European insurance industry outlook negative, says Moody’s

Earnings, equity hit by investment losses

During 2009, Moody's Investors Service has taken a number of mainly negative rating actions on European insurance groups, driven by a mixture of concerns including investment risk and knock-on effects on capitalisation and financial flexibility.
Earnings prospects for Q1, and indeed for the rest of the year, already appear constrained, says the rating agency in a new Industry Outlook. Moody's outlook on the European insurance industry is now negative primarily driven by concerns over future profitability and capitalisation.
"In 2008, for the first time in a number of years, many European insurance groups reported bottom-line losses and reductions in reported equity. Net income declined significantly from 2007 and, notwithstanding the asset de-risking in the earlier part of the decade and hedging activity, was predominantly driven by investment losses. There has not to date been a widespread need to access the capital markets, but deterioration in key equity-related metrics has created negative pressure on the ratings of a number of groups," said Dominic Simpson, a Moody's Vice President/Senior Credit Officer and author of the report.
Moody's notes that, for the majority of European insurers, the single largest driver of the equity decline has been the large change in unrealised investment gains/losses on equities and debt securities.
"Self-inflicted" equity declines via dividend payments and share buy-backs have also been prominent, although a notable feature of the YE 2008 results has been reduced dividends in order to preserve capital.
In addition to its capital metrics, Moody's continues to focus on European insurance groups' own economic capital assessments. As shareholders' equity is the main component of available capital resources, groups' internal economic capital adequacy ratios have unsurprisingly deteriorated, albeit from previously high levels.
Regulatory, non-risk-based solvency ratios have also declined. Equities exposure as a percentage of invested assets for most European insurers declined during 2008 as a result of further de-risking and the fall in asset values. "However, in light of further market falls during 2009, we caution that the remaining exposure is enough to meaningfully depress earnings and capital, although hedging activity will reduce the impact for some," said Simpson.
Moody's notes that underlying non-life insurance business performance has been mixed, but still good for some, and European insurers will need to be more proactive in obtaining price increases, otherwise their technical results will be vulnerable to deterioration during 2009 and beyond.
Trading conditions for life insurers are very difficult, with volatile financial markets and considerable economic uncertainty. Declining interest rates are pressuring new business margins and increasing the cost of policyholders' guarantees.
The rating agency continues to focus on the credit implications of volatile and depressed financial markets; embedded within its ratings and outlooks are a variety of asset-specific stress tests. Moody's will also continue to monitor insurers' liquidity profiles which it believes are strong for the majority of European insurers. However, any indication of stressed liquidity which could crystallise unrealised losses would add to the overall negative rating pressure.