US life insurers have significant CML default headroom - Fitch

Written by Adam Cadle

13/09/2021

Stress on the commercial mortgage loan (CML) portfolios of US life insurers alone will not drive rating downgrades, given strong industry capitalisation, current loan quality and historical loss experience, Fitch Ratings has said.

CMLs form around 13% of total invested assets for the industry, and Fitch said it estimates the top 15 US life insurers by CML exposure could absorb an aggregate CML default rate of approximately 60%, given current levels of capital headroom. This is around 14.0x the aggregate default rate experienced cumulatively by these insurers during the 2008-2010 global financial crisis.

CML delinquencies peaked at 30 bps during the GFC compared with peaks of about 870 bps for CMBS and bank-originated loans. The quality of CMLs held by US life insurers has only deteriorated modestly in recent years and remains strong compared with the GFC.

The cushion between the rating headroom default rate and the GFC default rate is primarily reflective of the robust capitalisation across the life insurance industry and favourable historical performance of the life insurers’ CML portfolio. This favourable performance is a result of the high quality of the underlying loans.

Losses taken on CMLs were relatively modest in 2020, but are expected to increase in 2021-2023. Hotel and retail have accounted for the majority of losses since the onset of the pandemic. Hotel rates are often reset daily depending on business travel and discretionary spending. Retail properties were negatively affected by pandemic-related social distancing guidelines and closure of non-essential footprints.

Office properties remain vulnerable to a severe and prolonged downturn, driven by a potential large-scale shift toward increased remote working habits that could negatively affect demand for office space longer term. While long leases have protected office cash flows over the near term, valuations could remain pressured over the intermediate term due to increasing vacancies pressuring same property net operating income, and increased capitalisation rates.

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