Profitability of P&C insurers to decline faster than of life carriers

In the absence of management actions, P&C (property/casualty) insurers' profits will fall on average by 10% to 20% in three years, which represents a cumulative decline of €3-5 billion, according to Moody’s. Life insurance profits will generally decline at a slower pace.

The low interest rate environment is pressuring investment yields in the insurance sector. Overall, the investment income of the European industry, which Moody’s currently estimates at around €350 billion, is likely to fall by €10-25 billion every year in the next five years.

The sharp reduction in interest rates that occurred in 2016 is accelerating the decline. The investment yields Moody’s forecasted for 2020 on the basis of the situation prevailing at year-end 2015 will now be reached around one year earlier, according to a press release.

The impact from low interest rates on P&C insurers is stronger because they invest in assets with lower duration, said Antonello Aquino, Moody’s associate managing director, at a Nov. 14 press briefing in London.

In addition, “P&C insurance companies cannot pass on the decline of investment yields to their policy holders,” said Benjamin Serra, Moody’s vice president SR Credit Officer. “The decline in investment income will translate into a similar decline in net profits,” Serra said.

Carriers may, however, be able to offset the pressure by raising prices, Serra said.

The decline in investment income could be offset by a modest increase in P&C prices, on average by around 0.5 percent. Nonetheless, even moderate price increases across all lines of business would be challenging to achieve in some countries, such as France, given competition and the sluggish economic growth, according to Moody's.

Another negative consequence of low interest rates is that they directly impact the carriers’ Solvency II ratios. Insurers may be able to offset the impact by generating earnings, Serra noted.

However, this assessment does not account for negative interest rates, which represent an additional constraint to capital generation, Serra noted.

The impact of lower investment yields will be less sharp for life insurers because carriers will share the burden with policy holders. “In many countries the investment income is shared between policy holders and the insurance companies,” Serra said. In countries where life insurers generate investment yields higher than the guaranteed rates, insurers will continue to protect their profits by reducing the rate they credit to policyholders.

Moody’s expect European life insurers’ investment yields to decline by 10-30 basis points every year in the next five years, assuming unchanged interest rates and investment allocation. The reduction is lower than in P&C because life insurers usually invest in longer-duration assets, delaying the impact of lower rates.

However, in the longer term, life carriers are likely to be more under pressure, notably in Germany, where guaranteed rates limit the possibility to share lower investment yields with policy holders, Aquino noted.