Fitch expects the UK life insurance sector’s strong business profile and capital headroom to continue to underpin ratings in the hypothetical scenario of the UK sovereign rating being downgraded by one notch to ‘A+’.
The insurers’ investment concentration exposure to UK gilts to remain within rating tolerances.
Its insurance criteria do not apply any mechanical sovereign rating cap to UK-based insurers’ ratings. Instead, sovereign rating changes can affect both the scoring of investment risks, as well as an insurer’s industry profile and operating environment (IPOE).
UK insurers are directly exposed to sovereign risk through their investments in gilts, says Fitch, however, it assesses Insurers’ exposure, as measured through the agency’s sovereign investments/capital ratio, as manageable under a scenario where the UK’s rating is downgraded by one notch.
Fitch does not expect a decline in its scoring of the UK insurance sector’s IPOE of ‘aa+ to a-’ under a one-notch downgrade scenario.
Under its criteria, Fitch observes that the midpoint of the IPOE range cannot exceed the sovereign rating, and a sovereign rating of ‘A+’ would remain within the mid-point.
Fitch consider regulatory oversight in the UK as very strong with very well-developed regulation and supervision. The pending UK government review of Solvency II (S2) regulations are unlikely to lead to a material reduction in capital requirements, and therefore will not prompt life insurers to significantly increase their risk appetites.
A two-notch sovereign downgrade scenario would result in a movement of the IPOE range to ‘aa’ to ‘bbb+’, and would also result in downward scoring of some insurer’s company profiles, which are tethered to the IPOE.
Therefore, if this were the case, some UK insurer rating outlooks and ratings would come under pressure.
Most UK life insurers reported a rise in S2 ratios in the first half of 2022, says Fitch, supported by resilient capital generation from in-force business and rising interest rates, which more than offsets the impact of wider credit spreads and negative equity markets.
Fitch expect S2 ratios to have improved further over the past three months as a result of further rising long-term interest rates, which raise S2 ratios through a reduction in risk margins and lower solvency capital requirements.