Fitch cuts Sri Lanka Insurance’s IFS to ‘CCC+’ on sovereign downgrade

• Cites high exposure to sovereign and sovereign-related investments as key reason
• Says slowdown in economic activity due to pandemic will hamper industry’s new business growth

Fitch Ratings has downgraded Sri Lanka Insurance Corporation Limited’s (SLIC) Insurer Financial Strength (IFS) Rating to ‘CCC+’, from ‘B’. Fitch typically does not apply Outlooks to ratings in the ‘CCC’ category or below. SLIC’s National IFS Rating was not covered in this review.

The rating action follows the downgrade of the Sri Lankan sovereign rating to ‘CCC’, from ‘B-’, on November 27, 2020, which heightened SLIC’s investment and asset risks on the international rating scale and increased the pressure on the operating environment and the insurer’s business profile. 

Fitch said SLIC’s rating continues to reflect its ‘Favourable’ business profile and a capital position and financial performance better than that of the domestic insurance industry.

Fitch believes the sovereign’s downgrade underscores SLIC’s investment risks, due to its high exposure to sovereign and sovereign-related investments. “Fitch, under our credit-factor scoring guidelines, scores the insurer’s investment and asset risk at ‘cc’ on the international rating scale, due to its high ‘risky-asset’ exposure,” the rating agency said. “SLIC’s Fitch-calculated risky-asset ratio was 331 percent at end-1H20 and we estimate the ratio to have increased to 487 percent on a pro forma basis, following the sovereign downgrade. We lowered the country’s Industry Profile and Operating Environment score after the sovereign rating downgrade, resulting in the lowering of SLIC’s business profile score under our credit-factor scoring guidelines to ‘b-’, from ‘b+’ on the international rating scale. Fitch continues to regard SLIC’s business profile as ‘Favourable’, compared with that of other Sri Lankan insurance companies, due to its leading business franchise, participation in well-diversified and stable business lines and large domestic operating scale,” it added.SLIC’s regulatory risk-based capital ratios of 451 percent for its life and 203 percent for its non-life segments at end-1H20 were well above the industry average and the 120 percent regulatory minimum. Fitch has evaluated SLIC’s capital score, measured by the Fitch Prism Model, at ‘Adequate’ on a consolidated group basis at end-2019. “We expect the insurer’s capital buffers, strengthened partly by its unallocated participating surpluses, to mitigate the impact from any potential investment losses stemming from volatile financial markets as a result of the coronavirus pandemic, although the unallocated participating surpluses declined significantly in 1H20, due to lower market interest rates,” the rating agency said.

Fitch believes the slowdown in economic activity, due to the pandemic, will hamper the industry’s new business growth.  “We expect new business generation for life insurance to be subdued in the near term, as most insurers use agency networks that rely on human interaction for distribution. We expect non-life business growth to slow in light of the government’s restriction on the import of motor vehicles to control currency depreciation,” the rating agency noted. Fitch expects the potential pressure on earnings from rising price competition, fuelled by constrained business growth and softer investment yields, to be somewhat mitigated by lower claims from motor insurance lines, due to a drop in traffic accidents, following the implementation of pandemic-related travel restrictions.  SLIC has consistently maintained its non-life combined ratio below 100 percent (1H20: 96 percent; 2019: 95 percent) for the past five years, buoyed by its scale advantages and prudent underwriting practices.