Russia’s invasion of Ukraine has added uncertainty to what was otherwise a supportive interest rate outlook for insurers in Europe, says DBRS Morningstar in a new note.
The firm said in a new commentary that European insurers are unlikely to see the benefits of rising bond yields worldwide since Russia’s aggression was ‘adding headwinds to the outlook for economic growth’.
It wrote: “DBRS Morningstar expects slow growth in the EA in the near term, as economic activity is affected by Russia’s invasion of Ukraine, through higher inflation, weaker confidence, and disrupted trade. In recent months, the inflation rate has risen rapidly, reaching 7.5% year over year in April, the highest on record. This could lead to a tightening in monetary policy sooner than previously expected.”
It added: “The European Central Bank expects to end its net asset purchases in the third quarter of 2022, with an increase in policy rates signalled ‘sometime after’ the end of its Asset Purchase Programme. In view of higher-than-expected inflation, some market participants are now expecting a first increase in the policy rate in September this year, and some even in July, instead of 2023.”
There is more, writes DBRS MorningStar. While growth in European Area bond yields has roughly been the same around the world, lower growth on the continent could limit higher yields.
The company wrote: “With rising inflation largely driven by higher commodity prices rather than by strong growth, a ‘stagflation’ scenario where investment returns remain weak is plausible. Worsening credit performance would also threaten the investment returns of insurers as borrowers are squeezed by a higher cost of living and interest rate hikes. In real terms (that is, after the effects of inflation are taken into account), bond yields could fall further into negative territory, which would make it more difficult for insurers to offset higher costs with higher returns.”
It added: “Because insurers are large investors in government debt and are interconnected with the financial system of countries where they do business, their financial performance can be affected by changes in sovereign credit ratings. Ratings for insurers with large exposure to sovereigns could be affected if sovereign rating downgrades were to materialize during this period of heightened geopolitical tensions.”
