Fitch’s sector outlooks for U.S. Life and U.S. P&C are ‘neutral’
Insurers’ investments to the failed banks (Silicon Valley Bank, Silvergate and Signature Bank) are modest. Fitch-rated insurance entities’ direct investment exposure to the failed banks (comprising debt and equity) is estimated to total $1.16 billion, with most of the exposure concentrated among life insurers
Fitch Ratings’ initial analysis around rated U.S. insurers’ exposure to now-failed banks indicates little direct exposure. Rated life insurers with exposures should have sufficient capital to withstand losses and related market volatility. Insurers’ stable liability and funding profiles will generally enable them to hold bonds until maturity, reducing pressure to sell them at a loss.
However, financial system interconnectedness and second-order effects could present short-term challenges.
Insurers’ investments to the failed banks (Silicon Valley Bank, Silvergate and Signature Bank) are modest. Fitch-rated insurance entities’ direct investment exposure to the failed banks (comprising debt and equity) is estimated to total $1.16 billion, with most of the exposure concentrated among life insurers.
Fitch recently commented on the failures of SVB and Signature Bank, highlighting the liquidity and funding challenges faced by banks as the Fed continues to raise the federal funds rate in its efforts to reduce inflation.
While higher interest rates create certain challenges for U.S. insurers, Fitch views the liability profiles of insurers as being comparatively stable. Life insurance products, whether protection or investment oriented, are generally intended to provide benefits over the long term or to fund long-term objectives, and often include surrender charges, which disincentivize withdrawals.
Non-life insurance contracts are designed to finance uncertain events. These product features provide stability to insurers’ liability profiles and promote their ability to match asset and liability durations and maintain sufficient liquidity.
In contrast, banks have very short liability duration, where depositors can generally demand the return of their deposits on any date without penalty, which generally leads to an inherent asset/liability duration mismatch.
Like banks, U.S. insurers, particularly life insurers, are large bond investors. The value of insurers’ bonds declined markedly in 2022, and for many large insurers, contributed to an overall decline in shareholders’ equity.
Fitch recently published a review of U.S. Life Insurance GAAP Results for YE2022. The review noted that Fitch-rated U.S. life insurers reported an aggregate 59% decline in GAAP basis shareholders’ equity in 2022, primarily related to rising interest rates.
Notwithstanding these mark-to-market losses, Fitch believes that insurers’ stable liability and funding profiles will generally enable them to hold these bonds until maturity, reducing pressure to sell them at an interest-rate-driven loss.
U.S. insurers’ regulatory capital ratio generally values bonds at amortized cost rather than market value. As a result, insurers’ interest-rate driven bond portfolio unrealized losses are unlikely to create regulatory capital funding needs.
In contrast, banks’ primary regulatory capital ratio, depending on the bank’s size and accounting treatment, incorporates a portion of interest-rate-driven unrealised losses.
The movement to higher market interest rates in the U.S. over the past 12 to 15 months has created near-term challenges for insurers, notwithstanding the liability profile mitigants mentioned above: in particular, an interest-rate driven decline in bond values and shareholders’ equity; lower equity market values; and reductions in assets under management, fee income and variable investment income.
Additionally, insurers are grappling with heightened macroeconomic volatility and the potential for a recession driven by geopolitical uncertainty, as well as differing expectations on the Federal Reserve rate tightening path, which the aforementioned bank failure exacerbated.
Fitch views the current interest rate environment as favorable for insurers’ earnings, but notes that the benefits are derived over time as portfolios turn over and insurers reinvest at more favorable rates.
Fitch’s sector outlooks for U.S. Life and U.S. P&C are ‘neutral’.