FTSE 350: Life insurers' low rate challenge

The Bank of England may have raised interest rates by a meagre 25 basis points last year, but low rates look likely to continue, particularly if a disorderly Brexit hampers economic growth and inflation. But low rates are bad news for life insurers, increasing the value of long-term liabilities and reducing investment income. However, Solvency II ratios are well ahead of 100 per cent.

In the event of a 'no-deal Brexit', analysts at RBC Capital forecast a 50 basis point reduction in interest rates, a 75 basis point widening of credit spreads, and a 10 per cent fall in property prices in the first year, which it predicts would still leave UK Solvency II ratios comfortably above regulatory minimums, with Aviva (AV.) likely to suffer the largest reduction at 23 percentage points. However, that would still leave it with a ratio of 164 per cent, RBC Capital forecasts.

The low rate environment – combined with 2014’s pension freedom reforms – has meant life insurers are continuing to diversify away from traditional annuity and protection products. For Legal & General (LGEN), that has meant growing its de-risking business, which last year completed the largest ever UK bulk annuity transaction –  where an insurer takes on the responsibility of paying the retirement income of a large chunk of retired scheme members – by underwriting £4.4bn in liabilities for the British Airways pension scheme.

Prudential (PRU) has doubled down on the relatively immature Asian wealth management and health and protection markets, announcing plans to de-merge its UK and European business in March – an eventual sale is expected by many. The group has focused on expanding its product range and distribution partnerships, in particular trying to penetrate the Chinese life assurance market, where it is ranked number four by market share. That geographical focus is paying off – Asia drove a 13 per cent rise in new life business profit and 6 per cent growth in underlying cash generation for the life and asset management businesses during the first half of last year.

Will Aviva – one of the few composite life insurers – follow the trend and turn to specialisation this year? The group has put an April deadline on finding a new chief executive, after former boss Mark Wilson was ousted in October. The life insurer’s shares have underperformed most of its main UK rivals and the FTSE 100 index during the past three years, with efforts to cross-sell products not reflected in earnings. The solution put forward by some analysts is for the insurer to slim down, by product line and geography. Indeed, the new boss could provide the broom needed to kick-start growth.