# Ratings watch: the risk of negative outlooks

The Greek sovereign debt crisis has raised questions about insurers’ investment portfolios and the ratings they attract because of this. Jakki May explains why brokers should be aware of the issue to provide the best service to their customers.

With the world watching and waiting to see if the Greek debt crisis can be successfully resolved without major impacting its neighbours in the Eurozone, questions have been asked about whether any fall out may impact financial services, including insurers.

Much of any impact will be monitored and measured by the rating agencies, which are watching both the countries themselves and the individual companies. The good news for most insurers is, in the majority, so far so good. Fitch, for example, remains optimistic.

Negative 2008
In 2008, the British, German, Italian and Swiss non-life and life markets, together the reinsurance markets were all on negative watch by Fitch. The exception being the French life market, which was stable. Roll on three years and the tables have turned.

All those markets have moved to stable, with the exception of the French life market which is now on negative. The Dutch non-life and life markets are now being measured and are also on stable.

### "Basically a stable rating outlook means that we expect the majority of rating actions to be affirmations." Fitch

Stable affirmation
As a Fitch spokeswoman explains: "Basically a stable rating outlook means that we expect the majority of rating actions in the next 12-24 months on insurers in that market to be affirmations, rather than upgrades or downgrades."

Overall, the picture has been an improving one. In the past year, the number of negative outlooks and watches has fallen dramatically from 36% to 8%. The number of positive outlooks and watches, too has fallen - but only slightly from 7% to 5%, while the stable majority have risen from 57% to 87% of European insurers (see graph).

Current outlooks/watches show stabilisation

Source: Fitch. Insurer Financial Strength ratings at 5 Oct 10 and 26 Sep 11

Cautiously optimistic
Standard & Poor's is another agency remaining cautiously optimistic, maintaining a stable outlook on the reinsurance sector. A spokesman explains: "The first half of 2011, like the same period in 2010, saw large catastrophe losses across the reinsurance industry. Losses from earthquakes, tornadoes, and a tropical cyclone amounted to more than $60bn in insured losses. "Although this is well above the historical mean for the first half of the year, extremely strong capitalisation and strong enterprise risk management capabilities enabled the industry as a whole to withstand the losses." ### "Losses from earthquakes, tornadoes, and a tropical cyclone amounted to more than$60bn in insured losses." Standard & Poor's

Clear winners
However, the agency warns that not every firm is the same and it is expecting "to see clear winners and losers toward the end of the year and anticipate that most, if not all, reinsurers could earn less than we had originally forecast for 2011".

He adds: "Price rises have been uneven, affecting only some business lines and regions. The increases that we have seen have not been enough to turn the whole market and in some cases have been inadequate for the risks assumed. In our opinion, returns on some longer-tailed lines of business remain uneconomic."

Worrying trend
Looking at S&P's figures, the number of triple A rated reinsurers dropped from two to one in 2009 and remains at that level and the number of triple B- has gone up by one to three in the past year. The more worrying trend is the numbers on A- and BBB+. The number on A- has risen from 12 to 17 in the past year, while the number on BBB+ is up from one in 2010 to six in 2011.

Like Fitch, the numbers considered stable is increasing however, up from 47 in 2010 to 53 in 2011. As one industry insider said: "The thing that makes us nervous is instability. The period when any firm is on a watch is a worry. It is almost a sigh of relief when their rating is firmed up - even if it proves to be a negative move because then at least we can make decisions."

### "In our opinion, returns on some longer-tailed lines of business remain uneconomic." S&P

And that is one of the worrying things about the current Greek crisis - no-one is sure whether or not its impact will spread. As Adam Garrard, chief executive officer for the Continental Europe operations of Willis Group Holdings, says "The European Central Bank estimating that European insurers' exposure to the sovereign debt of Portugal, Italy, Greece and Spain is 17% of their total assets."

He warns: "Sovereign debt failure has the potential to impact insurers' ability to underwrite insurance at a price risk managers will be comfortable with." And adds if this coincided with an unsustainable rate of inflation, "reinsurance pricing could rise and all bets are now off".

Parameters set
Insurers and brokers, alike, have set parameters for choosing what firms to do business with so uncertainty is likely to cause upheaval as both groups re-evaluate relationships. Ian Clark, insurance partner at Deloitte, is not surprised that there is nervousness in the market. "Sovereign debt does not hit insurers the first time around," he says, "but the potential concern is for insurers' investment portfolios.

"If you step into continental Europe, in Germany, and particularly in France, large financial institutions have large cross-over in shareholdings. If you look at the insurers and banks, there is a lot of cross-over. In the past this has been a protectionist move to stop takeovers but now it is having another impact."

### "Sovereign debt failure has the potential to impact insurers' ability to underwrite insurance at a price risk managers will be comfortable with." Garrard

Major French banks have already seen prices slide because of their links to Greece and the likelihood of being repaid, and that is having a knock-on effect to insurers that have close links to those other French financial institutions, where prices have come off.

Clark explains: "When you flip that round to rating agencies, they are finding insurers do not have a problem with liabilities, but there is an impact on the asset side, and that's what is driving the primary issue."

Long-tail lessons
Brokers, he explains, must be looking at business and dividing it into short and long tail. On the short-tail side, there is unlikely to be any immediate concern about an insurers' ability to pay.

However, on the long-tail side, where claims may be paid in six or seven years time, brokers should talk to their clients, raising awareness of any insurer in the A- category, which is in danger of slipping to a BBB+.

### Pull quote: "They are finding insurers do not have a problem with liabilities, but there is an impact on the asset side." Clark

B concerns
"Most people are comfortable with any insurer or reinsurer in the A bracket, but if it slips to the BBB bracket, then there is usually a concern and questions will be voiced. Brokers owe it to their clients, and need to protect themselves by highlighting the issue," Clarke adds.

So for now, combined with plentiful capacity in the market, it is business as usual but plenty of people are keeping a close watch on developments across Europe.