Life Settlements July 2016

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3 3 Table of Contents 04 Introduction 04 Investment Rationale 04 What does the asset class offer? 04 Return Profile 04 Market Opportunity, Dynamics & Origination 05 Secondary / Tertiary Markets 05 Key Themes & Drivers 05 Portfolio Sizes 06 Key Risks 06 Life Settlement Fund Manager Universe 07 Key Takeaways

4 4 Introduction A secondary / tertiary market for life insurance contracts A life settlement is the sale of a life insurance policy by the owner to a third party investor for: > more than the cash surrender value offered by the insurance company > but less than the face value The purchaser becomes the new owner and beneficiary of the life insurance policy, gaining exposure to longevity risk and is responsible for the payment of premiums until maturity (i.e. death of the underlying insured). Premium payments typically equate to c.3-5% of the death benefit per year. Vertically Integrated Life Settlement Fund Policy Owner (Insured) Insurance Broker Broker Life Expectancy Provider Institutional Investor Life Settlement Fund Investment Rationale What does the asset class offer? > Like the wider insurance-linked asset class, life settlements are a valuable diversifier to a portfolio providing access to alternative risk premia and return streams uncorrelated to capital markets (with performance being life contingent). > Attractive returns, particularly in the current interest rate and financial markets environment (generally ranging from c.10-18% depending on the underlying quality of the policy and the buyer s cost of capital) > High credit quality (regardless of the rating of the underlying insurance company given their super-senior ranking on the balance sheet). Return profile A life settlement can be thought of as a negative coupon bond; an initial cash payment to purchase the policy, followed by a series of premium payments until maturity (i.e. the insured s death) at which point a lump sum is received. Market Opportunity, Dynamics & Origination The life settlements market was previously dominated by Wall Street firms that packaged policies into investments. Following the global financial crisis there was an industry reevaluation of life expectancy estimates and leverage structures; buy-side investors and

5 5 pension schemes started to enter the market after 2009 to take advantage of distressed policies at discounted prices (though some investors did experience issues because of changing life expectancy assumptions from market underwriters). The US boasts the most developed secondary market for life insurance policies both by way of size of the market but also types of polices (whole / universal a form of permanent life insurance making up the bulk of US market). Of the $11 trillion of life insurance in force on individuals in the US, approximately 15% are aged 65 or over. It is estimated that the potential for life settlements in the US is c. $160 billion in terms of face value, with approximately $57 billion of life insurance lapsed or surrendered each year. The face amount for the life settlements market in 2015 was c. $2 billion, with number of transactions reportedly growing by 35% year on year. Notably, the total face amount stayed relatively consistent i.e. an increased number of transactions at a lower average face amount, most relevant for the secondary market. In the tertiary market, banks and insurers continue to shed non-core assets which accounts for a large supply of tertiary trades that have or are expected to enter the market. Secondary / tertiary markets A significant amount of capital came in to the distressed market starting in 2010 which has since leveled off. The amount of capital committed to buying assets in the tertiary market far exceeds the amount committed to the secondary market (which we believe leads to an attractive opportunity for the secondary market and also less crowded areas of the tertiary market). Within current market conditions, life settlements funds seeking to deploy $75 million a year in secondary market appears reasonable given the current volumes (with generally less overcrowding in secondary markets or for smaller portfolios). It is certainly worth noting the growing interest in the tertiary market with a marked increase in the number of opportunities in the $25-50 million range. Portfolios that had previously been less interesting or inaccessible are now attracting attention; whereas past tertiary markets consisted of assets where quality was somewhat compromised, this is not true today, though it is arguably perhaps a little overcrowded with slightly more aggressive purchasing for bigger portfolios. Key themes and drivers of secondary / tertiary markets > Regulatory issues: most recently, banks and insurance companies have been looking to shed non-core assets contributing to a growing opportunity set. > Fund life: funds started in that are coming up to their twelve year expiration period are looking to sell the portfolio (or a slice). > Issues around the structure, inaccurate underwriting, or the liquidity (poorly managed liquidity in distressed markets leading to forced sales). The origination process has evolved over time with life settlements providers increasingly internalising the process, going to policy owners or financial advisors and bypassing brokers. This not only lowers the cost of the origination process but also allows for greater control over how policies are sourced. Portfolio sizes Portfolios ranging from $ million can typically comprise anywhere between 100 and 150 policies depending on how the portfolio is built. In general, average face amounts in the secondary market have decreased from 7-10 years ago to around $ million (the tertiary market can vary with attractive portfolios north of $3 million). There are group of managers who tend to invest a portion of the fund in Jumbo policies i.e. USD 10 million or above face value. It s important to understand what a manager s edge is and whether they are able to express proprietary views. Portfolios above $150 million, for instance, can give a cross section of the

6 6 life settlement universe; the larger the portfolio, the less ability a manager has to leverage proprietary views and any competitive advantage starts to be mitigated. Key Risks Longevity Risk Investment risks are largely systematic and focused around increased longevity risk - the risk that an insured lives longer than expected. Accuracy of IRRs depends heavily on the accuracy of life expectancy estimates, captured by how well life expectancy providers can predict life expectancy. Should life expectancy be underestimated, premium payments have to be made for longer than anticipated and the death benefit is received later than expected also. Managing systematic longevity risk is particularly important as this can lead to the life expectancy of the whole portfolio being simultaneously prolonged. For example, the discovery of a cure or a mitigating treatment for an illness common to a large number - or entire portfolio - of policies would dramatically impact returns. It is therefore prudent for that life settlement funds diversify portfolios across different types of diseases, purchase insurance coverage, or employ innovative risk management tools such as longevity swaps. Credit Risk Policies generally carry little credit risk regardless of the rating of the underlying insurance company as they rank super-senior on the balance sheet. Other risks include: > Liquidity risk: like the wider private markets asset classes, life settlements are an illiquid asset class > Legal and regulatory risk > Origination risk > Operational risk > For international investors, there may also be currency risk Life Settlement Fund Manager Universe was recently engaged by an Australian pension plan, looking to invest $60 million in life settlement funds, to conduct a comprehensive review of the manager universe. From an initial market making stage, invited a wide group of 26 managers to participate in the search with no subjectivity in the tender process. 14 offers were received from managers who felt they had the requisite capabilities and experience to meet the client s minimum criteria. The level of differentiation amongst managers, from investment style to terms, was significant across the group. Below we have included ranges from the various offers to highlight a few high level differences: > Target IRRs (net): 10 18% > Fund Terms: 5 15 years (average approximately 10 years) or open-ended > Target Fund Size: $50m - $1.5bn > Target number of policies:

7 7 > Management Fees Half of the managers charged fees on invested capital, half on committed. Below we have included ranges for the original fee scales proposed before negotiation: $30m mandate $60m mandate Invested % % Committed % % > Carried interest: 10% - 20% > Hurdle: 0.25% % > Catchup: varied Key Takeaways > It is advisable to perform extensive due diligence on life settlement funds, focusing on valuation methodology, cash management, asset pipelines as well as business partners. > Vertically integrated managers (i.e. managers who have obtained licenses to purchase policies directly from original holders) can potentially achieve market leading returns by bypassing brokers and avoiding sourcing fees. Furthermore, those with a more integrated operating model with both in-house medical and actuarial teams have a clear advantage when managing longevity risk. > Which and how many life expectancy providers does a manager use? It is also important to check whether internal teams supplement their analysis by purchasing medical underwriting to get a sense of where competing bids are and the market clearing price to ensure price discipline and avoid overpaying. > How does the manager manage risks? Do they seek to set portfolio concentration limits to limit exposure to any single insured, product form, carrier or health impairment? > Background of the team and years of experience in the asset class can provide a significant edge. It is important to assess the history of the team and their prior experience/track record in the asset class (a number of managers have been lifted from insurance companies). > Marketing to retail clients and offering levels of liquidity not appropriate to market dynamics should raise concerns. > One of the most attractive features of the asset class is its uncorrelated nature to wider markets; open-ended funds, when selling, can become correlated and thus reducing one of the key merits of any allocation to life settlements.

8 8 supports clients with investment strategy design, investment manager search and selection, customised portfolio implementation, analytics and monitoring. has conducted over 780 bespoke engagements for over 290 clients in over 30 countries around the world advising on over $145 billion across all asset classes. Our Private Markets team, comprising former principal investors have helped clients deploy over $20bn of private markets commitments across a broad range of asset classes, vehicles and geographies. > Specialist asset class teams with extensive practical experience > Flexible ongoing or project-based partnership > Direct co-operation with senior staff comprising industry practitioners > Our approach is bespoke and fully customised > Exhaustive coverage of the manager universe, no buy-lists IMPORTANT NOTICES PROPRIETARY AND CONFIDENTIAL This document contains confidential and proprietary information of and is intended for the exclusive use of the parties to whom it was provided by. Its content may not be modified, sold, or otherwise provided, in whole or in part, to any other person or entity without s prior written permission. OPINIONS NOT GUARANTEES The findings, ratings, and/or opinions expressed herein are the intellectual property of and are subject to change without notice. They are not intended to convey any guarantees as to the future performance of the investment products, asset classes, or capital markets discussed. Past performance does not guarantee future results. The value of investments can go down as well as up. NOT INVESTMENT ADVICE This report does not contain investment advice relating to your particular circumstances. No investment decision should be made based on the information contained herein without first obtaining appropriate professional advice and considering your own circumstances. INFORMATION OBTAINED FROM THIRD PARTIES Information contained herein has been obtained from a range of third-party sources, unless otherwise stated. While the information is believed to be reliable, has not sought to verify it independently. As such, makes no representations or warranties as to the accuracy of the information presented and takes no responsibility or liability (including for indirect, consequential, or incidental damages) for any error, omission, or inaccuracy in the data supplied by any third party.

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