Insurers and society How regulation affects the insurance industry’s ability to fulfil its role A report from the Economist Intelligence Unit Sponsored by: © The Economist Intelligence Unit Limited 2012 xx INSURERS AND SOCIET Y: HOW REGULATION AFFECTS THE INSURANCE INDUSTRY’S ABILIT Y TO FULFIL ITS ROLE contents Executive summary Preface About this report Introduction Striking the right balance Who will pay the price? Shifting down the risk spectrum 14 Implications for companies seeking financing 17 Predicting the unintended consequences 19 Conclusion 21 Appendix 22 © The Economist Intelligence Unit Limited 2012 executive summary As discussion of the details of the Solvency II regime rolls on, insurers are thinking long and hard about how they will manage and monitor their risk strategies and capital bases But the implications of their decisions will reach far beyond the boardroom, affecting both their relationships with corporate and individual policyholders, and also their role as major investors in the debt and equity capital markets The new regulations were designed to ensure better protection for policyholders, but raise important questions about the extent to which consumers and corporates will ultimately foot the bill for Solvency II, either directly through higher costs or indirectly via less comprehensive products Meanwhile, the demands of the new regime threaten to disrupt the key role played by insurers as investors in the capital markets, by pushing them towards ‘safer’ assets with lower capital charges, and away from the equities and noninvestment grade debt on which much private industry depends for financing This could be a particularly troubling outcome for businesses seeking to raise capital, given that banks remain reluctant to lend because of their own balance sheet constraints The Economist Intelligence Unit, on behalf of BNY Mellon, conducted a survey of 254 EU-based companies, including insurers, other financial institutions (FIs, excluding insurers) and corporates (non-financial institutions, or non-FIs) The findings shed light, from a broad range of perspectives, on the potential impact of Solvency II on the retail consumer, the insurance industry itself and industry more broadly, including how insurers are likely to behave as debt and equity investors Key findings include: S olvency II goes too far in its requirements Survey respondents believe that Solvency II oversteps the mark, with only 16% agreeing that it strikes the right balance in ensuring insurers have sufficient capital to meet their guarantees Insurers and FIs (excluding insurers) are more critical of Solvency II, with 55% believing the directive goes too far compared with 39% of corporates (non-FIs) Less than one in five insurance respondents believe that most insurers are insufficiently capitalised under the present regime © The Economist Intelligence Unit Limited 2012 INSURERS AND SOCIET Y: HOW REGULATION AFFECTS THE INSURANCE INDUSTRY’S ABILIT Y TO FULFIL ITS ROLE olicyholders will ultimately P bear the costs Almost three-quarters (73%) of survey respondents agree that the costs to insurers of compliance with the new regulations will be passed on to policyholders, and there is concern that both corporates and individuals may choose to be underinsured as a consequence However, insurers are markedly less convinced (57%) than FIs (excluding insurers) (82%) and corporates (non-FIs) (69%) that policyholders will pick up the tab, raising the question of how they see the costs of regime change being met Also, over one-half (51%) of respondents believe the shift to unit-linked policies, which put the investment risk on the policyholder, will have a negative long-term affect on pension and long-term savings provision, with life insurance and annuities considered the products most likely to be affected I nsurers expect to further de-risk their asset allocations A clear shift down the risk spectrum is anticipated by respondents Assets expected to attract more interest include investment-grade corporate bonds, cash and short-dated debt, at the expense of non-investmentgrade bonds, equities and long-dated debt Almost three in five (58%) respondents overall believe that shift will happen gradually, giving time for market adjustment But nearly one-third of corporates (non-FIs) (32%) not believe the changes will have an adverse impact on any asset class, suggesting they may not fully understand the wider financial implications of the new regime C orporates seem less aware of the impact Solvency II will have on debt issuance Among insurers and FIs (excluding insurers) there is a strong consensus that Solvency II will make the tenor and rating of bonds from corporate issuers more significant, as insurers, driven by capital charge considerations, are increasingly pushed towards investment-grade debt However, corporates (non-FIs) seem less aware of this shift, with just 48% agreeing compared with 62% of insurers and 79% of FIs (excluding insurers) The reality is that companies are likely to have to either adjust their capital structure to achieve investment-grade status or offer higher yields in compensation for the capital cost to insurers egulators should revisit R their capital charge levels Given the economic risks attached to many EU countries at present, there is strong support, particularly among insurers (50%), for regulators to reassess the zero capital charge for sovereign bonds—despite the fact that a readjustment would mean they would be required to hold further capital A further 41% of insurers would like to see the capital charges for all assets reconsidered Overall, less than onequarter (22%) of respondents believe that regulators should maintain the current capital charges I s Solvency II creating a ‘squeezed middle’ among insurers? While large insurers are able to absorb the costs of preparation for Solvency II and enjoy the benefits of economies of scale, and the small, local or specialist providers prevalent in continental Europe may either fall outside the scope of Solvency II altogether or have a sufficiently strong niche market to survive and thrive, the mid-sized mutual insurers could be at a disadvantage Only 16% of respondents expect no material impact from Solvency II on the structure of smaller friendlies and mutuals, and more than one-half (54%) believe the pressures of the new regime will result in a spate of consolidations to achieve scale, while 36% of insurers believe these players will outsource more in order to access scale © The Economist Intelligence Unit Limited 2012 preface Insurers and Society is an Economist Intelligence Unit report, sponsored by BNY Mellon The findings and views expressed in the report not necessarily reflect the views of the sponsor The author was Faith Glasgow and the editor was Monica Woodley about this report In January 2012, the Economist Intelligence Unit, on behalf of BNY Mellon, surveyed 254 respondents from companies in Europe to get their views on how regulation is changing insurers’ role in society The survey reached insurers, financial institutions (FIs, excluding insurers) as well as corporates (non-financial institutions, or non-FIs) Respondents are very senior, with over one-half (133) coming from the C-suite or board level They were drawn from Europe, with the UK, Spain, Germany, the Netherlands, Denmark and Sweden each having over 20 respondents In addition, in-depth interviews were conducted with six experts Our thanks are due to the following for their time and insight (listed alphabetically): Jenny Carter-Vaughan, managing director of the Expert Insurance Group James Hughes, chief investment officer at HSBC Insurance J ulian James, UK CEO of broker Lockton International and president of the Chartered Insurance Institute (CII) Ravi Rastogi, senior investment consultant at Towers Watson Jay Shah, head of business origination at the Pension Insurance Corporation Randle Williams, group investment actuary at Legal & General © The Economist Intelligence Unit Limited 2012 INSURERS AND SOCIET Y: HOW REGULATION AFFECTS THE INSURANCE INDUSTRY’S ABILIT Y TO FULFIL ITS ROLE introduction Insurance companies have traditionally been viewed by wider society as the bearers and managers of formalised risk, freeing individual policyholders from financial worries in the event that things go wrong, and providing institutions with an efficient mechanism by which to transfer risk They have also historically played a central role as institutional investors, channelling funds into the capital markets and providing industry with crucial flows of both equity and debt capital Are those longstanding roles under threat with the impending introduction of Solvency II in the European Union? Solvency II aims, among other things, to provide policyholders with more robust protection by requiring insurers to hold capital according to all their business risks—including the differing risks attached to the various asset classes in which they invest clients’ cash But these changes are set to upset the status quo, not just for insurers but for policyholders and also for companies looking to attract investors through the capital markets Policyholders are likely, for example, to see the cost of premiums rise—potentially pushing some to opt to reduce or ditch their cover rather than pay more Companies seeking investors, meanwhile, may find it harder to raise funds in the capital markets—at the very time when banks, for their own reasons, are reluctant to lend Insurers themselves are likely to have to adjust their investment timescales and strategies of asset allocation, potentially finding themselves under conflicting strains as they try to find the best balance between risk, return and capital efficiency In this report, we explore the danger that regulation may, ironically, force insurers to reduce the amount of risk they take—and instead offload that risk on to their stakeholders © The Economist Intelligence Unit Limited 2012 Striking the right balance As insurers play a central economic and social role in modern Western societies, it has been accepted since the 1970s that some form of prudential supervision by the authorities is necessary measuring risk on consistent principles and linking capital requirements directly to those principles They will apply throughout the EU, harmonising standards and providing a level playing field for insurers across the euro zone Until now, the focus has tended to be on measures to guarantee the solvency of insurers or minimise the disruption caused by their insolvency Solvency II raises the stakes across the board by introducing a risk-based capital approach, But our survey findings indicate that although there is a perception that something needs to be done to improve the current situation and harmonisation should bring its own benefits, the proposed regime could be overly cautious Chart 1: Do you agree or disagree with the following statement? Most insurers already have sufficient capital to meet their guarantees All respondents 36% 39% agree neutral Corporates (non-FIs) 33% Insurers 44% 38% agree neutral FIs (excluding insurers) 36% agree 36% neutral agree 40% neutral © The Economist Intelligence Unit Limited 2012 25% disagree 31% disagree 18% disagree 24% disagree INSURERS AND SOCIET Y: HOW REGULATION AFFECTS THE INSURANCE INDUSTRY’S ABILIT Y TO FULFIL ITS ROLE Chart 2: Do you agree or disagree with the following statement? Solvency II goes too far in ensuring insurers have sufficient capital to meet their guarantees Corporates (non-FIs) % 15 1% Insurers FIs (excluding insurers) 13% 39% 16% all respondents 34% 51% 55% 33% disagree agree % 31 neutral 40 % 55 % On the one hand, just over one-third (36%) of respondents believe that most insurers already have enough capital to meet their guarantees, and even among insurers themselves that confidence only rises to 44% So there is a broad acknowledgement that measures to improve the capital cover of insurance companies are in order On the other hand, just 16% of all respondents agree that Solvency II will strike the right balance in ensuring that insurers are properly capitalised in line with their guarantees, and over one-half (51%) say that it goes too far As Jenny Carter-Vaughan, managing director of the Expert Insurance Group, observes: “No one has gone down in the insurance industry for a very long time; I’d say the current solvency regime is very robust.” Randle Williams, group investment actuary at Legal & General, points out that it is unsurprising that the industry feels that the authorities are setting the capital charges too high “It’s important to remember that some EU countries don’t have any compensation net comparable to the UK’s Financial Services Compensation Scheme in place to protect consumers But the tendency of regulators is to go too far—they always want more capital,” he says However, Julian James, UK CEO of Lockton International, a broker, and president of the Chartered Insurance Institute (CII), observes that harmonisation across the EU means that there will be both winners and losers, so it is difficult to Chart 3: Do you agree or disagree with the following statement? Most insurers already have sufficient capital to meet their guarantees Life 32% agree 47% 21% neutral disagree General 50% agree Composite 50% agree 27% neutral 43% neutral © The Economist Intelligence Unit Limited 2012 23% disagree 7% disagree sovereign debt should be reconsidered—a sensible suggestion in the light of the self-evident mismatch between these supposedly ‘risk-free’ governmentissue assets and continuing deep uncertainty over the extremely fragile economic situation in some EU states generalise “Some insurers will see their capital requirements increase, but others will see a decrease,” he says “For consumers, though, the important thing is the knowledge that the insurer will have the same level of capital cover if they buy in France or Germany as if they were buying in the UK.” Insurers are less likely than other survey respondents to support the proposed capital charges of Solvency II—just 9% compared with 22% of FIs (excluding insurers) and 26% of corporates (non-FIs) But what is surprising is that one-half of insurers favour just reassessing the capital charge for euro zone debt, compared with 41% who would like to see charges for all asset classes reconsidered Insurers and FIs (excluding insurers) are markedly more critical of the looming regime than corporates (non-FIs), with 55% believing it will go too far and insurers will be over-capitalised for the level of guarantees they have to meet, compared with 39% of corporates (non-FIs) This raises the question of whether corporates, while attracted by the idea of greater security, fully understand the potential implications of an over-capitalised insurance industry for their future activities in the financial markets The dramatic events in Europe over the past months, reflected in a series of bond market crises, have made it clear that it is not realistic, nor sensible, to talk about a zero risk rate at the present time However, any alteration to the capital charge of this debt will have to be upward— which will certainly not be in insurers’ interests “I can’t see why any insurer would want to see a reassessment,” says Ms Carter-Vaughan of Expert Insurance Group Looking specifically at the capital charges that Solvency II will institute for different asset classes, survey respondents are in favour of a reassessment—just 22% say the current charges should be maintained Most are in favour of an across the board reassessment (43%), but 35% say that only the zero capital charge for euro zone Chart 4: Do you agree or disagree with the following statement? Solvency II sets capital charges for different assets according to their risk level, with EEA sovereign bonds given a zero-credit risk charge In light of the eurozone debt crisis, what you think should happen to the capital charges of Solvency II? All respondents FIs (excluding insurers) Insurers Corporates (non-FIs) Regulators should maintain the current capital charges 22% 22% 9% 26% Regulators should reconsider the capital charges for all asset classes 43% 42% 41% 48% Regulators should reconsider the capital charge for sovereign bonds 35% 36% 50% © The Economist Intelligence Unit Limited 2012 26% INSURERS AND SOCIET Y: HOW REGULATION AFFECTS THE INSURANCE INDUSTRY’S ABILIT Y TO FULFIL ITS ROLE Who will pay the price? There is a clear feeling that the bill for Solvency II—both the costs of testing and implementation and the ongoing costs of holding a greater amount of capital—will have to be absorbed by insurance companies’ customers Almost three-quarters (73%) of survey respondents see it as inevitable that Solvency II will ultimately be paid for by policyholders through higher costs, although one-half feel that price increases are an acceptable trade-off for the additional security provided by enhanced capital guarantees “It’s inevitable that the new regulations will be paid for by policyholders Greater security is a quid pro quo [for the higher cost], but people % % 16 11% all respondents 82% Corporates (non-FIs) Insurers 69 % disagree 16% neutral 7% 17% FIs (excluding insurers) © The Economist Intelligence Unit Limited 2012 73% agree 57% 15% 26% 12 Chart 5: Do you agree or disagree with the following statement? Solvency II will ultimately be paid for by policyholders through higher costs INSURERS AND SOCIET Y: HOW REGULATION AFFECTS THE INSURANCE INDUSTRY’S ABILIT Y TO FULFIL ITS ROLE However, corporates (non-FIs) not seem to see at this stage the connection between regulatory requirements and their own funding preferences: only 48% concur, and 21% disagree outright Over time, however, it is likely that debt-issuing companies will adjust their behaviour to try to align with insurers’ requirements They may have to issue shorter-dated debt on a more frequent basis They may also adjust their capital structure to achieve investment-grade status, or offer higher yields in compensation for the capital costs to insurers Most notably, a clear majority (60%) of survey respondents agree that unrated companies may have to pay higher yields to attract insurers in the aftermath of Solvency II But insurers as a group are markedly less convinced Only 39% agree, compared with 73% of FIs (excluding insurers) and 53% of corporates (non-FIs) This suggests that, 17 © The Economist Intelligence Unit Limited 2012 48% agree 62% agree FIs (excluding insurers) Chart 15: Do you agree or disagree with the following statement about corporate debt issuance? Solvency II makes the tenor and rating of bonds from corporate debt issuers more significant Insurers There is a strong consensus among FIs (excluding insurers) and insurers that the new regulations will make the tenor and rating of corporate bonds more significant, as insurers, driven by capital charge considerations, are increasingly pushed towards investment-grade debt at the expense of lower-grade debt Insurers obviously understand their own capital considerations and FIs (excluding insurers), looking at their own funding requirements under Basel III, will be very aware of the importance of tenor Basel III aims to improve banks’ stability by requiring them to hold more long-term debt funding than in the past But that requirement is at odds with Solvency II, which makes holding long-dated debt less attractive to insurers In other words, there is the risk that banks and insurers are set to find themselves pulling in opposite directions Corporates (non-FIs) Implications for companies seeking financing 79% agree 31% neutral 31% neutral 21% 17% disagree neutral 7% disagree 3% disagree 25% neutral 15% disagree 53% agree 39% agree 37% 31% neutral neutral 16% disagree unlike other groups with less knowledge of the implications of the new regulations, they know they may be unable to afford the capital charges associated with such companies’ debt, no matter how generous the yield “Of course, insurers will have to assess the risk versus reward profile for any corporate debt they consider buying, but they will only have a finite amount of capital available as cover,” comments Mr Rastogi of Towers Watson “It will be a question of finding the optimal mix of assets within their specific risk budget.” Mr Williams of Legal & General speculates that insurers may be allowed to appeal to the authorities on the grounds that they have built up a strong portfolio of BBB-rated debt and therefore have the expertise to make distinctions on the grounds of a company’s security and quality He believes that the shift away from non-investment-grade debt could cause significant difficulties for many companies “EIOPA wants to see a lower chance of default on insurers’ investments, through the use of highergrade debt But many smaller, well-established industrial firms across the EU are graded BBB Of course they are not as secure as blue-chips, and they pay higher yields to compensate, but they are not inherently risky propositions Importantly, it’s these companies that tend to lead their countries out of recession, and if the banks are not lending and the insurers are penalised for buying their debt, they will face a big problem.” © The Economist Intelligence Unit Limited 2012 24% disagree FIs (excluding insurers) agree Insurers 60% Corporates (non-FIs) All respondents Chart 16: Do you agree or disagree with the following statement about corporate debt issuance? Unrated corporates will be forced into paying higher yields as that will make their debt more attractive to insurers post-Solvency II 73% agree 16% neutral 11% disagree An examination of the implications of Solvency II for companies trying to raise debt throws up another concern—that the regulators may have failed to consider the big picture, and that there is a mismatch between the aims of this piece of regulation and those of Basel III When asked whether the two directives represent a conflict of interests for banks and insurers, and if so what the consequences might be, the majority of survey participants who offered an opinion were in agreement, although they gave a wide range of possible outcomes “I think these regulations might create conflict; they may increase demand for sovereign debt from both banks and insurers,” commented one UK-based bank respondent Others suggested that the main consequence could be a more volatile market “The potential conflict between these two directives could put EU banks and their funding at risk,” added a composite insurance respondent from the UK A number were more cautious, admitting that until Solvency II comes into force, it will be very difficult to predict how the clash of interests will affect those involved “I think that these regulations are going to create conflicting goals, but the consequences are still unknown We will have to wait until their implementation,” said a bank respondent based 3in Denmark 18 INSURERS AND SOCIET Y: HOW REGULATION AFFECTS THE INSURANCE INDUSTRY’S ABILIT Y TO FULFIL ITS ROLE Predicting the unintended consequences There are fears that the regulatory regime of Solvency II will introduce a host of unforeseen problems The survey findings indicate that there is little sense of any profound need for additional regulation in terms of insurers meeting their obligations to policyholders Most respondents— particularly insurers (62%) and pension funds (64%), unsurprisingly—consider the current level of regulation sufficient Moreover, there are serious concerns among respondents that regulators have not thought through the broader impact of the new legislation on capital markets Answers to an open question in the survey highlight the sheer range of potential problems A number of respondents are worried about the idea of introducing a complex and potentially restrictive regime at a time when both EU economies and markets are so fragile As one bank respondent from Denmark puts it: “Capital markets are in a bad shape right now and are not ready for a major change.” Several voice concerns about the negative impact on wider economic growth, and one, another bank respondent from Denmark, adds that it is not only macroeconomic factors that are at risk, “but also the pressure put on the financial sector due to the timing of Basel III and Solvency II.” Others highlight the impact on particular asset classes “My main concern is that insurers are 19 © The Economist Intelligence Unit Limited 2012 Chart 17: Do you agree or disagree with the following statement on regulation? The current level of regulation is sufficient to ensure that the insurance industry is able to fulfil its obligations to policyholders All respondents 56% 18% 26% agree neutral disagree Corporates (non-FIs) 48% agree 21% 31% neutral Insurers 62% disagree 17% 21% agree neutral disagree FIs (excluding insurers) 58% agree 16% 26% neutral disagree Chart 18: How will Solvency II impact the structure of smaller friendly societies and mutuals? 20% They will outsource more to access scale 54% They will consolidate to achieve scale being dissuaded from buying long-term bonds under the EU Solvency II rules,” says a life insurance respondent from the UK But others are worried about the impact on equity markets, growth in demand for derivatives, the trend towards a more concentrated range of asset classes and the risk of a further credit crunch as a consequence of over-regulation A further area of uncertainty focuses on the impact of the new regime on smaller friendly societies, mutuals and monoline insurers Mr Williams of Legal & General makes the point that large insurers with a range of products have the resources to absorb additional overhead costs, and that at the other end of the spectrum the industry in Europe is much more skewed towards small mutual specialists serving a local community, who have their own well-established niches and may be below the minimum size to qualify for Solvency II regulation anyway “It’s the monoline providers in the middle who are likely to be more disadvantaged than either of these groups,” he says More than one-half (53%) of all respondents expect to see a spate of consolidation as smaller insurers try to achieve economies of scale; a further 20% anticipate that they will move towards outsourcing more functions © The Economist Intelligence Unit Limited 2012 11% They will close to new business 16% There will be no material impact Ms Carter-Vaughan of Expert Insurance Company agrees that the insurance giants are in a stronger position because of their resource base Mediumsized firms, especially broker-only businesses without their own direct distribution arm, are in a particularly difficult position, exacerbated by the economic climate “These businesses may be well-capitalised, with generous solvency margins—but if they’re invested in government bonds and banks, and the ratings agencies take a view on that investment base and downgrade their ratings, as has happened already to some firms, the insurance brokers will have to drop away,” she explains “Solvency II will make this much worse—it couldn’t be happening at a worse time.” However, Mr Shah of PIC disagrees that it is all a matter of scale, observing that large multi-national insurers with subsidiaries in different EU countries are likely to face their own problems “Before Solvency II, local regimes often understated the amount of capital needed by insurers, on the grounds that the multi-national parent was holding a sensible amount at group level, albeit in other jurisdictions Solvency II will push the obligation to hold the right amount down to subsidiary level, and limit companies’ ability to move capital around between countries as needed.” 20 INSURERS AND SOCIET Y: HOW REGULATION AFFECTS THE INSURANCE INDUSTRY’S ABILIT Y TO FULFIL ITS ROLE conclusion It is clear that while some boost to the current regulatory situation may be necessary, both the potential consequences and the timing of Solvency II are a source of considerable concern Indeed, it seems that while the new regime would be bound to have ramifications regardless of when it is introduced, the euro zone’s current difficult political and economic climate and wider tough investment conditions are all set to make things worse for insurers and their stakeholders alike There are various implications for policyholders, but the bottom line is that premiums are likely to increase in price—as a result of the implementation and overhead costs of Solvency II, the further reliance on underwriting profit rather than investment return and because the range of providers may shrink as firms are pushed into consolidation Some policyholders may be forced to reduce their levels of cover or drop some insurances altogether because of price increases There is also a risk that they will find it harder to source more unusual types of cover because of the contraction in the number of middle-sized firms, which have traditionally played an innovative role in the insurance marketplace Savings and investment products are also likely to be affected As the costs of guarantees become clearer, they will inevitably increase Investors generally see guarantees as attractive but not place the same value on them as the cost to hedge those guarantees—the challenge to the industry will be to find the right balance The possible consequences are arguably also serious for companies seeking to raise money in the capital markets, where insurance companies are major institutional investors Insurers are likely to shift their portfolios down the risk spectrum, away from equities and lower-quality 21 corporate debt and towards ‘safer’ assets such as cash and investment-grade debt But that may leave a tranche of smaller companies— companies that could be leading European economies back towards growth—with serious funding problems because they not have a high enough debt rating So what is the prognosis for the future, and for Solvency II’s progress onto the statute books? Mr James of Lockton emphasises that what the insurance market really wants is “absolute clarity as to how the rules will be applied” Implementation is still two years away, in 2014, and clearly there will be many discussions before everything is clarified, particularly given the highly uncertain political and economic backdrop against which decisions must be made One area where regulators must consider the implications of Solvency II is the impact on the cost of guarantees EU regulators seem to want safety at all costs and appear to be more comfortable with people being under-insured rather than properly insured but somewhat at risk of the guarantee not being met by the insurer Mr Shah of PIC believes that the European authorities are likely to have to agree on substantial compromises to make it more workable and acceptable to national regulators and the industry, if it is to be in place roughly on time There is also pressure to get things right as Solvency II’s reach has potential to go beyond the EU “Many foreign regulators, particularly those in developing markets, look to the EU and the US for guidance on key principles as they don’t want to be out of sync with these major markets,” comments Mr Hughes of HSBC Insurance “This could make Solvency II even more far-reaching in the future.” © The Economist Intelligence Unit Limited 2012 appendix: survey results In which country are you personally located? (% respondents) Spain 18 United Kingdom 16 Denmark 13 Germany 12 Netherlands 11 Sweden 10 Finland France Luxembourg Belgium Ireland Note: numbers not add to 100% due to rounding 0 What is your primary job function? respondents) (% Finance 72 Risk 24 IT General management 12 Operations and production 0 0 © The Economist Intelligence Unit Limited 2012 22 INSURERS AND SOCIET Y: HOW REGULATION AFFECTS THE INSURANCE INDUSTRY’S ABILIT Y TO FULFIL ITS ROLE Which of the following best describes your job title? (% respondents) CFO/Treasurer/Comptroller 30 Head of department 28 SVP/VP/Director 15 Other C-level executive CEO/President/Managing director Board member Head of business unit CIO/Technology director Other Note: numbers not add to 100% due to rounding 0 What is your primary industry? respondents) (% Automotive Chemicals Construction and real estate Consumer goods Financial services 71 Government/Public sector Healthcare, pharmaceuticals and biotechnology IT and technology Manufacturing 10 Power & utilities Professional services Retailing Telecommunications Transportation, travel and tourism 23 © The Economist Intelligence Unit Limited 2012 What is your main business? (% respondents) Pension fund 25 Bank 25 Non-financial corporates 25 General Life 25 Composite - both life and general Asset manager Other, please specify 25 0 What are your company's annual global revenues? (% respondents) €500m or less 21 €500m to €1bn 44 €1bn to €5bn 15 €5bn to €10bn €10bn or more 10 11 15 20 25 What are your organisation’s assets under management (AUM)? respondents) (% €100m or less €100m to €500m 14 €500m to €1bn 11 €1bn to €10bn 30 €10bn to €25bn €25bn to €50bn €50bn or more 34 0 0 0 0 © The Economist Intelligence Unit Limited 2012 24 INSURERS AND SOCIET Y: HOW REGULATION AFFECTS THE INSURANCE INDUSTRY’S ABILIT Y TO FULFIL ITS ROLE What are the most important roles the insurance industry plays in society? Select up to three (% respondents) Allowing individuals to protect themselves from risk 74 Allowing institutions to protect themselves from risk 56 Acting responsibly in their dealings with policyholders 35 Acting responsibly as shareholders of corporations 34 Complying with regulations set by government 32 Acting responsibly as providers of debt and equity capital to corporations 30 Generating tax revenues for central government 0 Do you agree or disagree with the following statements? (% respondents) Agree Neutral Disagree It is the duty of insurers to contribute positively to society 82 13 It is the duty of insurers to deliver returns to shareholders 67 20 13 It is the duty of insurers to provide financial stability to policy holders/customers 79 14 It is the duty of insurers to comply with all applicable laws and regulations, but beyond that, they have no duty to contribute positively to society 41 30 30 The insurance industry in the European Union generally contributes positively to society 10 20 Note: numbers not add to 100% due to rounding 30 40 50 69 60 22 70 80 0 Will Solvency II make it more difficult for insurers to any of the following? Select all that apply respondents) (% the same level of investment risk as pre-Solvency II Take 57 Achieve similar investment returns as pre-Solvency II 54 Achieve investment returns sufficient to maintain current consumer pricing (such as insurance premiums) 52 Deliver a similar return on capital to shareholders as pre-Solvency II 56 Deliver a return on capital sufficient to satisfy most shareholders 43 0 0 0 0 25 © The Economist Intelligence Unit Limited 2012 Do you agree or disagree with the following statements? (% respondents) Agree Neutral Disagree Solvency II goes too far in ensuring insurers have sufficient capital to meet their guarantees 51 34 16 Most insurers already have sufficient capital to meet their guarantees 36 39 25 Solvency II will lead to higher costs for policyholders but this is acceptable in view of the additional security provided by the capital guarantees 50 30 20 Solvency II will lead to higher costs to corporate policyholders, which will lead to more companies choosing to be under-insured 41 28 31 Solvency II will ultimately be paid for by policyholders through higher costs 73 16 11 Solvency II will ultimately be paid for by policyholders through inferior products 29 40 32 Solvency II will lead to higher costs to individual policyholders, which will lead to more people choosing to be under-insured 39 30 31 The shift to unit-linked policies, which put the investment risk on the policyholder, will have a negative long-term affect on pension and long-term savings provision 51 31 18 With-profits policies, which smooth the volatility of returns, would be valued by retail customers in today's turbulent market conditions 45 39 16 With-profits policies have been largely driven out of existence because of capital charges and accounting rules 39 38 23 numbers not add to 100% due to rounding Note: 0 Which products you think will be most negatively affected by Solvency II? Select up to two (% respondents) Life insurance 67 Annuities 43 Catastrophe insurance 26 Commercial insurance 25 Personal lines insurance 15 Other, please specify 0 0 0 0 0 10 20 30 40 50 © The Economist Intelligence Unit Limited 2012 60 70 80 26 INSURERS AND SOCIET Y: HOW REGULATION AFFECTS THE INSURANCE INDUSTRY’S ABILIT Y TO FULFIL ITS ROLE Because of Solvency II, insurers’ will have an increased/reduced appetite for these assets? Select all that apply (% respondents) Reduced Increased Non-investment-grade corporate bonds 55 Investment-grade corporate bonds 17 43 Equities 56 Long-dated debt 44 24 Short-dated debt 17 39 Emerging market sovereign debt 30 16 Developed but non-eurozone sovereign debt 21 16 Eurozone sovereign debt 26 21 Hedge funds 45 Infrastructure investment 62 26 15 Property 25 29 Private equity 37 14 Cash 16 40 Other, please specify 11 06 05 04 03 02 01 How you think insurers will implement any changes to asset allocation? 10 20 30 40 50 (% respondents) All at once, directly impacting asset markets over a short period of time 19 On a phased basis over a long period of time, with no shock effect to markets 58 In different ways, so no asset class is adversely impacted 23 0 Do you agree or disagree with the following statements? (% respondents) Agree Neutral Disagree Solvency II makes the tenor and rating of bonds from corporate debt issuers more significant 66 25 Corporates will be required to come to market for debt issuance more frequently post-Solvency II 59 28 13 Corporates will be forced into paying for ratings as that will make their debt more attractive to insurers post-Solvency II 59 29 12 Unrated corporates will be forced into paying higher yields as that will make their debt more attractive to insurers post-Solvency II 60 25 15 Note: numbers not add to 100% due to rounding 69 0 0 0 27 © The Economist Intelligence Unit Limited 2012 22 Solvency II sets capital charges for different assets according to their risk level, with EEA sovereign bonds given a zero credit risk charge (meaning insurers not need to hold capital against these assets) In light of the eurozone debt crisis, what you think should happen to the capital charges of Solvency II? (% respondents) Regulators should reconsider the capital charge for sovereign bonds 35 Regulators should reconsider the capital charges for all asset classes 43 Regulators should maintain the current capital charges 22 0 The European regulator is currently considering whether to introduce a Solvency II-style prudential regime occupational pension schemes What you think would be the impact of this? Select all that apply for (% respondents) It will add significantly to schemes’ funding requirements 55 It will lead to more defined benefit schemes to reduce investment risk 53 It will lead to the closure of many defined benefit schemes 41 It0will lead to more buy-outs of occupational pension schemes 29 0 0 00 Do 00 you agree or disagree with the following statements? (% respondents) Agree 00 Neutral Disagree It is appropriate to regulate occupational pension fund provision under a separate regime from that which insurers have to comply 0 10 20 61 30 27 40 12 50 The current level of regulation is sufficient to ensure that the insurance industry is able to fulfil its obligations to policyholders 0 56 18 26 59 41 29 60 12 25 How will Solvency II impact the structure of smaller friendly societies and mutuals? 69 15 22 (% respondents) 0 They will outsource more to access scale 0 10 20 20 They will consolidate to achieve scale 30 40 50 60 54 They will close to new business 11 There will be no material impact 16 numbers not add to 100% due to rounding Note: 0 0 0 0 0 0 © The Economist Intelligence Unit Limited 2012 28 INSURERS AND SOCIET Y: HOW REGULATION AFFECTS THE INSURANCE INDUSTRY’S ABILIT Y TO FULFIL ITS ROLE notes 29 © The Economist Intelligence Unit Limited 2012 While efforts have been taken to verify the accuracy of this information, neither The Economist Intelligence Unit Ltd, nor its affiliates can accept any responsibility or liability for reliance by any person on this white paper or any of the information, opinions or conclusions set out in the white paper The following regulatory disclosure language only applies to BNY Mellon and the distribution of this report by BNY Mellon BNY Mellon is the corporate brand of The Bank of New York Mellon Corporation The statements and opinions expressed in this report not necessarily represent the views of BNY Mellon or any of its respective affiliates The information in this report is not intended and should not be construed to be investment advice in any manner or form; its redistribution by BNY Mellon may be deemed a financial promotion in non-U.S jurisdictions Accordingly, where this report is used or distributed in any non-U.S jurisdiction, the information provided is for use by professional investors only and not for onward distribution to, or to be relied upon by, retail investors • This report is not intended, and should not be construed, as an offer or solicitation of services or products or an endorsement thereof by BNY Mellon in any jurisdiction or in any circumstance that is otherwise unlawful or unauthorized BNY Mellon Asset Management International Limited and its affiliates are not responsible for any subsequent investment advice given based on the information supplied • Past performance is not a guide to future performance The value of investments and the income from them is not guaranteed and can fall as well as rise due to stock market and currency movements When you sell your investment you may get back less than you originally invested © The Economist Intelligence Unit Limited 2012 30 24 London NewYork HongKong 26 Red Lion Square London WC1R 4HQ United Kingdom Tel: (44.20) 7576 8000 Fax: (44.20) 7576 8476 E-mail: london@eiu.com 111 West 57th Street New York NY 10019 United States Tel: (1.212) 554 0600 Fax: (1.212) 7576 8476 E-mail: newyork@eiu.com 6001, Central Plaza 18 Harbour Road Wanchai Hong Kong Tel: (852) 2585 3888 Fax: (852) 2802 7638 E-mail: hongkong@eiu.com © The Economist Intelligence Unit Limited 2012 2011 xx [...]... will push the obligation to hold the right amount down to subsidiary level, and limit companies’ ability to move capital around between countries as needed.” 20 INSURERS AND SOCIET Y: HOW REGULATION AFFECTS THE INSURANCE INDUSTRY’S ABILIT Y TO FULFIL ITS ROLE conclusion It is clear that while some boost to the current regulatory situation may be necessary, both the potential consequences and the timing... 13 It is the duty of insurers to provide financial stability to policy holders/customers 79 0 14 7 It is the duty of insurers to comply with all applicable laws and regulations, but beyond that, they have no duty to contribute positively to society 41 0 30 30 The insurance industry in the European Union generally contributes positively to society 0 10 20 Note: 0 numbers do not add to 100% due to rounding... time 19% 19% 19% 23% 26% © The Economist Intelligence Unit Limited 2012 16 INSURERS AND SOCIET Y: HOW REGULATION AFFECTS THE INSURANCE INDUSTRY’S ABILIT Y TO FULFIL ITS ROLE However, corporates (non-FIs) do not seem to see at this stage the connection between regulatory requirements and their own funding preferences: only 48% concur, and 21% disagree outright Over time, however, it is likely that debt-issuing... believes that the European authorities are likely to have to agree on substantial compromises to make it more workable and acceptable to national regulators and the industry, if it is to be in place roughly on time There is also pressure to get things right as Solvency II’s reach has potential to go beyond the EU “Many foreign regulators, particularly those in developing markets, look to the EU and the US... unknown We will have to wait until their implementation,” said a bank respondent based 3in Denmark 18 INSURERS AND SOCIET Y: HOW REGULATION AFFECTS THE INSURANCE INDUSTRY’S ABILIT Y TO FULFIL ITS ROLE 5 Predicting the unintended consequences There are fears that the regulatory regime of Solvency II will introduce a host of unforeseen problems The survey findings indicate that there is little sense... 16% Cash 1% Other, please specify © The Economist Intelligence Unit Limited 2012 40% 1% 14 INSURERS AND SOCIET Y: HOW REGULATION AFFECTS THE INSURANCE INDUSTRY’S ABILIT Y TO FULFIL ITS ROLE Specifically in the case of insurers responses, that reduced appetite for equities and lower-grade corporate debt is even more pronounced Insurers are also markedly more negative on infrastructure and property... INSURERS AND SOCIET Y: HOW REGULATION AFFECTS THE INSURANCE INDUSTRY’S ABILIT Y TO FULFIL ITS ROLE notes 29 © The Economist Intelligence Unit Limited 2012 While efforts have been taken to verify the accuracy of this information, neither The Economist Intelligence Unit Ltd, nor its affiliates can accept any responsibility or liability for reliance by any person on this white paper or any of the information,... challenge to the industry will be to find the right balance The possible consequences are arguably also serious for companies seeking to raise money in the capital markets, where insurance companies are major institutional investors Insurers are likely to shift their portfolios down the risk spectrum, away from equities and lower-quality 21 corporate debt and towards ‘safer’ assets such as cash and investment-grade... will make their debt more attractive to insurers post-Solvency II 73% agree 16% neutral 11% disagree An examination of the implications of Solvency II for companies trying to raise debt throws up another concern—that the regulators may have failed to consider the big picture, and that there is a mismatch between the aims of this piece of regulation and those of Basel III When asked whether the two directives... Luxembourg 5 Belgium 1 Ireland 1 Note: 0 numbers do not add to 100% due to rounding 0 0 What is your primary job function? 0 respondents) (% Finance 72 Risk 24 IT 2 General management 12 Operations and production 1 0 0 0 0 © The Economist Intelligence Unit Limited 2012 22 INSURERS AND SOCIET Y: HOW REGULATION AFFECTS THE INSURANCE INDUSTRY’S ABILIT Y TO FULFIL ITS ROLE Which of the following best describes ... Y: HOW REGULATION AFFECTS THE INSURANCE INDUSTRY’S ABILIT Y TO FULFIL ITS ROLE However, corporates (non-FIs) not seem to see at this stage the connection between regulatory requirements and their... INSURERS AND SOCIET Y: HOW REGULATION AFFECTS THE INSURANCE INDUSTRY’S ABILIT Y TO FULFIL ITS ROLE Who will pay the price? There is a clear feeling that the bill for Solvency II—both the costs... Denmark 18 INSURERS AND SOCIET Y: HOW REGULATION AFFECTS THE INSURANCE INDUSTRY’S ABILIT Y TO FULFIL ITS ROLE Predicting the unintended consequences There are fears that the regulatory regime of Solvency