US life insurers backed to manage market-sensitive liabilities amid COVID-19

Written by Adam Cadle

15/04/2020

Most US life insurers are expected to pass the test of managing their market-sensitive liabilities amid COVID-19, due to their improved hedging practices since the last financial crisis, but this current climate will “undoubtedly showcase any weaknesses in an insurer’s hedging framework”, S&P Global Ratings has said.

In its report looking at the US life and P&C spaces amid COVID-19, S&P Global Ratings said “insurers that didn’t buy adequate protection from an equity downturn or lower rate environment may see negative charges for their market-sensitive liabilities, although the magnitude of those, especially in the first quarter, remains to be seen”.

“Related to their hedging framework, we do expect more accounting noise in the first quarter as generally accepted accounting principles (GAAP) accounting requires most of these derivate gains/losses to be mark-to-market, even though liabilities are not. Additionally, in volatile markets, the cost of dynamic hedging programs increases, which is something the insurers will have to consider as their hedges expire and they need to do renew their protection.”

On the asset side, US life insurers hold over $4trn of invested assets on their balance sheets. Impairments on these investments have been low over the last 10 years, the report said, but they may increase starting in the first quarter of 2020.

“We do expect the amount of impairment will be a negative force, not a major shock to first-quarter earnings,” S&P Global Ratings said.

“With record high 'BBB' rated bond exposure for this sector, fallen angels can hurt life insurers' investment portfolios. Impairments will likely rise through 2020 if more 'BBB' category bonds fall to speculative-grade. However, we believe life insurers are better positioned to weather this economic downturn compared to the last financial crisis, supported by a relatively stronger levels of capitalisation.”

P&C insurers' underwriting performance is expected be the least affected (comparing to life and health) in the first quarter, due to recent premium rate actions and a relatively benign loss environment this quarter.

"Earnings could take a hit given the impact of widening credit spreads within insurers' fixed-income portfolio, further exasperated from fallen angels that have already occurred in the first quarter," the report said.

“Investment assets that are impaired will likely strain capital. The magnitude of this effect on capital would vary depending on the insurer's portfolio allocations.”

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