The exposure of the U.S. insurance industry to private credit has reached nearly $1 trillion, and the credit rating system supporting this scale is facing increasing scrutiny.
The U.S. Department of the Treasury announced last week that it plans to hold a series of meetings with state insurance regulators to discuss &#34;recent market dynamics, emerging risks, risk management practices,&#34; and the outlook for the private credit market.
As reported by Wallstreetcn.com, the crisis in the private credit market is breaking through its boundaries and spreading to the broader financial system. The insurance industry, deeply intertwined with private credit, may become the first &#34;domino&#34; to fall in this storm.
Previously, according to data from credit rating agency A.M. Best, nearly $1 trillion of the approximately $6 trillion in investment assets held by U.S. life and annuity companies was allocated to private credit, with about $419 billion holding so-called &#34;private ratings.&#34;
Meanwhile, a significant report released by the National Association of Insurance Commissioners (NAIC) in 2024 revealed that the ratings of insurance companies' private credit investments are systematically inflated. This report was subsequently withdrawn and has not been publicly reissued.
<h2>NAIC Report Reveals Rating Inflation, Unreissued for Nearly a Year After Withdrawal</h2>
The core of this regulatory storm is a research report that has disappeared from public view.
The report, authored by the NAIC Capital Markets Bureau and titled &#34;Private Ratings on U.S. Insurance Company Bond Investments Continue to Climb, Nearly Tripling in Five Years,&#34; revealed systemic inflation issues in the ratings of insurance companies' private credit investments.
The study analyzed 109 private credit ratings received by the NAIC in 2023, with these assets independently assessed and scored by NAIC analysts.
The results showed that 106 private ratings were higher than the NAIC's internal assessment. In 17 cases, assets that the NAIC considered junk were rated investment grade by multiple small rating companies, with some ratings being up to six notches higher than the NAIC's assessment.
However, after the report's release, the NAIC removed it from its official website in May last year, citing the need to &#34;clarify research conclusions.&#34; Currently, nearly a year has passed since the report was withdrawn, and it has still not been reissued.
The NAIC stated that the reason for the withdrawal was that the report was &#34;based on limited sample data&#34; and carried a &#34;risk of misinterpretation by the public and media.&#34; The NAIC also mentioned that it had hired external consultants to assist in reviewing its use of credit ratings when assessing insurance investment risks.
<h2>Smaller Rating Agencies Have Higher Premiums, Egan-Jones Caught in Regulatory Storm</h2>
In this private credit crisis, the reliability of rating agencies is becoming an increasingly critical variable.
In the sample of private ratings studied, about a quarter came from major institutions like Moody's, S&amp;P Global, and Fitch. Their ratings were, on average, about two notches higher than the NAIC's internal assessments.
The remaining ratings came from a group of smaller rating firms that emerged after the financial crisis, including Egan-Jones, KBRA, and Morningstar. Their ratings were, on average, about three notches higher than the NAIC's assessments.
The report identified Fitch as the most frequent provider among large rating agencies, and Egan-Jones as the most frequent among smaller ones.
However, Egan-Jones's own compliance record is not reassuring, as the agency has previously faced charges from the U.S. Securities and Exchange Commission (SEC) for conflicts of interest.
Recently, it has faced a new round of SEC investigations into its rating practices. Regulators in Bermuda no longer recognize its rating qualifications, and an internal whistleblower has established a competing rating agency. The International Monetary Fund (IMF) noted in a report last October:
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Reliable private ratings are key to the prudential regulation of insurers and it is essential to ensure the robustness of private rating assessments and to require sufficient transparency in rating methodologies and reporting to minimize the risk of rating inflation.
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Following the report's release, some insurance companies have stopped using Egan-Jones's services.
<h2>Regulatory Authority Limited for Years, Reform Faces Strong Resistance</h2>
Insurance companies are regulated by state insurance commissioners in the U.S., whose responsibilities also cover property and casualty insurance. One of the core duties of these commissioners is to determine if insurers maintain adequate capital buffers based on the risk level of the investments they hold.
However, this mechanism has a clear drawback. State regulatory agencies are understaffed and find it difficult to review each investment individually. For most bonds, the NAIC's New York investment team assigns risk scores and corresponding capital requirements based on public credit ratings.
Over the past decade, as insurance companies have increasingly submitted private credit ratings for equivalent treatment, NAIC staff have consistently harbored concerns about directly accepting these private ratings, yet lacked formal authority to object for a long time.
This situation only partially improved at the beginning of this year. In January, NAIC analysts were formally authorized by state regulators to object to private credit ratings that were three notches or higher above the internal assessment. This came more than five years after the demand was first raised.
The reform process has encountered significant resistance. At a U.S. congressional hearing in 2023, eight Republican representatives jointly wrote to regulatory agencies, accusing them of overstepping their authority.
U.S. Representative Warren Davidson (R-OH) stated at the hearing that granting the NAIC the power to overturn private ratings &#34;will lead to less transparency, bring more ambiguity to insurers, and materially harm market efficiency.&#34;
Iowa Insurance Commissioner Doug Ommen stated that commissioners have always had the authority to adjust risk scores they deem too high. He said:
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The regulatory work will not stop because of seeking improvement.
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<h2>Private Credit Permeates Insurance Industry, Scale Exceeds One Trillion</h2>
The regulatory dispute reflects the structural changes of the private credit market's deep penetration into the U.S. insurance industry in recent years. Understanding this dispute requires clarifying the unique attributes of private credit ratings.
Similar to public bond ratings, private credit ratings are also commissioned by the issuer or asset packager to rating agencies, who then issue credit grades based on the borrower's probability of repayment.
Investors (including insurance companies) can also commission rating agencies to rate the debt instruments they hold. However, the key difference is that private credit ratings are only visible to the debt issuer and the investor, not to the public, which poses considerable challenges for external oversight.
U.S. state regulators have limited staff and cannot assess every investment individually, thus relying heavily on the NAIC New York investment team's mechanism of automatically assigning risk scores and determining capital requirements based on public credit ratings.
Over the past decade, insurance companies began submitting private credit ratings to the NAIC, seeking equivalent treatment for their private credit investments. NAIC staff have consistently had concerns about directly adopting these ratings, and the aforementioned report is a concentrated reflection of these concerns.
The NAIC stated that state insurance regulatory agencies have &#34;continuously and proactively monitored and gradually responded to the dynamic evolution of insurance companies' investment portfolios over the years.&#34; However, for a market with nearly $1 trillion in assets and inherent limitations in transparency, this regulatory catch-up game is far from over.

JABS

A report by the National Association of Insurance Commissioners (NAIC) shows that insurance companies' private credit ratings are systematically inflated, with some asset ratings being as much as six notches higher than actual levels. The report was removed from public view in May last year and has yet to be reinstated. Rating inflation is particularly prominent among smaller rating agencies, and Egan-Jones is embroiled in regulatory scrutiny. The U.S. Treasury Department has intervened and plans to hold meetings with state regulators regarding relevant private credit risks

- The U.S. insurance industry's exposure to private credit has reached nearly $1 trillion, raising concerns about the credibility of the credit rating system supporting this figure.  
- The NAIC's report revealed systematic overrating in private credit investments, leading to heightened scrutiny of rating agencies amidst ongoing crises in the private credit market.  
- As insurance companies increasingly rely on private ratings, legislative and regulatory challenges pose significant barriers to reforming this opaque sector.

The "Next Target" of the U.S. Private Credit Crisis: Insurance Companies Holding Trillions of Dollars