The Long and Short
Back-to-back PCAP issuance
This document is intended for institutional investors and is not subject to all of the independence and disclosure standards applicable to debt research reports prepared for retail investors. This material does not constitute research.
Insurers lately have launched two separate issues of pre-capitalized securities or PCAPs—a first-time 30-year by MetLife (MET: A3/A-/A-) and a 30-year by Principal Financial Group (PFG: Baa1/ A-/A-). These are the first PCAPs since late October. PCAPs are unique structures mostly used by insurers to raise funds but keep leverage off the balance sheet until the funds are eventually needed. The new launches came at spread premiums to comparable senior PCAPs and unsecured securities in the secondary market but quickly tightened, demonstrating increased investor awareness of this niche. Investors continue to get fairly compensated for the moderate give-up in liquidity in PCAPs. However, as PCAPs potentially grind tighter, look for the structure to gradually mature into a more modest carry trade.
MET’s inaugural PCAP deal was the sector’s first of 2025. The new structure was named 200 Park Funding Trust. The issuer priced $1.25 billion at a spread of 120 bp to the 30-year Treasury compared to initial price talk of a spread of 145 bp. The launch level was about 25 bp higher than MET’s senior unsecured securities in the secondary market, which appeared in concert with similar premiums in the PCAP market, particularly considering the higher ratings and more established secondary curve for MET versus some of the peers in the segment. The deal performed well with spreads tightening rapidly over the next several days, reducing the premium to unsecured securities to a more modest 20 bp.
Two days later, PFG launched $500 million of the High Street Funding Trust III 30-year notes at a level of 125 bp over the 30-year Treasury versus initial price talk of 155 bp over. This was only a premium of about 21 bp to 22 bp to comparable PFG senior unsecured securities outstanding, but still fairly typical spread compensation in this part of the credit curve. The market appears to be increasingly acknowledging that PCAPs are rated in-line with their respective senior unsecured notes. The rating agencies consider the trust structures pari passu with comparable senior debt, since the issuers are required to issue senior debt into the trust if they ever take ownership of the Treasury securities that are held on issuance. This fact was given its first real world case study back in October of last year by Unum.
Some other examples of recent PCAPs in the insurance industry (Exhibit 1):
- Liberty Mutual’s (LIBMUT: Baa2/BBB), Beacon Funding Trust
- Prudential Financial’s (PRU: A3/A/A-) Five Corners Funding Trust
- Voya Financial’s (VOYA: Baa2/BBB+/BBB+) Peachtree Funding Trust
- Lincoln National’s (LNC: Baa2/BBB+/BBB+) Belrose Funding Trust
Exhibit 1: Selected insurance PCAPs and their senior unsecured credit curves
Source: Santander US Capital Markets LLC, Bloomberg/TRACE – G-spread indications only
Late last year, Unum Group (UNM: Baa2/BBB/BBB) announced in conjunction with earnings that they would be dissolving their outstanding Hill City Funding Trust (UNM 4.046% ‘41%). Since the PCAP structure was conceived, no other issuer had actually executed an exercise event before, which helped demonstrate the fallback nature of these liquidity reserves. As the first dissolution, the UNM bonds served as a case study for execution, and proof of concept, particularly for investors that might still be reluctant about the structure itself. UNM took ownership of the Treasury securities previously held in the trust by issuing senior unsecured debt with identical coupon, principal and maturity into the trust. Therefore, the holders of the notes will continue receive the same coupon payments unabated, while the ratings and seniority of the bonds will remain the same.
Alternatively, in June of last year, EQH opted to tender for one of its shorter maturity PCAPs, which it funded with a new 30-year PCAP note issuance. This was a means for the company to effectively term out their liquidity reserve. The tender and re-issue demonstrated that an issuer has the means to redeem the notes early, without ever taking ownership of Treasury securities or having the debt count toward their balance sheet leverage. With some of the earlier outstanding PCAPs getting long in the tooth, it is possible we could see some other issuers follow suit.
Exhibit 2. Spread in insurance PCAPs and comparable senior unsecured debt
Source: Santander US Capital Markets LLC, Bloomberg/TRACE
Primer: Pre-capitalized securities (PCAPs)
Pre-capitalized securities or PCAPs are a unique trust structure that have been mostly utilized by insurance companies seeking to issue debt, but also wanting to keep leverage off the balance sheet until or if the funds are eventually needed. The bonds trade in the secondary market at a discount to comparable senior unsecured debt issued by the same insurance companies.
The motivational concept behind a PCAP is fairly simple. The issuer creates a trust that accesses the public debt market, but that debt is held off balance sheet of the insurance company and does not contribute to financial leverage. The proceeds of the securities issued by the trust are used to purchase Treasuries (principal or interest strips), from which the trust will pay a coupon plus a locked in spread rate that is paid/provided by the underlying insurance company. In effect, it is a means for an insurance issuer to essentially lock in or create an option on interest rates at a time when they view rates as attractive but might not necessarily need to issue debt. The company effectively has a put option to issue senior unsecured debt into the trust at any time and take ownership of the treasury securities that are held (typically at increments of $50 or $100 million depending on the terms of the deal). Only at that point does the debt count toward financial leverage and the issuer have access to the funds.
All outstanding PCAPs are rated in-line with the senior unsecured debt of the issuer, as the rating agencies view the credit quality as being closely linked to that of underlying insurance company. The notes issued into the trust upon exercise would be pari passu with all senior unsecured debt obligations of the underlying insurance company. An issuer would choose to execute voluntarily in the event that it could no longer access the public debt markets or simply views current rates as less attractive to issue new debt. Debt issuance to the trust can also occur as a result of a mandatory exercise event, which is described below. So far, no insurance company that has issued PCAPs has ever exercised either voluntarily or through automatic/mandatory action.
An automatic exercise event occurs if either a bankruptcy event occurs at the underlying insurance company, or if the company fails to make scheduled payments to the trust. A mandatory exercise event would occur if consolidated net worth of the company falls below a certain threshold, or if the company defaults on other payments or violates debt covenants. In either case, the senior debt then issued to the trust puts holders of the PCAPs in a pari passu position with other senior debtholders of the insurance company.
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