Fitch downgrades SLIC; places seven non-life insurers on watch for possible downgrade

While downgrading Sri Lanka Insurance Corporation Limited’s (SLIC) Insurer Financial Strength (IFS) Rating to  ‘CC’, Fitch Ratings has placed IFS ratings on seven non-life insurance firms on watch for possible downgrades  driven by  elevated investment and liquidity risks  combined with  impact of high inflationary environment on financials.

Fitch last week downgraded the country’s largest insurer, SLIC’s Insurer FIFS  Rating to ‘CC’, from ‘CCC+’, and placed the rating on Rating Watch Negative (RWN) while also placing SLIC’s National IFS Rating of ‘AA(lka)’ on RWN.

Simultaneously Fitch placed National Insurer Financial Strength (IFS) Ratings of seven Sri Lankan insurers including -National Insurance Trust Fund Board, HNB Assurance PLC, HNB General Insurance Limited, People’s Insurance PLC, Continental Insurance Lanka Limited, Co-operative Insurance Company Limited and Sanasa General Insurance Company Limited on Rating Watch Negative (RWN) for possible downgrades within next six months.

With Sri Lanka’s recent pre-emptive default on foreign debt, Fitch outlined  heightened near-term downside risks to the insurers’ credit profiles, including elevated investment and liquidity risks, pressure on regulatory capital positions and a weaker financial performance outlook. 

Adding into existing woes, Fitch highlighted that currency devaluation and rising inflation would impact both bottom and top lines of insurers.

“..underwriting profits will be squeezed by rising motor spare-part costs due to currency devaluation, while overall costs will climb with rising inflation. Insurers also have limited ability to reprice policies, given the dent in customers’ disposable incomes,”

Further, it expects the weak operating environment to impact the earnings of Non-Life insurance sector players including SLIC with the growth in  motor insurance - the largest contributor to non-life premiums likely to remain subdued, as the government’s ban on auto imports, imposed in 2020 to control forex outflows to remain in effect for near future.

Moreover, Fitch also believe the heightened investment risks and earnings pressure could also impact insurers’ regulatory capital profiles given most of their investment portfolios are dominated by fixed-income securities issued or guaranteed by the government, deposits and securities issued by local banks, non-bank financial institutions and corporations.

“A significant deterioration in the credit profiles of financial institutions could lead to lower regulatory risk-based capital (RBC) ratios, as investments will be subject to incremental risk charges according to local regulatory RBC rules,” it warned.

Fitch also highlighted some of specific risks and challenges of SLIC including  potential pressure on
SLIC’s foreign-currency obligations due to stretched foreign-currency liquidity in the local banking system and the uncertain impact from SLIC’s non-insurance subsidiaries.

Although, SLIC’s insurance operation does not have any debt in its capital structure, Fitch noted that one of its non-insurance subsidiaries has foreign-currency borrowings from a state-owned bank
“It is not clear if the subsidiary will have to stop payment on these borrowings or if this would become SLIC’s direct liability should the subsidiary be unable to pay, as the entity is ultimately owned by the state,” it said.

Further, It was also concerned of SLIC’s exposure to locally issued Sri Lanka Development Bonds  (SLDB) and large investment in listed and unlisted equities. SLIC’s Fitch-calculated risky asset ratio stood at 529 percent at-end 2020 which was partly driven by the insurer’s large investment in listed and unlisted equities.  

It stressed that the recent five-day closure of the Colombo Stock Exchange undermines the liquidity of SLIC’s listed investments, especially if such closures become recurrent.

With the non-life insurers rely on international reinsurers to mitigate risks in their nonmotor businesses, Fitch warned insurers on any  material changes to reinsurance structures upon renewal due to rising reinsurance costs.
“Any material changes to reinsurance structures upon renewal due to rising reinsurance costs could undermine the insurer’s risk management practices and ability to write new business,” it said.