-section, I utilize a regression discontinuity design to confirm that this negative co-movement is more pronounced for bonds held more by life insurers.

Keywords: Credit Spreads, Long-term Interest Rate, Life Insurance Companies, Duration Mismatch, Monetary Policy

JEL Classification: G11, G12, G22, E44, E52