Europe
AM Best: UK, European Insurers Under Increasing Pressure

• David Pilla
• January 2021
• 

The COVID-19 pandemic casts a giant shadow as the U.K. and European insurance markets navigate current economic, regulatory and political issues, according to AM Best analysts.

Coverage problems brought up by COVID-19 have had the stage in recent months, but persistent low interest rates, other economic forces, and regulation share the spotlight, analysts said at AM Best's Insurance Market Briefing–Europe.

There is a wide range of estimates for COVID-19-related insurance industry losses, from $30 billion to $100 billion, said Carlos Wong-Fupuy, senior director, global reinsurance ratings based in the United States. Reported losses are estimated at $25 billion, including both insurance and reinsurance companies.

“We have a very big component, for example, of event cancellation claims here, which are the most easy ones to be assessed and estimated,” said Wong-Fupuy.

“The second big one is obviously business interruption,” he said. “We have differences between the situation in the U.S. where policy wordings are much more clear and exclusions are more explicit.” Litigation in a number of cases is still to be resolved, he said.

Business interruption has been a big issue in the U.K. market, said Catherine Thomas, senior director, analytics.

“Whether these policies cover BI resulting from government action to control a pandemic such as COVID-19 depends on contract wording,” she said. “This has proven to be ambiguous. With variations in both the type of cover provided and the wordings used, we've seen disputes as to whether these COVID-19-related BI claims are valid or not.

“In many cases, what's become clear is that there's a disparity between what the insured believes is covered by the policy, and what the insurer does,” said Thomas. “These disputes prompted the conduct regulator in the U.K., the Financial Conduct Authority, to bring a test case to the U.K. courts.”

The U.K. Supreme Court was slated to rule by late December on an appeal of the test case that will determine whether insurers are liable to cover the business interruption claims of about 370,000 policyholders who suffered losses from the pandemic.

The British High Court in September ruled in favor of businesses. The conclusion of that was most disease clauses in policy wordings that form part of that test case provided cover largely in favor of the policyholder, said Thomas.

“However, denial-of-access wordings were found to be more restrictive, with the validity of these claims hinging on the nature in which the COVID-19 restrictions affected individual businesses,” she said. “In our view, that judgment does provide policyholders with increased clarity as to whether they will receive a payment from their insurers. That's a process that otherwise would have been more lengthy and more costly for them.”

The insurers themselves now have a better understanding of which policies are expected to respond to claims, said Thomas.

“Event cancellation is another line that has driven COVID-19 losses,” said Thomas. Lloyd's estimates that this line of business will be the source of around 40% of its COVID-19 losses, “a material number,” she said.

Exposure very much depends on whether cover for pandemics is excluded and whether events are canceled or just postponed, she said. That depends on the length and time of government shutdowns and the time social distancing remains in place.

“What we have already seen with event cancellation is that some market participants have had to materially increase their loss estimates for this business in the second half of this year, as their assumptions regarding the length of government lockdowns have been revised upward,” said Thomas.

Financial lines such as D&O and errors and omissions are likely to be affected from claims relating to accusations of poor contingency planning or failure to manage business disruption, she noted.

“Even though COVID-19 losses from these lines' actual reported claims have been limited to date, we do think that as government support falls away and financial pressure on businesses increases, then litigation against companies and their directors will also likely increase, particularly if there's a rise in insolvencies,” she said.

AM Best is also keeping a close eye on the development of macroeconomic conditions with a view to whether they will reintroduce investment volatility and strains on liquidity, said Thomas.

Equity markets were expected to remain volatile at least through 2020, said Thomas. “Perhaps more significantly for insurers, bond markets have also been rattled by the pandemic and the responses of governments,” she said.

“What we've seen certainly increases the likelihood that interest rates, already at historic lows, will remain at depressed levels for longer,” said Thomas. “That is having an impact on all insurers as it impacts reinvestment rates.

“In our view, the industry does have the ability and the willingness to hold the bonds in its portfolio to maturity,” said Thomas. “So a temporary dislocation in the market can be weathered by most insurers.”

Longer term, to the extent that these market and economic issues persist, the industry will continue to operate in a “very challenging investment environment and that lower for longer interest rates is a norm that insurers have to deal with,” said Thomas.

In European markets, challenges generated by COVID-19 are key issues to insurers, said Ghislain Le Cam, director, analytics, based in London. “Overall, the investment performance, the underwriting performance, remains subject to significant uncertainty,” he said.

All the major European markets are expected to have experienced a significant contraction in 2020, he said.

“That's some pretty bad news for insurers, because as the economy shrinks, so does the value and the pool of risks,” Le Cam said. “This is expected to weigh on the demand for insurance.”

There remains a chance of significant volatility for the months to come, he said. “At the same time, in response to the pandemic, we've seen a number of central banks taking actions to support the economy, and the interest rates were already extremely low.”

AM Best's segment market outlook is different from the rating outlook in that in a segment outlook the key factors considered are current and forecast economic conditions, the regulatory environment, product developments and competitive pressures, said Le Cam.

“All the European life segment outlooks for now are negative,” he said. “The German life segment outlook was already negative, but we revised the French, the Italian and the U.K. life segment outlooks to negative this year, and decided on a negative outlook for the Spanish life segment.

“The low interest rates have been a challenge for life insurers for years, particularly for those that have high guarantees in their books like in Germany,” said Le Cam. “Overall, the low interest rates for longer clearly will accentuate the pressures on the operating margins of European life insurers.”

In non-life insurance, the U.K. segment outlook is negative, added Le Cam.

“Over recent years, the U.K. companies have had to deal with some challenging elements to say the least, and that included the changes in the Ogden rate, which is the rate used to calculate personal injury compensation,” said Le Cam. “There's claims inflation due to higher repair costs, but also obviously significant challenging investment market conditions that were driven by the political and economic uncertainty associated with Brexit.”

Le Cam said U.K. insurers will also need to digest the implication of an FCA market review on the pricing of home and motor insurance that was published recently.

“Overall, it's like for the rest of the European insurance sector,” he said. “This year [2020] is clearly dominated by the implication of the COVID-19 pandemic for the U.K. non-life segment.”

The economic slowdown has impacted premium volumes, and AM Best has seen in some instances some refunds to policyholders in lines such as motor, said Le Cam.

“Another driver for the negative U.K. non-life outlook is clearly Brexit,” said Le Cam. “The U.K. left the EU earlier [in 2020]. We are now in a transition period, but all this still creates a lot of political and economic uncertainty that continue to weigh on the insurance market.”