Current issues in insurance
A mixed bag? Analysing headline solvency ratios
20 Dec 2017 - Estimated reading time: 2 minutes
Can you believe it, we’re fast approaching the end of 2017. Firms will soon have to produce their second set of annual results for the Solvency II regime, as well as having to perform the first mandatory two year recalculation of the Transitional Measure on Technical Provisions.
As reported in our previous article, 2016 was very much a baptism of fire for firms, with the introduction of Solvency II coming at the same time as interest rates fell to historically low levels. The drop in rates put significant downwards pressure on solvency coverage ratios in the first half of the year, with a strong bounce-back in the second half as rates reverted and firms implemented a variety of management actions.
Over the first half of 2017 we’ve seen something of a mixed bag, with some firms reporting increases in their headline ratios from the year-end 2016 position, whilst others have reported decreases. Interest rates over this period have risen slightly, with 10yr and 20yr swap rates at 30 June 2017 c15bps higher than where they were at the start of the year.
Figure 1 below shows the trend in reported headline solvency coverage ratios from year-end 2015 to half-year 2017. Each coloured line represents a different firm. (These reported ratios are for information only and not intended to reflect or confirm the relative strengths of different firms. One reason for this is that there are some significant differences in how various firms have chosen to calculate and present their headline ratios.)
Those firms reporting increases in their headline ratios cited reasons including:
the timing benefits of economic gains;
- changes to the Matching Adjustment; and
- changes to the Internal Model.
Where ratios have fallen, the reasons include:
- revised capital add-ons; and
- interim dividend payments.
After a roller-coaster ride in 2016, firms will be glad with the improved stability we’ve generally seen in the first half of 2017.
Source: Company half year reports and accounts
The ratios shown are generally for the groups, although some firms have based their headline coverage ratios on their main insurance operating entity.
Note that some of the reported ratios include the effect of a “notional” recalculation of the Transitional Measure on Technical Provisions (TMTP). Others include only the effect of TMTP recalculations that have been approved by the PRA.
Some companies have changed the way in which they present their headline coverage ratios and therefore, for consistency, we have not included historic ratios which were presented in a different way. The dotted line represents a company that did not provide a HY2016 ratio on the same basis as that disclosed for YE2016.
Again, for consistency, we have omitted company ratios where mergers have since taken place.
It’s a sensitive issue
Firms continue to report a range of sensitivities for their headline solvency coverage ratios. These include changes to interest rates, equity market levels, credit spreads and longevity and mortality assumptions.
Figure 2 below shows the absolute increase or decrease in the headline coverage ratio when there is a +/- 50bps parallel shift in interest rates. On average, a +/-50bps change in rates leads to a circa +/-10% change in the ratio.
This picture is broadly unchanged from year-end 2016, with perhaps the exception of one firm in Figure 2 below showing a modest reduction in its reported sensitivities.
Source: Company half year reports and accounts
In the chart above, some of the sensitivities have been scaled to give an estimate of the impact for a +/- 50bps parallel shift in interest rates.
This scaling has been done to allow comparison between firms and assumes linearity.
All of the above companies have allowed for notional recalculation of the TMTP with the exception of company 4
Where do we go from here?
We have seen something of a mixed bag in terms of the movements in headline solvency coverage ratios over the six months to 30 June 2017, with some firms reporting increases and others reporting decreases. The changes have largely been driven by firm-specific situations and actions.
Volatility in financial markets – especially interest rates – will continue to have a material impact on coverage ratios. There is big potential for choppy waters ahead, with Brexit negotiations ongoing and continued speculation on the future of the current government. Firms should therefore ensure they have a strong grasp of the sensitivities of their balance sheets, and put strategies in place to protect themselves in case we see a repeat of the volatility witnessed during the first nine months of 2016.
The material and charts included herewith should not be considered a definitive analysis of the subjects covered, nor is it specific to circumstances of any person, scheme or organisation. It is not advice and should not be relied upon. Hymans Robertson LLP accepts no liability for any errors or omissions.