AAM’s municipal cross-over process begins with a comprehensive analysis of each client’s appetite for tax-exempt income. AAM’s Dynamic Tax Analysis plays an integral role in establishing a long term, strategic allocation to municipal bonds.

AAM’s analysis solves for the maximum level of after-tax net income for the enterprise (including non-insurance subsidiaries) while identifying the likelihood of being subject to adverse tax consequences, primarily the likelihood of falling subject to the Alternative Minimum Tax (AMT). Unlike many deterministic industry tax models which rely solely on static operating forecasts, AAM’s insurance strategists work closely with client management to understand the potential variability around multi-year forecasts. Probabilistic distributions are constructed around key operating forecasts such as earned premiums, incurred losses and loss expenses to capture the potential impact of best-case and worst case results.

These dynamic operating inputs are combined with AAM’s capital market research which identifies long-term relative value between taxable and tax exempt fixed income securities. Extensive Monte Carlo analysis tests all efficient taxable/tax-exempt municipal bond combinations against thousands of possible operating scenarios with the goal of achieving the highest mean after-tax net income for the enterprise.

This all-encompassing, probabilistic approach clearly illustrates the implications of varying operating results on overall profitability and consequently on investment strategy. In addition to the optimal municipal allocation, other key outputs of the analysis include the likelihood of paying tax at the AMT rate and the minimum level of operating profitability (as measured by the combined ratio) required to avoid the AMT for a given municipal allocation.

Once AAM’s Dynamic Tax Analysis is complete, a fully tailored taxable/tax-exempt cross-over program can be executed which ensures participation in municipals when they offer incremental risk-adjusted benefits over taxable counterparts.