A report from Moody’s Investors Service has suggested that while the increase in interest rates within the last year has been positive for life insurers in Europe, the fast pace of the increase means that a majority of insurers are now sitting on significant unrealized losses in their fixed income portfolios.
In the report, Moody’s states that it does not expect these losses to be realized, because insurers have a relatively illiquid liability profile, and practice sound asset liability management (ALM), therefore they are generally able to hold their investments to maturity, by which time losses will have likely been reversed.
Moreover, mass lapses – where a high proportion of policyholders cash in their savings policies before maturity – are said to be a tail risk for the industry, although there are few precedents of a “run on the insurer”.
Moody’s suggests that this would require early liquidation of assets, crystallizing losses.
The report reads: “Mass lapses could be triggered by reputational issues affecting a specific insurer or the broader sub-sector, or by increased competition from non-insurance products offering higher rates of return. We assess both risks as low for the moment in Europe.”
Furthermore, Moody’s cites that the in the unlikely event of mass surrenders, French and Italian insurers would be the most exposed, which is largely due to their focus on saving products, which are relatively easier to surrender in both countries.
However, while many jurisdictions impose steep surrender penalties and market value adjustments on policyholders that liquidate their contracts before maturity, these penalties are low or non-existent after a few years in France and in Italy.
Meanwhile, the report adds that UK insurers write high volumes of annuities, which cannot be surrendered. In addition, some UK insurers with profit savings policies allow for market value adjustments and the forfeiture of terminal bonuses on early surrender.
Lastly, Moody’s addressed how higher rates have pushed many interest rate hedges out of the money, triggering collateral calls, with insurers in the UK and Netherlands feeling the effects the most.
