25.08.2016, 18:23
Fitch: Curve Steepening Would Be Positive for Japanese Insurers
OREANDA-NEWS. Sustained yield-curve steepening in Japan would be positive for Japanese life insurers, says Fitch Ratings. Steepening would bolster domestic investment income and also enable companies to reduce the accumulation rate of longer-dated foreign securities. This would in turn reduce risks associated with currency, foreign credit and asset-liability management that have accumulated with the rise in foreign-bond allocations in the last few years.
Japan's yield curve has flattened substantially since 2015 alongside ongoing quantitative easing and the introduction of negative interest rates earlier this year. The resulting fall in interest income on life insurers' yen-denominated bond holdings has served to reinforce longer-term trends towards increasing allocation of foreign assets. This has included higher exposure to foreign securities. Data from the financial year ending March 2016 shows the nine major life insurers had 26% of their total investment portfolio in foreign securities, up from 25% a year earlier.
Improving investment spreads - resulting from geographic shifts in asset allocation - has helped to bolster earnings and diversify exposure. But it has also come with heightened foreign-currency and foreign-credit risks. Fitch believes that insurers will continue to increase their investment allocations to foreign bonds, though with stricter currency hedging and with domestic bonds remaining the preferred asset class.
The fall in long-end yields has also contributed to a sustained asset-liability duration gap and ongoing high sensitivity to interest rates. Fitch estimates a five-year duration gap between their assets and liabilities on average. Companies will accelerate reducing the gap when long-term yields rise, but the speed in which the mismatch narrows will be affected if JGB yields remain low.
As such, a steepening of the curve - generated through higher yields on long-dated Japanese government bonds - would be credit positive for insurers, both in terms of profit and risk management. The yield curve has steepened somewhat in July and August, though the trend would need to be sustained much longer through the medium term to produce substantive benefits for the insurance sector.
Fitch maintains a stable sector outlook for Japanese life insurance, with solid capitalisation and profitability bolstering the credit profiles of large firms. Profitability should be sustained in 2016, driven by moderate expansion of the profitable health insurance products business and continued positive investment spreads.
Japan's yield curve has flattened substantially since 2015 alongside ongoing quantitative easing and the introduction of negative interest rates earlier this year. The resulting fall in interest income on life insurers' yen-denominated bond holdings has served to reinforce longer-term trends towards increasing allocation of foreign assets. This has included higher exposure to foreign securities. Data from the financial year ending March 2016 shows the nine major life insurers had 26% of their total investment portfolio in foreign securities, up from 25% a year earlier.
Improving investment spreads - resulting from geographic shifts in asset allocation - has helped to bolster earnings and diversify exposure. But it has also come with heightened foreign-currency and foreign-credit risks. Fitch believes that insurers will continue to increase their investment allocations to foreign bonds, though with stricter currency hedging and with domestic bonds remaining the preferred asset class.
The fall in long-end yields has also contributed to a sustained asset-liability duration gap and ongoing high sensitivity to interest rates. Fitch estimates a five-year duration gap between their assets and liabilities on average. Companies will accelerate reducing the gap when long-term yields rise, but the speed in which the mismatch narrows will be affected if JGB yields remain low.
As such, a steepening of the curve - generated through higher yields on long-dated Japanese government bonds - would be credit positive for insurers, both in terms of profit and risk management. The yield curve has steepened somewhat in July and August, though the trend would need to be sustained much longer through the medium term to produce substantive benefits for the insurance sector.
Fitch maintains a stable sector outlook for Japanese life insurance, with solid capitalisation and profitability bolstering the credit profiles of large firms. Profitability should be sustained in 2016, driven by moderate expansion of the profitable health insurance products business and continued positive investment spreads.
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