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Economic Research&Consulting
Published by:
Swiss Reinsurance Company Ltd
Economic Research&Consulting
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Authors:
Kurt Karl
Telephone +41 43 285 3369
Thomas Holzheu
Telephone +1 914 828 6502
Clarence Wong
Telephone +852 2582 5644
Co-editor:
Jessica Villat
Telephone +41 43 285 5189
Managing editor:
Kurt Karl, Head of Swiss Re
Economic Research&Consulting.
Swiss Re
All rights reserved.
2012
Table of contents
Executive summary
10
17
25
Executive summary
The global economy is in a slump,
but growth will improve next year.
The global economy is currently fairly weak, but an improving housing market in the US,
fiscal and monetary stimulus in China and a slow turnaround in the Euro area are expected
to boost growth in 2013. Monetary policy will remain accommodative in the major
economies well into 2015, providing the stimulus necessary to sustain growth, but with
low interest rates reducing insurers investment returns. Inflation will stay tame since
wage gains will be modest with unemployment rates declining only gradually.
Growth in non-life premiums accelerated a bit in 2012 and this will continue into next
year as rates rise at a moderate pace. Underwriting results improved in 2012, compared
to 2011 a year with high catastrophe losses. Rates were stable to slightly up this year,
but not by enough to compensate for decreasing investment yields. Next year, reserve
releases are expected to turn to adverse reserve developments, supporting a bit stronger
pace of price increases, particularly in the casualty lines. Currently, capacity is adequate,
but appears robust under GAAP accounting due to low interest rates which boost the
mark-to-market value of insurers bond portfolios.
Developments in reinsurance are following the primary sector closely, with the exception
of the reinsurance industrys higher exposure to natural catastrophe events. Thus, total
cat losses, including Hurricane Sandy, are expected to produce a negative underwriting
result and subdue overall profitability. This outlook assumes that the estimates for losses
from Hurricane Sandy are consistent with recent forecasts from the major cat modellers.
Global primary life premium growth was close to zero this year, but is expected to be better next year. Emerging markets, in particular, are expected to have stronger premium
growth as India and China more fully adjust to regulations passed in 2010/11. Advanced
markets will also have positive real premium growth as many markets, including the US,
Canada and Australia, rebound from declines in 2012. Stronger economic activity and
rising interest rates will fuel the modest uptick in growth. Growth will improve in all product lines, including savings, term life and disability lines. Profitability will remain constrained however because investment yields will continue to decline as bonds mature
and must be replaced with lower yielding assets. Also, regulatory changes are expected
to have a greater impact on life insurance business. Finally, life insurers with large books
of savings products with interest rate guarantees will particularly struggle until interest
rates rise.
The life reinsurance segment will continue to contract as regulatory challenges undermine its value proposition. Reinsurers are seeking to grow premiums by expanding in
emerging markets, taking on large transactions which provide capital relief and through
new products, such as longevity reinsurance. Profitability of life reinsurers is challenged,
as is the primary industry, by the low interest rate environment. However, reinsurers do
not typically have large books of savings products with guarantees.
After struggling in 2011 and 2012, life insurance premium growth is expected to rebound
in Emerging Asia next year, growing by about 5% in real terms. Growth in life insurance
will increasingly focus on risk products because regulatory changes and low investment
yields will continue to dampen savings product growth. Huge protection gaps, which
exist in many key emerging markets including India and China, will help drive the shift to
risk products. In the Middle East and Latin America, life insurance premium growth will
continue to be robust. In Central and Eastern Europe premium growth will moderate a
bit along with economic activity as the Euro debt crisis continues. Non-life premium
growth moderated from about 9% growth in 2011 to 8% growth in 2012. Cat losses
were fairly low in emerging markets so underwriting profitability improved. Premium
growth will be driven by the growing wealth in emerging markets, which has been
particularly beneficial to motor lines. Ongoing regulatory developments will strengthen
the industry and enhance profitability in the long run.
22
The global economy is in a slump, led by the decline in economic activity in the Euro area.
The Euro area economy is shrinking this year and is only expected to recover very slowly.
The US is performing better, but growth is below average and fragile, given the fiscal cliff
risk (see Box: Fiscal cliff in the US). Emerging markets are faring better and continue
to grow, but at a subdued pace due to declines in exports, the contraction of loans from
Europe and lower foreign direct investment.
Next year, growth is expected to improve in all the major economies, except Japan.
Japans growth is expected to slow down as the boost to the economy from reconstruction eases. In the US, the housing market is finally recovering; housing prices and rents
are rising, mortgage rates are low and home purchases and construction are increasing.
Our baseline forecast assumes only modest fiscal measures are adopted next year of
USD 150 billion in tax increases and spending cuts. Europe is projected to also improve
from a slight negative growth this year to a slight positive next year. The key assumptions
for the Euro area are that Greece continues with its adjustment programme, that Spain
signs a memorandum of understanding and receives Outright Monetary Transactions
(OMT) and that Italy convincingly puts its fiscal house in order. In the UK, the fiscal austerity measures are eased and growth resumes at a modest pace close to 1.5% in real
terms. Chinas monetary and fiscal policy stimulus package is forecast to increase growth
to 8.2% next year.
Monetary policy will remain highly accommodative into 2015. The Fed has announced
that interest rates will remain low through mid-2015 and, since growth is expected to be
weak, this has been incorporated into this forecast. Since growth in the Euro area will lag
behind the US, the European Central Bank (ECB) will also keep interest rates low otherwise the Euro would appreciate. The same holds for the Bank of England. The Bank of
Japan is attempting to weaken the yen and increase inflation to approximately 1%.
Now that inflation is only about 2%, the Chinese authorities are focused on improving
growth without exacerbating the housing bubble.
Table 1:
Real Gross Domestic Product (GDP)
growth, inflation, and interest rates in
selected regions from 2011 to 2014, %
US
Euro area
UK
Japan
China
US
Euro area
UK
Japan
China
US
Euro area
UK
Japan
US
Euro area
UK
Japan
2011
2012
2013
2014
1.7
1.5
0.9
0.7
9.3
3.1
2.7
4.5
0.3
5.4
0.25
1.00
0.50
0.08
1.9
1.8
2.0
1.0
2.2
0.4
0.2
2.0
7.7
2.0
2.4
2.6
0.1
2.9
0.25
0.75
0.50
0.10
2.0
1.6
1.9
1.0
2.5
0.4
1.6
1.6
8.2
2.0
1.9
2.0
0.1
3.4
0.25
0.75
0.50
0.10
2.6
2.3
2.5
1.0
3.3
1.3
1.8
1.5
8.0
2.1
1.9
2.0
1.0
3.1
0.25
0.75
0.50
0.13
3.0
2.8
3.3
1.2
In the baseline scenario, policymakers are expected to continue coming up with the
necessary measures to avoid a major calamity. However, they are not expected to adopt
a significantly more proactive stance. Therefore, uncertainty and the ensuing financial
market volatility are likely to remain high.
The major risk from the crisis is that governments delay implementing the reform agenda
(on a national level, in EU structures, or in the banking sector). Political risks on the
implementation process remain high and the insurance industry would face a multitude
of problems should there be an exit from the monetary union (see Table 2).
Table 2:
Risk issues for re/insurers stemming from
an exit from, or a potential break-up of,
the European Monetary Union
Risk area
Description
Impact on insurers
Re-denomination risks
High
Restrictions on
EU internal market
High
Investment risks
High
Funding risks
High
Counterparty defaults
Contract risks
Medium
Litigation&enforcement
risks
Medium
Strategic&commercial
risks
Medium
Operational risk
Regulatory risks
44
Low
In the US, there are a number of federal government tax increases and spending cuts
scheduled to begin in January 2013. Congress could postpone these changes, which
amount to a fiscal cliff of about USD 600 to 750 billion (45% of GDP), into 2013 by
simply voting to delay the cliff. Thus, the new Congress would have sufficient time to
address these budget issues early next year. The cliff consists of the end of the payroll tax
cut (USD 120125 bn1), the end of the Bush Administration tax cuts (USD 180250 bn),
delay the full roll-out of the Alternative Minimum Tax (USD 55100 bn), the mandatory
sequester budget cuts (USD 8590 bn), the expiry of the extension of the unemployment benefits (USD 3035 bn), and a myriad of other tax changes and spending cuts
(USD 130-200 bn). According to the Congressional Budget Office (CBO), the impact on
the economy of allowing the cliff to transpire would be a mild recession, with real GDP
declining 0.5% from Q4 of 2012 to Q4 2013.
In the baseline outlook, it is assumed that only about USD 150 billion of the full set of
options is implemented and that the fiscal deficit falls about USD 300 billion to around
USD 800 billion in fiscal year (FY) 2013 (ending in September 2013), or 5% of GDP. In
FY 2012, the deficit declined by USD 200 billion with 2% real GDP growth. The spending
cuts and tax increases will slow growth, but not derail the economy. Of course, there are
many other likely outcomes, some of which include a recession. A temporary implementation of all the policies, followed by Congress reversing them, would also probably result
in a mild recession. The election results have not helped to reduce this risks uncertainty,
which is likely causing the delay of investments. Commentators are split about what the
new Congress will decide.
Emerging markets
Figure 1:
Real GDP growth in select regions,
2009 to 2014, %
Asia
Emerging Asia is cooling, with the biggest challenges in its larger markets. The latest
China-Japan territorial dispute is threatening economic relations between the worlds
second and third largest economies and could exacerbate the regions economic slowdown. While Indias twin budget and current account deficits are making the country
vulnerable to external shocks, the Association of Southeast Asian Nations (ASEAN)
economies, in contrast, are holding up relatively well thanks to active government fiscal
support. Although consumer inflation is slowing in much of emerging Asia, it could
accelerate due to the third instalment of Quantitative Easing (QE3) in the US and further
easing in Europe. This partially explains the more cautious monetary policy stance of
Asian policymakers, who have opted to leave interest rates unchanged in Indonesia,
Malaysia, the Philippines, and Thailand after recent monetary policy meetings. The
Reserve Bank of India, for its part, has kept its repo rate unchanged while reducing
the cash reserve ratio by 25 basis points to 4.50% effective 22 September 2012.
10%
8%
6%
4%
2%
0%
2%
4%
6%
Emerging Asia
2009
Middle East
2010
Latin America
2011
66
2012
Central and
Eastern Europe
2013
Developed
markets
2014
Chinas economic growth slowed in 2012. The weakness in growth of exports, industrial
production, and investment first observed in the second half of 2011 continued through
to Q3 2012. Recent indicators suggest that the industrial sector is bottoming out, but not
before some of the weaknesses have filtered through to the services sector. Moreover,
the lingering territorial dispute with Japan is threatening bilateral economic relations.
Although downside risk to growth dominates, Chinas real GDP growth is still expected
to remain close to 8% in 2012 and 2013. The risk of a hard landing remains unchanged
at this stage (25%). Against the backdrop of low inflationary pressure, Chinese policy
makers aim to provide further policy support which will likely be target-specific rather
than broad-based.
With highly accommodative monetary policies in the advanced economies, capital flows
have pushed up exchange rates in emerging markets (EMs). In response, many EMs
have eased their monetary policies, increasing the risk of inflation. The concerns have
been particularly acute in Asia and Latin America. Table 3 shows inflation risk and its impact in select EM markets. In general, those economies with inflation targets and policy
rates above inflation are less likely to allow inflation to accelerate. Inflation targets have
been implemented in countries with independent central banks that have a primary focus on controlling inflation. Policy rates above inflation will tend to dampen growth and
inflation by increasing borrowing costs relative to investment returns.
Unlike in advanced economies, where anaemic growth will likely keep inflation contained for a couple of years at least, it is unclear what will happen in emerging markets
where inflation is more difficult to control. Currently, the risk of inflation accelerating is
high or medium in several countries. Thus, the ability of these countries to use fiscal and
monetary policy to support sustained growth will be constrained. In addition, inflation in
advanced economies could well begin with imported inflation from emerging markets.
Re/insurers must therefore monitor these developments since inflation adversely affects
casualty lines.
Table 3:
Risk of inflation accelerating
in select countries
Country
Latest y-o-y
inflation rate,
%
Target for
inflation,
%
Policy rate,
%
Direction
of latest
policy move
Asia
China
1.7
None
6.00
India
9.1
None
8.00
Indonesia
4.6
3.55.5
5.75
Philippines
3.1
3.05.0
3.75
Thailand*
1.8
0.53.0
2.75
Latin America
Brazil
5.5
2.56.5
7.25
Chile
2.9
2.04.0
5.00
Mexico
4.6
2.04.0
4.50
CEE
Poland
3.4
1.53.5
4.50
Russia
5.9
5.06.0
8.25
Czech Republic
3.3
1.03.0
0.05
Risk of inflation
accelerating**
Low
High
Medium
Medium
Low
High
Low
Medium
Low
Medium
Low
* Thailands inflation and target is for core inflation, excluding raw food and energy.
** Some judgement on past performance is used for the risk of inflation accelerating over the
next 12 months. For example, past central bank effectiveness and growth prospects can
affect inflation.
Source: Swiss Re Economic Research&Consulting, Datastream
88
Latin America
The Latin American economy is expected to grow at a more moderate pace in 2012,
highlighting the ongoing impact of weakening external demand and risk aversion in the
developed economies. Inflation is double-digit in both Venezuela and Argentina, above
the target range in Mexico and threatening to increase in Brazil driven mainly by the
lagged effect of expansionary policies and currency depreciation. The risks associated
with Argentinas rigid exchange rate policy have receded thanks to large exports of highpriced soybeans. State intervention in Venezuela, Argentina and, to a lesser extent, Brazil
could hurt private investment, undermining growth. Commodity exporters such as Chile,
Colombia, Venezuela, and Peru could be affected by a global slowdown due to spillovers
from the European debt crisis or a hard landing of Chinas economy.
Risk scenarios
There are a multitude of downside risks that
could derail global growth, weakening
investment returns and premium growth.
The downside risks to the baseline outlook far outweigh the upside risks. Thus, the risk of
a severe recession in Europe and the US is fairly high at about 30%. The key region of
weakness is the Euro area where implementation risks could derail a slowly evolving improvement in fiscal, banking, and monetary co-operation. The US, with its pending fiscal
cliff, the risk that legislated tax increases and spending cuts are allowed to transpire, is
also subject to political risk. Additionally, China may have a hard landing, while Japans
recovery could be aborted by fiscal measures and ineffective monetary policy. In the
downside scenario, yields on government bonds would stay near current levels through
end-2014 and perhaps longer, equity markets would tank, and credit spreads would
widen. At the same time, premium growth would slow due to lower economic activity.
The only bright spot for re/insurers would be that prices for casualty lines would rise due
to the weak investment returns and because the market is on the verge of turning.
There is also some upside risk of about 10%. Monetary policy is certainly stimulative and
could gain traction, boosting confidence and spending. The US housing recovery could
prove to be very strong, given pent-up demand, low mortgage rates, and rising housing
prices. In Europe, both Spain and Italy could sign memorandums of understanding
(MoUs), reducing market concerns about these two large Euro area economies and
lowering interest rates. Finally, China could surprise on the upside by inadvertently
providing more stimulus than intended. This scenario would be more favourable for the
re/insurance industry. Investment yields would improve and premium volume growth
would rise along with economic activity. However, the hardening of the casualty market
would probably be delayed at least another year.
Figure 2:
Euro area real GDP growth (upside,
baseline, and downside scenarios), %
2.5%
2.0%
1.5%
1.0%
0.5%
0.0%
0.5%
1.0%
1.5%
2012
2013
Upside
2014
Baseline
2015
2016
2017
Downside
Non-life re/insurance:
Premiums are growing, but profits remain weak
Non-life primary insurance
In 2012, non-life growth accelerated slightly
Growth in non-life insurance business further accelerated in 2012. The main driver of
advanced market growth was no longer exposure growth which weakened with the
slowing global economy but moderate rate increases in some markets. Meanwhile,
non-life insurance growth in emerging markets moderated slightly, though at a much
higher level than advanced markets.
Underwriting results recovered from record catastrophe losses in 2011. However, adjusting for catastrophe losses and positive reserve developments from earlier accident years,
underlying underwriting profitability2 continued to erode due to rising claims and several
years of softening rates. The gradual improvement in premium rates in some key markets
has not yet been able to change the general soft market picture.
Additionally, the industry saw weak investment returns, partially due to record low interest rates, sluggish cash flows, and feeble capital gains or capital losses. The Euro debt
crisis also lowered the mark-to-market valuations of some fixed income securities.
Squeezed from all sides, the average profitability for the industry was low, with a return
on equity (RoE) for 2012 of only 5%.3
Capital levels are strong, but balance sheet risks are also high
The solvency of the industry continues to be strong. With an average estimated solvency
ratio of 118%, the industry is capitalized at pre-crisis levels. However, balance sheet risks
have increased. Also, in the current macroeconomic environment, accounting rules
tend to overstate non-life insurance assets and understate liabilities. Capital is sufficient
to withstand the main catastrophe scenarios, but it is not excessive from an economic
standpoint.4
Additionally, European non-life insurers are significantly exposed to the European sovereign debt crisis. While the impairment of Greek bonds has had a limited direct impact on
the non-life industry, mark-to-market write-downs on southern European government
bonds are impacting asset values. Uncertainty around sovereign debt has multiplied via
its effect on the banking sector. Insurance companies in southern European countries are
especially impacted, with impairments and lending restrictions causing ripple effects in
asset classes.
Apart from asset-related issues, the risks on the liability side are also rising. Due to higher
precaution, insurers today are willing to back less capacity with the same dollar of capital
than before the crisis. Insurers have begun to wonder how adequate their claims reserves
are after years of soft market conditions and rising inflation risks. There are more frequent
cases of reserve additions. Also the latest revisions to property catastrophe models show
increasing exposures to natural catastrophes.
Another aspect is the impact of GAAP accounting on non-life insurers capital levels.
Mark-to-market, or fair market, valuations of fixed income assets are inflated by low
interest rates. Compared to 2010, the benchmark interest rates of AAA-rated government
bond indices have further decreased by about 150 basis points, causing unrealized
mark-to-market gains. These gains will disappear as the bonds mature5, even if interest
rates remain, as expected, at low levels for the next two years.
2 The underwriting result is defined as the difference between premiums and the sum of expenses plus claims
costs.
3 The calculation of the industry average is based on data for the following eight leading non-life insurance
markets: Australia, Canada, France, Germany, Italy, Japan, the United Kingdom, and the US.
4 This phenomenon is the result of a discrepancy between accounting capital and economic capital.
In a nutshell, under current accounting rules, the valuation of assets varies with changing interest rates,
whereas liabilities remain stable. If liabilities, such as claims reserves, were discounted with the same
interest rates, insurers capital would be far less volatile.
5 Realising these capital gains would not substantially change an insurers economic situation, since reinvesting
the proceeds would result in lower yields.
10
Table 4:
The adjusted combined ratio
for US non-life insurance,
as a % of net premiums
Last but not least, current capital market conditions are still not favourable for raising
capital, for example in case of a catastrophic event. Low price-to-book valuations make
the option of raising capital unattractive. Many insurers, perhaps realising that their capital
levels are not what they seem from an accounting perspective, have started hoarding
capital. Many have scaled back their share buyback programmes.
Premium growth is making headway
Compared to the long-term trend, global premium growth in 2012 continued to be weak,
though it expanded at 3.0% in real terms (compared to 2.3% in 2011 and 1.4% in 2010).
Expansion was driven by a slight acceleration in advanced market growth, which was
more due to rate increases than to exposure growth in a slowing global economy.
In the emerging markets, growth slowed slightly, from 8.7% in 2011 to 7.9% in 2012, primarily as a result of macroeconomic cooling. Eastern Europe saw a strong and positive
development: non-life insurance premiums expanded by 6.1% in 2012, compared to a
meagre 2.8% in 2011. Expansion was broad based, meaning that all regions contributed.
Emerging Asia was again the most robust region, with 9.7% non-life insurance premium
growth.
Eroding underwriting profitability indicates the need for premium rate corrections
Underwriting profitability has deteriorated more in the US than in Europe. Adjusted for
average catastrophe losses and reserve releases, the overall combined ratio for US nonlife insurers was about 103% in the first half of 2012. By segment, the combined ratio
was about 102% for commercial lines and 104% for personal lines.
2009
2010
2011
99.5%
106.5%
101.0%
4.6%
4%
98.9%
0.9%
9.6%
4%
100.9%
0.6%
6.0%
4%
99.0%
0.2%
3.1%
101.1%
2.4%
102.7%
3.8%
102.6%
Nevertheless, underwriting results in Italy and the United Kingdom are showing a slightly
positive trend, following tariff increases in motor business. In France, Switzerland, and
Spain, underwriting results have been stable, whereas Germanys results have continued
to worsen slightly, with higher property claims offsetting improving motor results.
In Japan and Australia, the two most important advanced markets in the Asia Pacific
region, the results are normalising after the catastrophe-impacted underwriting losses
from 2011. In Japan, the combined ratio is expected to improve from 105% in 2011 to
96% in 2012. In Australia, the combined ratio improved to 102% in the first half of 2012
after reaching 108% in 2011.
11
Investment returns continue to suffer from low interest rates and volatile capital markets
While underwriting results improved compared to last year, earnings are under pressure
from weak investment returns. In the fifth consecutive year of financial market turbulence,
the investment environment for the insurance industry remained difficult. Investments
in fixed income securities, by far the main asset class, provide only poor yields but are
exposed to a multitude of risks. Other asset classes may offer better returns, but at the
cost of elevated volatility.
The graph below shows that in Germany, non-life insurers running yields are following
the general interest rate trend. Maturing bonds and new cash flows can only be invested
at lower yields, driving down the average yield of a bond portfolio. Even if market rates
bottom out at their current low levels, insurers running yields are predestined to decline
further. The same will apply to other markets where interest rates are at historical lows.
Figure 3:
Non-life insurers running yield in
Germany versus 10-year German
government bond yields
8%
7%
6%
5%
4%
3%
2%
1%
0%
2000
2002
2004
2006
2008
2010
2012
2014
Profitability is therefore under pressure from both the underwriting and the investment
side, and the current moderate rate increases are not yet sufficient to offset past declines
and low investment yields. The RoE from the main non-life insurance markets is expected
to be about 5% in 2012, only slightly better than the low in 2011 and clearly falling short
of the industrys cost of capital.
12
The outlook for 2013 / 2014 shows more growth but persistently weak profitability
For 2013, global economic forecasts are more positive and the demand for non-life
insurance should increase. In the emerging markets, strong premium growth is set to
continue, although expansion will decrease slightly next year due to weaker premium
expansion in Latin America and Asia.
Pricing has started to improve in many non-life insurance segments, though it is still far
away from a broader-based hardening. However, varying pricing signals have surfaced
for different lines of business. In the US, according to recent surveys, commercial insurance rate increases are accelerating. In Europe, several market leaders have attempted to
introduce modest rate improvements during the renewals of their commercial line books.
Of all the personal lines, motor insurance is the largest and also the most cyclical. Motor
insurance has registered some important improvements, even in markets with severe
profitability issues, such as the UK and Italy.
The current market situation is typical for a mature soft market cycle. Prices have stopped
softening, but they are not yet hardening in all regions and market segments. A somewhat broader and stronger turn in insurance pricing is expected in 2013, setting the
stage for improving underwriting profitability. Exactly when a broader-scale hardening
will occur is uncertain, but the following important factors point to an eventual strong
turn in the market:
Reserving may soon prove to be insufficient. It is difficult to estimate the timing of this
and there are big differences between individual companies. Reserves releases from
previous years will eventually result in the need to strengthen reserves. When this
sets in, it will no longer be possible to ignore insufficient pricing and the scene will be
set for a hardening of rates.
Stricter solvency regulations and higher capital requirements will help turn the
market. Solvency II is still expected to be implemented, though with a delay. A further
tightening of rating agency models is also expected.
Volatile and significant capital market developments impacting insurers capital
base may turn out to be another trigger for rate-hardening. Such developments
could include significant impairment of invested assets or a quick and strong rise
in interest rates.
Overall profitability is not expected to rebound quickly. Nevertheless, underwriting profitability is likely to improve slightly in most markets and segments in 2013 and 2014.
Investment returns are expected to remain low next year. Profitability will rise slowly as
prices and interest rates increase. Accounting profits will only rise gradually since some
improvements accrue with a lag. Reserve releases may have adverse effects in 2013,
reducing profits in the near term and accelerating the hardening of casualty rates.
Table 5:
Real growth of direct premiums written
in major non-life insurance markets and
regions
Country / Region
United States
Canada
Japan
Australia
United Kingdom
Germany
France
Italy
Advanced markets
Emerging markets
World
2010
2011
2012
2013
2014
1.2%
3.9%
0.5%
2.9%
2.8%
1.8%
2.5%
3.7%
0.2%
9.6%
1.4%
1.5%
1.8%
3.6%
4.7%
2.5%
2.1%
2.4%
1.3%
1.1%
8.7%
2.3%
2.2%
2.2%
5.2%
5.1%
0.5%
1.3%
1.5%
4.2%
2.0%
7.8%
3.0%
3.9%
3.9%
1.9%
4.1%
3.6%
2.2%
0.6%
1.7%
2.7%
7.2%
3.5%
5.5%
4.9%
1.0%
4.2%
2.9%
2.6%
0.1%
0.2%
3.6%
7.4%
4.3%
*Advanced markets include the following regions and countries: North America, Western Europe,
Israel, Oceania, Japan, Korea, Hong Kong, Singapore, and Taiwan
Source: Swiss Re Economic Research&Consulting
13
Aside from the financial crisis and the soft underwriting cycle, natural catastrophes are
leaving the most substantial mark on earnings for the reinsurance sector. In the first three
quarters of 2012, the global reinsurance industry enjoyed a good, though not strong performance. However, the fourth quarter will be significantly impacted by the multi-billiondollar Hurricane Sandy claim. It is too early to predict Hurricane Sandys exact impact
on the reinsurance industry, but based on the assumption that there will not be another
major catastrophe event in 2012, a combined ratio of between 103% and 105% and an
RoE of 4% to 5% is expected for the reinsurance industry in 2012.
Non-life reinsurance capital is sufficient, but not as strong as it appears
Rating agencies report of moderate excess capital globally. However, this capital is unevenly distributed across a few players and there is no trend of positive rating outlooks.
Capital requirements have increased due to hikes in risk charges associated with reserves, higher modelled exposures to natural catastrophes, and riskier assets. Additional
uncertainties relating to Solvency II will also raise capital requirements on average.
Furthermore, the risk of claims reserve deficiencies is increasing. On the one hand,
much of the reserve redundancies accumulated during the last hard market has been
released, on the other hand, the most recent accident years may develop negatively
in the medium term.
Figure 4 depicts net premiums and GAAP shareholders equity for the global non-life
reinsurance industry from 1999 until the first half 2012. It shows that:
Capital levels recovered by the end of 2009 from the financial crisis-induced 2008
slump
Throughout 2010 and 2011, capital remained constant and continued to increase
slightly until the first half of 2012 (light blue line). However, reinsurance capital is
inflated by high assets valuations of fixed-income securities.
Unrealised capital gains on fixed income securities which were between 4% and 5%
in 2009 and 2010, soared to 15% at the end of 2011. These unrealised gains are
only temporary in nature und will disappear over time as interest rates rise or bonds
mature.
Premium income has, after years of stagnation, started to increase again, reflecting
the end of the soft market underwriting cycle and the moderate hardening of rates.
Figure 4:
Global non-life reinsurance premiums
and GAAP capital, Index 2005 = 100
160
140
120
100
80
60
40
1999
2001
Net premiums
2003
2005
2007
2009
Capital
14
2011
Thus, the current capitalisation of the reinsurance industry provides an appropriate level
of solvency to meet security needs of policyholders, regulators and rating agencies. But
there is no substantial excess capital, given current balance sheet risks.
Non-life reinsurance rates are levelling out overall, and hardening in some segments
The 2012 renewals in January, April, and July confirmed that reinsurance markets are
improving. Reinsurance capacity was seen as adequate-to-abundant across all lines
and regions, and rates have gradually started to harden. Even rates for long-tail lines of
business have been firming after years of softening. However, adequate pricing must
incorporate current risk exposures and the low interest rate environment.
Following the severe natural catastrophe losses in 2011, property catastrophe covers
showed the most significant rate increases. Property catastrophe pricing improved between 5% and 10% on a risk-adjusted basis. Areas that suffered the largest catastrophe
losses showed the firmest upward rate pressure.
Underwriting profitability is becoming increasingly volatile
Reinsurer combined ratios benefited from below-average natural catastrophe claims in
the first nine months of 2012. The industrys average combined ratio through June was
90%, down from 125% in the first half of 2011. This is good news insofar as the 2012
combined ratio is roughly at the same level as in 2009. However, the volatility of the
global reinsurance business is steadily increasing with the growing weight of the property
catastrophe business. As evidence of this, Hurricane Sandy claims will dominate reinsurance underwriting results in the fourth quarter of 2012. The combined ratio for the year
is expected to end at between 103% and 105%.
Nevertheless, underwriting profitability in reinsurance markets held up better than in
many primary markets. The industry still benefits from the hard market years of 2002
and 2003, and from the more benign claims of the 2009 to 2010 recession years.
Releases from loss reserves in prior years are currently helping to improve underwriting
results by two-to-three percentage points.
Investment returns remain weak
Like primary insurers, reinsurers have suffered from the European debt crisis, low interest
rates, and weak equity markets, so their investment income will also remain weak in
2012. In the first half of the year, they showed a yield of 3.4% compared to 3.9% one
year earlier. Non-life reinsurers leverage more assets, so declining investment returns
affect their profitability more than primary non-life insurers.
Due to below-average natural catastrophe losses, overall profitability was solid during
the first half of the year. RoE for the first half of 2012 was 14%, compared to -1% in the
first half of 2011. Year-to-date, the reinsurance industrys average RoE level was higher
than for primary insurers. For the full year 2012, an RoE of around 4% to 5% is expected,
similar to the 4% RoE in 2011.
15
The outlook is subdued for 2012 but brighter for 2013, and growth is set to improve
Premium income growth for 2013, which largely follows premium trends in the primary
insurance sector, is expected to improve again, from 3.4% this year to 4.9% in 2013 and
5.7% in 2015. Of the additional expected volume of around USD 28 billion by 2014,
around USD 18 billion will stem from advanced markets and USD 10 billion from emerging markets.
Pricing signals from this years re/insurance industry conventions in Monte Carlo and
Baden-Baden indicate that the 2013 renewals will be stable to slightly firmer. Significant
hardening will be limited to lines and segments that have recently experienced high
losses. This could include higher rates for hurricane risks after Hurricane Sandy. Casualty
rates, especially in the US, have moderately turned, but they are still far from their previous levels; additional hardenings will only come with an expected increase in adverse
claim developments.
Assuming average catastrophe losses, the combined ratio is expected to be around 97%
in 2013. This estimate is based on a scenario that assumes a moderate rate increase, a
less benign claims environment than the last three years, and declining reserve releases.
Underwriting profitability is expected to remain below the average of recent years. Also,
because of the low interest rate environment in advanced markets, which is expected to
continue into 2014, investment returns are not expected to reach their pre-financial crisis
levels. The overall profitability outlook for 2013 and 2014 is therefore moderate. For the
reinsurance industry, an average RoE of 8% to 9% can be expected.
Table 6:
Real growth of non-life reinsurance
premiums
Advanced markets
Emerging markets
World
2010
2011
2012
2013
2014
4.3%
0.2%
3.5%
5.9%
15.5%
8.0%
2.1%
7.7%
3.4%
3.8%
8.5%
4.9%
4.9%
7.8%
5.7%
16
Life re/insurance:
Navigating choppy waters
The primary life insurance market
Global premium income stagnated in 2012.
The outlook remains challenging.
Figure 5.
The shareholder equity for 32 global
composite and life insurance companies,
Q4 2007=100
Global life insurance premium income stagnated in 2012 in real terms. Though companies
reported respectable results, the situation and outlook remains challenging. Low interest
rates, volatile financial markets, regulatory changes, and weak demand - especially for
mainstay life insurance savings and accumulation products - will result in a demanding
business environment over the next few years. However, there are business opportunities
for life insurers that are able to turn the huge existing protection gap into sales
Capital further improved but is overstated in financial accounting
The life insurance industrys reported financial accounting capitalization has further
improved in 2012, partially driven by declining interest rates. The decline in interest rates
has resulted in temporary, mark-to-market fixed-income investment gains,6 which will
revert once interest rates increase or these investments approach maturity. From an economic, risk-based framework perspective, however, the decline in interest rates in 2012
resulted in lower capital for life insurers. According to companies 2011 embedded value
reports, a decrease in interest rates by one percentage point results in significant reductions in embedded value whose magnitude depend on the life insurers product mix and
the types of guarantees offered.7 The true picture is therefore likely not as favourable as
might be concluded from an analysis of financial accounting statements.
140
120
100
80
60
40
20
Q2 2012
Q1 2012
Q4 2011
Q3 2011
Q2 2011
Q1 2011
Q4 2010
Q3 2010
Q2 2010
Q1 2010
Q4 2009
Q3 2009
Q2 2009
Q1 2009
Q4 2008
Q3 2008
Q2 2008
Q1 2008
Q4 2007
6 In US GAAP and Japan GAAP, interest rates used to value liabilities are locked in. Under IFRS, valuation of
insurance liability allows insurers to use either US or local GAAP. In the UK, Canada, Australia, Netherlands,
Sweden, South Africa, and other countries, local GAAP do not lock in interest rates.
7 Source: Swiss Re Economic Research&Consulting, based on EEV/MCEV reports of 28 European and
Asian companies. See sigma 4/2012.
17
The biggest challenge in many markets is the ongoing low interest rate environment. The
negative effect of low interest rates on investment yield is slow to fully play out because
only current premium income, which is a fraction of total investments, is invested at
market yields. Changes in insurers running yields therefore lag behind changes in interest
rates. In many cases, the duration of liabilities is longer than the duration of investments
and for this reason, insurers cannot fully offset the decline in investment yield by making
adjustments to product guarantees and prices. Insurers increasingly must honour guarantees close to, or even above, their average investment yield, resulting in lower profitability in recent years and perhaps negatively impacting capitalization and solvency if
interest rates remain low. In view of these challenges, regulators in many countries have
supported life insurance through various capital relief measures.
In-force premiums and new business developed poorly in 2012
Global premium income stagnated in 2012. In advanced markets, premium income
declined by 0.4% (after inflation). Premiums fell by about 1.9% in North America, 5% in
Western Europe, and 4.4% in Oceania. The only advanced markets with strong growth
were in Asia: Japan, Hong Kong, Singapore, Korea, and Taiwan.
Table 7:
In-force, real premium income growth
for life insurance
Country
US
Canada
UK
Japan
Australia
France
Germany
Italy
Spain
Netherlands
Advanced markets
Emerging markets
World
2010
2011
2012
2013
2014
0.6%
1.0%
12.5%
4.6%
0.8%
2.7%
6.8%
9.4%
10.0%
0.9%
1.6%
10.9%
2.8%
3.8%
2.4%
8.8%
8.5%
5.9%
15.1%
7.1%
20.2%
8.6%
0.5%
2.5%
5.0%
2.9%
2.1%
0.8%
2.8%
8.0%
4.6%
15.1%
4.3%
7.0%
10.7%
4.4%
0.4%
2.3%
0.0%
1.6%
2.0%
1.0%
2.0%
4.5%
0.3%
0.7%
0.9%
0.8%
2.4%
1.5%
6.2%
2.2%
3.1%
3.0%
1.0%
2.0%
4.5%
2.2%
0.2%
0.7%
1.5%
3.2%
2.5%
6.8%
3.1%
18
Premium growth has been weak due to low macroeconomic growth, high uncertainty,
and volatile financial markets. Most affected was the life insurance savings and retirement
business, which becomes less attractive for customers when interest rates are low. With
current record-low interest rates, customers tend to avoid unit-linked products and refrain
from locking into long-term contracts. At the same time, such business also becomes
less attractive for life insurance companies because low interest rates and volatile equity
markets erode profit margins and risk-return patterns.
Unsurprisingly, new business in many countries deteriorated in 2012. In the US, new
business dropped by more than 7%, reflecting a sharp sales decline in fixed and variable
annuity products, the most important life insurance products by premium volume. Sales
of these products were scaled back because of profitability challenges as well as consumer reluctance to buy due to less attractive guarantees and higher prices. In Italy and
Germany, sales declined for a second year in a row, although at a slower pace than in
2011. In France, where most business is single-premium savings business, sales are
estimated to have declined dramatically, in part because banks offered substitute products at more attractive terms. In Australia, new business stagnated. The only exception
among the major markets is Japan, where life insurance sales have continued their
strong growth pattern.
Sales of insurance protection products (mortality and morbidity risk) are traditionally
much less volatile than insurance savings products. Protection products held up relatively
well during the crisis, but the picture in 2012 is rather mixed across markets. Insurance
protection sales in the UK stabilised in the first half of 2012, following a number of years
of contraction. The improvement was due to increased group business, which benefited
from changes in state benefit entitlements as well as an improvement in employment.
In contrast, individual policy sales continued to fall, with the sluggish housing market
dragging down traditional term insurance business. Critical illness protection business
remained broadly flat.
In the US, sales of term insurance products appear to have stabilized in 2012, after declining for three consecutive years. Disability insurance sales premiums have bounced
back as well, especially in the group market, thanks to recently-implemented price increases and rising employment. In Canada, term sales rebounded strongly in the first
half of the year, following a contraction in 2011. Term sales have slightly increased in
Germany, while disability and long-term care insurance have continued to grow strongly.
Also, in Australia and in many Asian markets (eg in Singapore, Taiwan, China, India, and
Thailand), protection product sales have been relatively strong.
Going forward, there is ample potential to grow mortality protection products sales,
given that a huge protection gap exists in many markets and consumer awareness of
underinsurance is on the rise (see Box: The US mortality protection gap). At the same
time, mortality protection business is attractive for life insurers in the current environment
since its profitability performance is less sensitive to interest rates than savings and
morbidity products.
19
Over the past decade, the US mortality protection gap or the extent to which families
are insufficiently covered in the event of the death of the primary breadwinner has
reached staggering dimensions. In 2010, the gap reached USD 20 trillion, or 135% of
GDP, up from USD 18 trillion in 2001 at constant 2010 prices. The average family
headed by a breadwinner under the age of 55 had an estimated protection gap of
USD 378000.8
The gap represents the difference between the resources that surviving dependents
need for income replacement, debt repayments, and other major expenses and the
resources actually available from financial assets, Social Security payments, and proceeds from existing life insurance coverage. In 2010, the protection gap for families
whose primary breadwinner was between 35 and 44 years old was largest, at about
USD 482000 per family. The group headed by 45 to 54 year-olds had the second largest shortfall, at USD 355000 per family. The youngest families (primary breadwinner
under 35) had a slightly lower gap of USD 296000 per family.
The economic environment has played an instrumental role in the protection gaps increase since 2001. During the past decade, American families experienced a decline
in real income, rising debt levels, lower investment returns, and eroded financial assets.
In addition to these factors contributing to widening the gap, the portion of households
with life insurance declined and the average amount of coverage shrank.
Life insurance can be a relatively low cost solution for many households. Nonetheless,
and despite the acute financial vulnerabilities of the uninsured or underinsured, life insurance ownership is declining at an alarming rate and currently stands at a 50-year low,
according to the Life Insurance Marketing and Research Association (LIMRA). Three out
of ten households have no life insurance at all. At the same time, consumer awareness
of underinsurance has improved. In 2010, half of US households believed they were not
holding enough life insurance coverage, according to LIMRA.
Given the huge need for additional protection but little active demand, life insurers need
to better understand consumers perceptions and behaviour around purchasing life insurance. Budget issues are reported as the main impediment to buying more insurance,
yet more than 80% of consumers across all demographic groups overestimate the cost
of life insurance. Other common reasons consumers cite for not purchasing life insurance
are other financial priorities, a need for advice in selecting the right products and coverage, and the complexity of the purchase process.
To help households close the protection gap, life insurers need to more effectively communicate the value and affordability of protection products. More action is needed to
simplify underwriting processes and develop direct-to-consumer distribution to reach
low- and middle-income families. Moreover, insurers need to abandon the industry
jargon in their message to potential buyers among the younger generations, and align
distribution methods to changing consumer preferences.
The huge and growing protection gap is not only a US issue, but also a global one.
According to Swiss Re estimates, the protection gap has reached USD 41 trillion in Asia,
close to USD 17 trillion in Europe, and nearly USD 1 trillion in Canada. Covering the gap
presents a challenge, but also a sizeable business opportunity for life companies around
the world. Mortality protection is the core of life insurance, and with no substitutes available from outside the industry, life insurers are uniquely positioned to help societies close
the protection gap by doing more to reach out to people.
8 For details see Swiss Res expertise publication The mortality protection gap in the US, August 2012.
20
Figure 6:
Return on equity of 32 global composite
and life insurance companies, %
25% RoE
20%
15%
10%
5%
0%
5%
Q2 2012
Q1 2012
Q4 2011
Q3 2011
Q2 2011
Q1 2011
Q4 2010
Q3 2010
Q2 2010
Q1 2010
Q4 2009
Q3 2009
Q2 2009
Q1 2009
Q4 2008
Q3 2008
Q2 2008
Q1 2008
Q4 2007
10%
3 Canadian companies
6 UK companies
14 US companies
7 European Globals
2 Chinese companies
Full sample
9 The decline in RoE was stronger than the decline in interest rates (ie the RoE above risk free also declined).
21
Profitability is not expected to improve soon as there will be strong headwinds from low
interest rates and weak sales. When interest rates fall, markets expect life insurers to
see lower profits and therefore insurers stock prices decline, lowering the price-to-book
ratio (see Figure 7). Markets expect life insurers profitability to remain constrained in
the near future.
Figure 7:
Long-term government bond yields
versus the average price-to-book ratio
of 32 global composite and
life insurance companies
2.0
Price-to-book ratio
5.0%
1.8
4.5%
1.6
4.0%
1.4
3.5%
1.2
3.0%
1.0
2.5%
0.8
2.0%
German
UK
Q2 2012
Q4 2011
Q1 2012
Q3 2011
Q2 2011
Q1 2011
Q4 2010
Q3 2010
Q2 2010
Q1 2010
Q4 2009
Q3 2009
Q2 2009
Q1 2009
0.0%
Q4 2008
0.0
Q3 2008
0.5%
Q2 2008
0.2
Q4 2007
1.5%
1.0%
Q1 2008
0.6
0.4
US
The introduction of more stringent capital requirements will be another trial for the
industry. As a result of the challenging business environment, regulators may require life
companies to bolster their reserves to assure that liabilities can be met. In the US, for
example, revised actuarial guidelines will require companies to hold more reserves for
universal life policies with secondary (death benefit) guarantees as of January 2013. In
Canada, upcoming actuarial and regulatory changes will increase reserve requirements
for segregated fund and other guarantee products. In Germany, additional reserves in
response to the low interest rate environment were introduced in 2011 (see Box: Recent
regulatory developments in Europe). These higher regulatory capital requirements could
also negatively impact the life insurance industrys capitalization and profitability.
In addition, under Solvency II, whose introduction was postponed to 2014 at the earliest,
capital requirements for long-term guarantees and asset risks will be more rigorous compared to the Solvency I regime, with material charges for risky assets. Higher expected
investment results will need to be balanced against higher capital charges. This balancing
is already posing a challenge to life insurance companies since returns on high quality
debt securities are often too low to meet expected investment returns, and at the same
time capitalization is insufficient to support more asset risk. It needs to go hand in hand
with strategic decisions concerning the level and amount of guarantees life insurers sell.
The product range, product features, and product mix will probably need to change in
the coming years. Life insurers will likely try to move away from traditional guaranteed
business, where margins have come under pressure and capital requirements have
become increasingly onerous, and shift their product mix towards protection and unitlinked products.
22
Life insurers have responded to the current challenges by improving investment and
asset liability management, reducing operational costs, adjusting policyholder bonus
and crediting rates, as well as improving technical profitability through improved underwriting. Some companies have also reassessed their business portfolios and undertaken
structural changes.
Stressed companies will seek ways to improve their balance sheets, be it through further
de-risking of the asset and liability side of their balance sheets, reinsurance, monetization
of embedded future profits, or divestiture of some parts of their business. It cannot be
ruled out, depending on how long interest rates stay low, that weak companies will be
forced to stop writing new business or merge with stronger competitors. As a result,
consolidation of the industry and mergers and acquisitions will likely accelerate.
The life reinsurance market
The top eight life reinsurers increased their net premiums by about 10% in the first half
of 2012 (in USD). In part, this strong growth was driven by consolidation. Additionally,
block transactions, longevity risk reinsurance, enhanced annuities, and accident&health
business supported reinsurance growth and helped reinsurers diversify away from traditional mortality business in the US and the UK.
Premiums from traditional life reinsurance, consisting of mortality and morbidity, are
estimated to have decreased by 1.6% globally in 2012. In advanced markets, premiums
fell 2.1%, while in emerging markets they increased by almost 5%, on the back of strong
protection sales. The decline in advanced markets was driven by an ongoing contraction
in the US and UK markets, which currently account for 55% of global cessions (while
during the last decade these two markets had a share of 65% of the global free cession
market). Reinsurance premiums in the US and UK fell by almost 4.5% in 2012, mainly
due to declining cession rates as a result of receding regulatory arbitrage opportunities
and regulatory changes.
Table 8:
Real premium income growth for
traditional life reinsurance
Country
2010
2011
2012
2013
2014
Advanced markets
Emerging markets
World
1.8%
7.0%
2.1%
0.4%
16.3%
0.5%
2.1%
4.8%
1.6%
1.3%
6.3%
0.7%
1.0%
6.3%
0.4%
23
Reinsurers are increasingly developing solutions for transferring longevity risk from primary companies with annuity business and from private and public pension plans. The
market for longevity risk transfer continues to have strong momentum. In the first half
of 2012, USD 19.2 billion in longevity liabilities were transferred via publicly-disclosed
longevity reinsurance and swap transactions (compared to total year of USD 9 billion and
USD 15.2 billion in 2010 and 2011, respectively). The market is traditionally most active
in the UK, but the largest deal so far was in Continental Europe at the beginning of 2012,
between Aegon and Deutsche Bank. There have also been transactions with Australian
and Canadian insurers. Longevity reinsurance activity is expected to develop in other
markets as well, including the Netherlands, Switzerland, and the US, where there is
significant potential demand, particularly from pension funds.
Recent regulatory developments in Europe
Originally planned for 2012, the official deadline for the introduction of Solvency II has
now been moved to 2014, a date that looks increasingly ambitious so that a further
delay to 2015 or even 2016 is likely. Some of the key open issues include the treatment
of long-term guarantees (an acute issue given current low interest rates), supervisory
reporting and public disclosure, and group supervision. Given these unresolved questions,
the timeline for Solvency II is highly uncertain and its delay is likely to spur additional costs
since implementation teams are on stand-by and parallel systems must be maintained.
However, European regulators have recently made some remarkable moves. In Denmark
and the Netherlands, regulators have eased conditions for insurers, allowing them to use
discount rates well above the current Euro swap curves for terms beyond 20 years. By
discounting liabilities at a higher discount rate, their present value is reduced, thereby
boosting solvency. Moreover, by detaching discount rates from the long end of the
market-based swap curves, solvency also becomes less volatile, giving companies more
freedom to invest. Similarly, the Swedish regulator introduced a temporary floor for the
insurance discount rate in 2012.
In Germany, where the life industry has an exceptionally high interest rate risk exposure
(rigid, long-term guaranties in conjunction with very low interest rates), no relief has
been granted so far. To the contrary, additional reserve requirements were introduced in
2011. Life insurers are required to set up additional reserves (Zinszusatzreserven) for
policies with guarantees above a specific reference yield. By end of 2011, the reference
yield dropped below 4%, requiring additional reserves of EUR 1.5 billion to be set aside
for the 4% policies written between 1995 and 2001. Since the reference yield dropped
further in 2012, additional reserves of around EUR 4.5 billion are estimated to be required. The reference rate is likely to continue declining, and the industry will need to
further increase its reserves. While these regulatory measures are positive for the longterm financial strength of the industry, they put a strain on earnings in the short term.
24
Emerging markets:
Premium growth will increase in 2013
Life insurance premium growth bounced back in 2012
Life premium growth in China and India
was more stable in 2012.
Figure 8:
Real premium growth rate for life insurance
by region, 2008 to 2013
After having shrunk by around 5% in 2011 in real terms, emerging market life insurance
premiums grew by an estimated 2.3% in 2012. The improvement was mainly due to
more stable growth in Emerging Asia. In 2011, premiums in Emerging Asia declined by
10.9% as a result of the introduction of new regulations governing bancassurance in
China and unit-linked insurance product distribution in India.
20%
15%
10%
5%
0%
5%
10%
15%
20%
Emerging Asia
2008
Middle East
2009
Latin America
2010
2011
Central and
Eastern Europe
2012
Developed
markets
2013
In Latin America, growth moderated in 2012, but is expected to remain robust at a high
single digit rate. The two biggest markets, Brazil and Mexico, posted solid growth rates,
as did Colombia and Chile. In Central and Eastern Europe (CEE), life insurance premiums
grew after having largely stagnated in 2011.
Non-life insurance premium growth moderate in 2012
Along with the economic slowdown, non-life insurance premium growth in emerging
markets eased from 8.7% in 2011 to 7.7% in 2012. A visible slowdown was reported in
the Middle East due to the adverse effects of recent political turmoil. In Latin America,
non-life insurance premium expansion also decelerated modestly in 2012, with traderelated insurance lines, such as transport and credit, most affected by the economic
slowdown. On the upside, CEE had a solid recovery in premium growth, though mostly
driven by strong expansion in Russia and Poland, the two largest markets, whereas
premiums in the other main CEE markets continued to decline in real terms.
Growth in motor insurance remained a key driver for non-life premium growth. In some
markets, car sales slowed with the weakening economic activity, but regulatory changes
in other regions are making the motor sector more attractive for insurers. In Brazil, for
example, tax breaks on new vehicle sales propelled motor insurance growth. China
opened up its third-party motor liability market to foreign participants and has allowed
insurers greater freedom in pricing commercial motor business. Pricing reforms were
also announced in India, where the third-party liability motor pool is being dismantled,
and in Malaysia, where motor tariffs are being phased out.
25
Figure 9:
Real premium growth rate for
non-life insurance by region, 2008 to 2013
The relative absence of major natural catastrophe losses in emerging markets in 2012
bodes favourably for the profitability of non-life insurers. The major loss events are likely
to include the floods in China and a series of typhoons that hampered some Southeast
Asian markets. However, due to low insurance penetration in those markets, losses are
likely to be limited. For example, although the floods in China are estimated to have resulted in economic losses of USD 8.3 billion, the China Insurance Regulatory Commission
(CIRC) reported insurance losses of only USD 170 million.
25%
20%
15%
10%
5%
0%
5%
10%
15%
Emerging Asia
2008
Middle East
2009
Latin America
2010
2011
Central and
Eastern Europe
2012
Developed
markets
2013
The insurance outlook for 2013 in emerging markets remains challenging in view of the
still highly uncertain global economic landscape. Apart from economic strain, insurers
in emerging markets will also likely face increasing regulatory pressure. The Chinese and
Indian governments have embarked on a review of their solvency regulations. While it
will take a number of years to make the transition to the next regime, preparing to meet
the new regulations will already cause stress. Similarly, regulators in Southeast Asia are
tightening solvency and capital requirements to prepare for the next stage of the ASEAN
Free Trade Area.
Microinsurance is growing.
26
Non-life insurance in emerging markets is closely related to economic growth. The expected modest re-acceleration in economic growth bodes favourably for non-life premium
growth in 2013, which is now projected at 7%. In most markets, the landscape will
continue to be dominated by the performance of the motor line. The front-loading of
government-sponsored infrastructural projects to support economic growth will also
positively impact non-life insurance demand.
Mergers and acquisitions (M&A) are expected to continue as international insurers deploy capital in high-growth emerging markets to benefit from the solid outlook. Some
integrated financial institutions, mainly European, could be geared to dispose of their
emerging market insurance operations to preserve and strengthen capital. On the other
hand, some regional players could expand overseas due to saturated domestic markets.
Japanese insurers, in addition, are motivated by a strong yen. It is likely that the series of
M&A will increase the market share of international insurers while further concentrating
insurance business in respective markets.
Special topics in Emerging Markets
In this section, four interesting emerging market issues in certain regions are reviewed:
insurance potential in sub-Saharan Africa, insurance developments in Mongolia and
Myanmar, regulatory issues in India, and an update and outlook on the insurance markets
in Brazil and Mexico.
Though it has increased markedly over the past ten years, GDP per capita in SSA remains
the lowest globally. Poverty has fallen, but remains widespread. The middle-income
population, which is usually the main client group for traditional insurance products,
has grown. However, only the share of the lowest income bracket of this middle class
has expanded. This so-called floating class at the lowest rung of the middle class is
prone to falling back into poverty. Growth of the overall middle class keeps pace with
population growth.
Between 2000 and 2011, premium growth averaged 7.1% annually in SSA and reached
USD 8.9 billion in 2011. Premium growth was strongest in oil-exporting and middleincome countries. The five largest markets Nigeria, Kenya, Angola, Namibia, and
Mauritius have a market share of 60%. Non-life premiums account for two-thirds of
the total market, which is high compared with other emerging regions.
Insurance penetration in SSA is significantly below the average for emerging markets.
However, only life insurance penetration is below expectation compared to current income levels in SSA. In non-life, motor and business lines related to the extraction of oil,
gas and other non-renewable natural resources form the bulk of business. Personal
non-life business lines have a very low share. The situation is similar in the life sector,
where individual take-up of life insurance is low and group business dominates.
27
On the demand side, growth in the personal lines insurance segment will depend on the
continued expansion of the middle-income class. Insurers and regulators will need to
bolster risk awareness and promote a better understanding of the benefits of insurance
to foster greater consumer trust in the industry. Moreover, insurers face the challenge of
adapting their products to the unique risks and situation of a region with a large share of
low-income population:
Africas low-income population is exposed to a number of risks that stem from significant exposure to infectious diseases, under-developed infrastructure, and a large part
of the populations dependence on agriculture. Microinsurance products related to
health, infrastructure, and agriculture can help address these issues.
Around 60% of the African population is primarily active in the agriculture sector.
Weather uncertainty coupled with a lack of effective risk management strategies
creates implicit demand for insurance, so innovative insurance products that can
effectively protect the SSA population from agriculture risk at an affordable price
have a huge potential. Index-based insurance is gaining increased popularity due
to its affordability and simplicity.
An estimated 270 million Muslims live in SSA. Since conventional insurance is not
considered to be in line with Shariah, the body of Islamic law, developing Shariahcompliant takaful products and especially microtakaful for low-income populations
is one way to overcome this challenge.
Given these hurdles, opportunities, and the current economic outlook for SSA, the insurance sectors solid growth in the range of 7% to 8% is likely to continue, particularly in
commercial lines of business. Insurance premiums could reach more than USD 16 billion
by 2017. This forecast will prove to be conservative if the middle class grows more rapidly
than expected and microinsurance product innovation for the low-income population in
SSA accelerates.
The local insurance market is small, with around USD 20 million in premiums, mostly in
non-life business. Yet alongside the mining boom, premium growth has stepped up.
Although statistics are limited, it was reported for example that construction insurance
grew by over 250% in the first three quarters of 2010, while liability insurance grew by
over 110%. Both of these lines of business have benefited from strong insurance demand
in the mining sector. As foreign interest in mining increases, there is considerable potential
for related non-life insurance demand in the future.
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Myanmar is taking steps to modernise its financial sector and improve the insurance
market landscape. Twelve domestic private companies were given approval in September 2012 to set up insurance operations. This move will likely transform the competitive
landscape which so far has been dominated by the state-owned Myanmar Insurance
Enterprise. Foreign insurers have established representative offices and are awaiting a
further opening-up of the market. Financial regulation amendments are reportedly also
in progress.
The current size of Myanmars insurance market is estimated at around USD 23 million
in premiums, over 90% of which comes from non-life business. This represents a penetration rate of less than 0.1%, the lowest among ASEAN members, yet it is believed that
there is strong growth potential for insurance in Myanmar. In the non-life sector, mining
and agriculture are set to provide numerous insurance opportunities, and expected
investment in infrastructure should also bolster demand. The prospect of manufacturing
relocation to Myanmar in view of competitive labour costs is also another positive consideration. At the same time, insurers need to keep in mind that Myanmar is exposed to
various natural perils such as cyclones, earthquakes, tsunamis, and floods.
In both Mongolia and Myanmar, however, the nascent state of the local insurance markets
means progress will remain highly uncertain until the necessary pieces of the puzzle fall
into place. Nonetheless, a better understanding of the market conditions and business
landscapes would clearly benefit parties interested in entering these markets.
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However, in the longer term, these regulations mark a positive shift for insurers from aggressive, top-line growth to profitable and sustainable growth. As a first step, life insurers
have increased their focus on expense management and reduced cost ratios by consolidating branches and/or agencies. Protection products are moving into the spotlight, and
insurers are shifting away from their heavy reliance on aggressive expansion in unit-linked
savings products. The sector is beginning to see more innovative and diverse product
offerings. There are also other positive developments to boost insurance penetration,
such as revised bancassurance guidelines, proposed guidelines on product filing/design,
and other proposals including the Direct Tax Code at the federal level.
With regards to the non-life insurance sector, in March 2012 the IRDA dismantled the
third-party motor insurance pool (which recorded USD 790 million in operating losses
in 2010) and replaced it with a declined risks pool system for standalone third-party
motor liability insurance. Risks that are declined by insurers will be insured from the pool
and shared by insurers. This was a welcome move which helped also to trigger a muchneeded rate increase in the segment. In the health sector, the IRDA recently issued an
exposure draft for new health insurance regulations to tackle the challenges in this fast
growing market.
Furthermore, at the federal level, the Indian government has stepped up the reform momentum in the second half of 2012. It has taken some bold measures, including relaxing
foreign direct investment (FDI) in the insurance and pensions sectors as part of the
proposed Insurance Act Amendment Bill. The key elements of the proposed bill include
allowing foreign insurers to increase their equity from 26% to 49% and allowing reinsurers
to set up branches in India. The passage of the proposed bill, however, requires additional
parliament approval. If passed, it could result in additional capital injections in the sector
which could help insurance premium growth.
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Figure 10:
Real GDP growth (lhs figure) and 10-year
government bond yields (rhs figure) for
Brazil and Mexico
14%
12%
0%
10%
2%
8%
4%
6%
6%
4%
8%
2%
10%
0%
Q1 2008
Q2 2008
Q3 2008
Q4 2008
Q1 2009
Q2 2009
Q3 2009
Q4 2009
Q1 2010
Q2 2010
Q3 2010
Q4 2010
Q1 2011
Q2 2011
Q3 2011
Q4 2011
Q1 2012
Q2 2012
Q3 2012
Q4 2012
2%
Brazil
Brazil
Mexico
Jan 2012
4%
Jan 2011
16%
Jan 2010
18%
6%
Jan 2009
8%
Jan 2008
20%
10%
Mexico
In Mexico, economic activity continued to steam ahead in 2012, with GDP expanding
by 4.1% y-o-y in the second quarter. Competitive labour costs and Mexicos proximity
to the US market support the attractiveness of the country for investors. However, due
to the sombre global outlook and especially to the uncertainty around the recovery of
the US economy, there are still risks to the outlook.
Total insurance premiums in Mexico expanded robustly by 7.1% in real terms in the first
nine months of 2012. This expansion was mainly driven by life and pension-related insurance, which grew by 9.2% and 10.0%, respectively. Accident and health premiums increased by 4.0%, while non-life premiums grew by 5.8% (non-life premiums would have
grown by 11.9% if adjusted for the renewal of state-owned PEMEXs multi-year policy).
While premium growth is expected to remain robust in Brazil and Mexico, the insurance
industry in both countries will face lower profit margins. On the technical side, competition will continue to pressure underwriting results. Also, in Brazil, the impact of the new
public insurer Segurobras on pricing of lines such as surety remains to be seen. On the
investment side, lower government bond yields in both countries will exert pressure on
investment returns as insurers hold the lions share of their investments in domestic
government bonds. The lower investment returns will require that insurers fine-tune
their underwriting, make operations more efficient, and diversify away from government
bonds into other investment assets with higher returns.
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Table 9:
A glance back and a look ahead at insurance in emerging regions
Emerging region
Asia
Life
Non-life
Latin America
Life
Non-life
Central and
Eastern Europe
Life
Non-life
Middle East
Life
Non-life
Performance 2012
Outlook 2013
Premium growth is expected to accelerate in 2013, supported by improving household confidence and income.
Profitability, especially in Brazil, will worsen as a result
of low investment returns.
Premium growth is expected to decelerate dragged by
a deceleration in Chile and of motor premiums in Brazil,
which will no longer benefit from the transitory tax rebate
on new vehicle sales.
Infrastructure-related insurance lines will benefit from the
roll-out of major projects.
M&A activities are expected to continue as international
insurers deploy capital in the region and local insurers
increase their cross-border activities.
Growth of life premiums improved from 1% in 2011 to
Life premium growth is expected to ease in Russia and
around 7% in 2012.
Poland from exceptionally high levels in 2012, while
Insurance growth continued at more than 30% in
high household indebtedness will increasingly constrain
Russia driven by credit related products though
insurance demand across many other countries.
from a small base.
Recent Polish regulations regarding commission
Poland saw premium growth slowdown, while across the
practises in bancassurance will also drag on growth.
region the insurance market stagnated or declined
in real terms.
Insurance performance in 2012 differed according to the Insurance growth will remain depressed given the still
divergent economic recovery of individual markets, with
dire economic environment across the region.
the two most resilient economies Poland and Russia Market consolidation in Russia is expected to continue
reporting further premium expansion.
and could reduce price-cutting pressure.
Most other markets in the region continued to suffer from
premium contractions as a result of their close economic
ties with Western Europe.
Profitability in most markets should be supported by
a favourable loss experience.
Life premium growth is expected to remain strong in Tur- A modest recovery is expected in the Saudi Arabian life
key and the United Arab Emirates, driven by growth in
insurance market in 2013.
term premiums and individual premiums, respectively.
For other major regional markets, premium growth is
In Saudi Arabia, however, a contraction in life premiums
expected to continue given the low penetration levels
is likely, following the trend observed since 2010.
and potential of takaful products in the Gulf region.
A slowdown in non-life premiums is expected in key
Increasing government expenditure and growth in
regional markets, given the slowdown in economic
compulsory lines is likely to support the growth of
activity due to weakness in the Euro-zone area and
the non-life sector in the Gulf economies.
socio-political instability in the region.
The new mortgage law in Saudi Arabia is expected to
Price competition remains a challenge affecting
be favourable for the non-life sector.
non-life insurer profitability.
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