Vol.:(0123456789) Journal of Regulatory Economics https://doi.org/10.1007/s11149-019-09396-7 1 3 ORIGINAL ARTICLE Operational risk management and regulatory investment constraints on portfolio allocation: evidence from property and casualty insurers M. Martin Boyer 1  · Elicia P. Cowins 2  · Willie D. Reddic 3 © Springer Science+Business Media, LLC, part of Springer Nature 2019 Abstract We examine an insurer’s portfolio allocation choice in the context of a regulatory environment where investment in specifc asset classes is constrained. We use a year- and insurer- specifc proxy, the Investment Regulatory Stringency Index, to show that property and casualty insurers operating in more stringent regulatory environments allocate a smaller proportion of their investment portfolio to taxable assets. Given the market conditions, the environmental risks, and the economic pres- sure of the period under study, theory suggests the demand for taxable securities would otherwise be greater. We infer from this result that regulation is restricting investment in taxable assets in an undesirable manner. This result is consistent with prior literature. Lastly, we fnd that operational risk management can mitigate the investment constraints imposed by regulation. Keywords Property and casualty insurance · Tax-exempt and taxable investment securities · Regulation · Portfolio allocation · Regulatory investment limitations JEL Classifcations G22 · G28 · K23 * Willie D. Reddic wreddic@depaul.edu M. Martin Boyer martin.boyer@hec.ca Elicia P. Cowins cowinse@wlu.edu 1 Power Corporation of Canada Research Chair and CIRANO Fellow, Department of Finance, HEC Montréal (Université de Montréal), 3000, chemin de la Côte-Sainte-Catherine, Montreal (QC) H3T 2A7, Canada 2 The Williams School of Commerce, Economics, and Politics, Washington and Lee University, 204 W. Washington St., Lexington 24450, VA, USA 3 School of Accountancy & MIS, DePaul University, 1 East Jackson Blvd, Suite 6049, Chicago 60604, IL, USA