Irdai move on equity derivatives: Insurers gain tools to manage volatility

Irdai felt the need to permit insurers to hedge through equity derivatives

3 min read Last Updated : Mar 02 2025 | 10:50 PM IST

The Insurance Regulatory and Development Authority of India’s (Irdai’s) decision to allow insurers to hedge risks through equity derivatives will help them manage market volatility and protect policyholder returns. However, this move is unlikely to alter their investment strategies.

Under the current regulatory framework, Irdai allows insurers to deal in rupee interest rate derivatives in the form of forward rate agreements (FRAs), interest rate swaps and exchange traded interest rate futures (IRFs).

Besides fixed income derivatives, insurers are also permitted to deal in credit default swaps (CDS) as protection to buyers.

Looking at the increasing trend in investments in the equity market by insurers and owing to volatility in equity prices, Irdai felt the need to permit insurers to hedge through equity derivatives. Life insurers typically invest nearly 30-35 per cent of their portfolio in the equity market and the remaining in the fixed income segment.

According to Rahul Bhuskute, chief investment officer (CIO), Bharti Axa Life Insurance, this move by Irdai is particularly significant for life insurers since they have a higher equity allocation compared to their general counterparts.

“While it would not fundamentally change our investment strategy, it will make managing equity positions easier. Sometimes, it is better to hedge a position using derivatives,” he said.

In unit-linked policies, insurers can have 100 per cent equity exposure or a mix of equity and debt. For traditional funds, the equity allocation can either be fixed or dynamically managed. On average, life insurance companies maintain a 35:65 equity-to-debt ratio, though this can vary across companies.

Sachin Bajaj, CIO, Axis Max Life Insurance, said, “This (move by Irdai) will enable an insurer to effectively manage market volatility and protect policyholder returns. By leveraging equity derivatives, insurers can better navigate fluctuating markets, ensuring stability and growth in their investment portfolios.”

Meanwhile, equity market experts believe that the insurance regulator's decision will help enhance liquidity in single stock options.

“In the initial weeks of a new series, liquidity in stock options is often concentrated in only a few highly traded stocks, while many others remain illiquid. By allowing insurers to hedge their equity exposure using derivatives, their participation in stock options could provide the much-needed liquidity. This is especially true for individual stock options where activity is limited during the start of the series,” said Sneha Seth, derivatives analyst, Angel One.

According Irdai guidelines, insurance companies will be able to buy hedges in stock, index futures and options against their holding in equities, subject to their exposure and position limits.

The equity derivatives will be used only for hedging. Any over the counter (OTC) exposure to equity derivatives has been prohibited.

Currently, insurers are studying the new guidelines issued by the regulator and will only formulate policies during the upcoming financial year (FY26).

Prasun Gajri, CIO, HDFC Life, said “The guidelines have just been released. We are reviewing it and will be formulating a policy suitable to us after consulting all our stakeholders.”