Yesterday, Fitch Ratings downgraded the Insurer Financial Strength Rating (IFS) of Sri Lanka Insurance Corporation (SLIC) to “CC”, from “CCC+”, and placed the rating on Rating Watch Negative (RWN). SLIC’s national IFS rating of “AA(lka)” was also placed on RWN.
Fitch says the downgrade in SLIC reflects the likelihood of payments ceasing or halting on the company’s foreign currency obligations due to low foreign currency liquidity in the local banking system. Fitch believes that the counterparty risk of SLIC’s foreign currency assets has increased following the recent negative rating action on the Sri Lankan sovereign and various financial institutions. The insurer is exposed to foreign currencies through investments in Sri Lankan development bonds and deposits with local banks.
RWN is driven by heightened near-term downside risks to the insurer’s credit profile, including high investment and liquidity risk, pressure on its regulatory capital position and weaker financial performance prospects . The RWN also reflects potential pressure on SLIC’s foreign currency obligations due to tight foreign currency liquidity in the local banking system and the uncertain impact of non-insurance SLIC subsidiaries.
Downgrade of Sri Lanka’s sovereign ratings
Fitch believes that the recent negative sovereign rating measurement of Sri Lanka and various financial institutions underscores SLIC’s investment risks, as its investment portfolio is dominated by government-issued or government-guaranteed fixed income securities. It also includes deposits and securities issued by local banks, non-bank financial institutions and corporations. Fitch downgraded the Sri Lankan sovereign’s long-term foreign currency issuer default rating to ‘C’ from ‘CC’ and placed the ratings of several financial institutions on RWN, including those of 13 Sri Lankan banks. .
The government slows down the servicing of foreign currency bonds
Fitch assumes that the announcement by the Ministry of Finance on April 12, 2022 that state and public sector borrowers will cease all foreign currency debt payments on borrowings governed by law other than Sri Lankan law does not will not apply to the obligations of the policyholders of SLIC or the obligations of its subsidiaries. .
SLIC’s insurance business has no debt in its capital structure. However, one of its non-insurance subsidiaries took out foreign currency loans from a public bank, according to the latest annual report. It is unclear whether the subsidiary will have to stop payment of these loans or whether it would become the direct responsibility of the SLIC if the subsidiary is unable to pay, as the entity is ultimately owned by the state.
SLIC’s currency-denominated insurance contract obligations tend to be small and limited to certain non-automotive categories, according to the company. The insurer, like other domestic insurers, depends on access to foreign currency to make premium payments to foreign reinsurers and to cover other costs that usually originate abroad.
SLIC’s risky asset ratio calculated by Fitch (end 2020: 529%) is partly driven by the insurer’s large investments in listed and unlisted equities. Fitch believes that the recent five-day closure of the Colombo Stock Exchange undermines the liquidity of SLIC’s listed investments, especially if such closures become recurring.
Fitch believes that increased investment risks and earnings pressure could affect SLIC’s regulatory capital profile. A significant deterioration in the credit profiles of financial institutions could result in lower regulatory risk-based capital (RBC) ratios, as investments will be subject to additional risk charges in accordance with local RBC regulatory rules. SLIC’s Fitch Prism model score is “fairly low,” based on 2020 results, and is driven by high asset risk loads.
Fitch expects the weak operating environment to affect SLIC’s earnings, similar to the rest of the industry. Growth in motor insurance – the largest contributor to non-life premiums – is expected to remain subdued as Fitch expects the government ban on auto imports, imposed in 2020 to control currency depreciation. , continues. In addition, underwriting profit will be squeezed by rising auto parts costs due to currency devaluation, while overall costs will increase with rising inflation. Insurers, including SLIC, also have a limited ability to reprice policies, given the declining disposable income of customers.
SLIC, like other Sri Lankan non-life insurers, relies on international reinsurers to protect its non-motor business. Fitch believes that any material changes to reinsurance structures at renewal due to rising reinsurance costs could undermine the insurer’s risk management practices and ability to write new business.
Ratings of 7 other insurers placed on RWN
Yesterday, Fitch Ratings also placed the national financial strength ratings (IFS) of seven other Sri Lankan insurers on RWN.
The insurers are:
-Council of the National Insurance Trust Fund
– HNB Insurance PLC
-HNB General Insurance Limited
– Personal insurance company
-Continental Insurance Lanka Limited
-Co-operative Insurance Company Limited
-Sanasa General Insurance Company Limited
Fitch says RWN is driven by heightened near-term downside risks to insurers’ credit profiles, including elevated investment and liquidity risks, pressure on regulatory capital positions, and weaker financial performance prospects. weak. The RWN also reflects potential pressure on some companies’ foreign currency obligations due to tight foreign currency liquidity in the local banking system.
In fact, the reasons given by Fitch for marking the ratings of these insurers as RWN are similar to those given in the case of SLIC.
Fitch expects to resolve the RWN within the next six months once the impact on the insurer’s credit profile becomes more apparent. Fitch is also asking for more clarity on government restrictions on servicing foreign currency obligations, including the impact on the obligations of SLIC policyholders and the obligations of its non-insurance subsidiaries.