S&P claims persistent low interest rates could hit profitability of French life insurers

French life insurers' profitability could suffer if current very low interest rates continue, according to S&P Global Ratings in its latest report, titled “Persistently ultra-low interest rates could mean ultra-low earnings for French life insurers by 2020”.

"French life insurers' ability to pay discretionary profit sharing to policyholders would consequently diminish markedly in the coming years, in our opinion, as would the margins they source from their general account savings business," said Marc-Philippe Julliard, credit analyst at S&P Global Ratings.

The rating agency’s predictions of weakening earnings are based on a number of things, such as the stabilisation of long-term interest rates at current very low levels. In addition, the agency assumes no change in product structure or regulation that could materially affect premium collections over the next five years.

“French life insurers’ earnings could decline to break-even in 2020, assuming interest rates stay very low and the prevailing very low interest rates are squeezing margins and may jeopardise insurers’ ability to generate net income,” the report said.

“A large and lasting spike in interest rates could push up lapse rates and weaken insurers’ balance sheets and insurers’ ability to adapt their strategy and keep risk-taking within current tolerances will be key rating drivers in the coming years.”

French life insurers' bonus rate announcements for 2015 came under criticism from some corners, but not all. The encouraging comments confirmed life insurance's status as French households' preferred savings vehicle, despite generally poor economic indicators, market volatility, and the already protracted period of low interest rates, according to S&P.

“Furthermore, most insurers have taken additional steps to build up cushions for future allocations to policyholders. Credited rates have also been declining. This shows that insurers are willing to pass on the pain of declining yields to policyholders, albeit gradually, while remaining competitive,” S&P said.

The critics, on the other hand, have questioned insurers' preparedness to cope with prolonged very low interest rates. Because of the low rates, insurers' margins are shrinking while the cost of contract options and guarantees rises. Critics also note that insurers may take on higher investment risk to preserve their investment margins, with the possibility that some might increasingly relax their risk tolerances.

S&P think that the current challenging environment for French insurers, which also includes the constraints brought by the new Solvency II regulatory regime, means that market participants should look much further beyond last year's earnings and returns to policyholders to the build-up of risks down the road.

The agency’s opinion about the financial strength of insurers, the basis of its ratings, will hinge on their ability to keep investment and product risk within controlled tolerances, while safeguarding capital and preventing margins from falling too far.