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European Insurers Vulnerable to Big Losses from Large Portfolios of Bonds

Source: WSJ - David Enrich

Posted on 28 Jun 2011

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Raising concerns that some insurers could fall victim to the Continent's financial crisis, insurers across Europe are sitting on large portfolios of bonds issued by financially shaky governments and banks.

Prior to Europe's fiscal crisis erupted last spring, many insurance companies gorged on bonds issued by governments and banks from around the euro zone. It seemed like an easy and low-risk way to generate higher returns for investors and policyholders. Today, though, Greece is teetering on the brink of default, and many investors fear that Ireland, Portugal and even Spain could follow suit. Meanwhile, troubled banks increasingly are imposing losses on bondholders as a way to avoid taxpayer bailouts.

The result: Some European insurers face the prospect of heavy losses, which could erode their financial strength and trickle down to customers who hold life-insurance policies, according to industry executives, regulators and analysts. And because of the industry's limited disclosures, it is hard to pinpoint individual insurers' vulnerability.

Analysts say that among the most exposed companies is Dutch-Belgian insurer Ageas NV, which until last year was known as Fortis. Other companies holding large quantities of government bonds from risky euro-zone countries include Germany's Allianz SE, Italy's Assicurazioni Generali SpA and France's Groupama SA.

In one sign of how the problems have hurt an insurer in the U.S., Aflac Inc. warned last week that it faces $610 million of pretax losses in the second quarter tied to sales and impairments of investments in Greek, Irish and Portuguese financial institutions. The Columbus, Ga., insurer will still have about $2.6 billion of sovereign and financial-institution exposure from Europe's periphery. "We've made a commitment to de-risking our portfolio," said an Aflac spokeswoman.

With the exception of Aflac, most big U.S. life insurers have minimal exposure, Deutsche Bank analyst Darin Arita said in a June 17 report.

"This is one of the risks that we're monitoring," said Gabriel Bernardino, chairman of the European Insurance and Occupational Pensions Authority, or EIOPA. The European Union regulatory agency is collecting and analyzing information from insurers about their holdings of government and bank debt, he said in an interview.

Based on the latest data, Mr. Bernardino said, "I think the exposures are manageable right now." He said most insurers' portfolios appear sufficiently diverse that even if some holdings lose value, it won't be enough to sink them. Still, Mr. Bernardino said some individual insurers might have trouble.

The risk has been highlighted recently by talks between European governments and major banks and insurers about restructuring Greek government debt in a way that could result in losses to holders of the bonds.

So far, insurers' vulnerability to the Continent's crisis has been overshadowed by the exposure of many European banks, which collectively hold huge piles of debt issued by cash-strapped countries like Greece. Jitters about losses on that debt have made it harder for certain institutions to fund themselves and have sowed fears about the capacities of some governments to support their banking systems.

Most experts agree that the insurance industry's potential losses are likely to be less severe than those in the banking industry. Euro-zone insurance companies were holding €24.1 billion ($34.19 billion) of Greek government securities as of last fall, roughly half of the €47.8 billion held by euro-zone banks, according to Barclays Capital.

Insurance companies generally are better positioned than banks to withstand steep declines in their investment portfolios. Banks live and die based on ready access to liquid funds such as customer deposits, which can evaporate if a bank appears to be in trouble. By contrast, insurers enjoy a steadier stream of funding via regular payments from policyholders.

But some observers think the insurance industry's potential exposure deserves greater scrutiny.

Still, the financial crisis, and the prospect of losses on government and bank debt, "have highlighted that credit risk is becoming more important" for insurers, said Alberto Corinti, the previous chairman of the EU insurance regulator and now a director at Promontory Financial Group LLC.

It is hard to precisely gauge the industry's exposure because of the inconsistent and limited ways in which companies disclose their holdings. For example, while most major insurers report their portfolios of national-government debts, very few disclose their holdings of debt from local or regional European institutions. Some of those local governments are in increasingly dire financial straits.

In the U.S., life insurers' holdings can be tracked through filings to the Securities and Exchange Commission as well as annual and quarterly statutory financial statements, and other disclosures. Compiling country and regional exposure is "a very data intensive effort," said Joel Levine, a senior vice president at Moody's Investors Service.

Analysts and experts say the bulk of the industry's exposure to the European crisis appears clustered in a handful of European insurers holding disproportionate amounts of risky government and bank debt. At the top of some analysts' lists is Ageas.

At March 31, Ageas was holding €1.2 billion of bonds issued by the Greek national government. It is also sitting on €1.6 billion of such Spanish debt, €1.2 billion from Portugal, €445 million from Ireland and about €3.6 billion from Italy.

That roughly €8 billion total exceeds Ageas's total shareholders equity of about €7.4 billion. And the tally doesn't include debt issued by local or regional governments in those countries, a figure Ageas hasn't disclosed.

"It's probably one of the riskiest [insurance] companies in Europe," said Philippe Picagne, a London-based insurance analyst with CreditSights Ltd.
Ageas executives say they are being unfairly singled out in an industry where many companies are exposed.

"The European insurers have all invested in bonds of all European countries," said Ageas Chief Executive Bart De Smet, estimating that most industry players hold sovereign debt from eight to 10 euro-zone countries. The strategy was fueled by "a belief that the euro zone had some value, some stability," he said in an interview. "Maybe that perception was a bit overoptimistic."

In May 2010, when the Greek crisis started spinning out of control, Ageas aggressively dumped risky sovereign bonds and sliced its exposure in half, Mr. De Smet said.

He said Ageas's remaining portfolio appears large relative to rivals because the company is disclosing it in a more transparent and comprehensive manner. Some rivals, he said, are excluding portions of their holdings from their public disclosures.

Some analysts and other experts agree that there is a dearth of data about insurers' holdings of potentially risky bank debt.
EIOPA, the EU insurance regulator, is conducting stress tests of major European insurers, including an assessment of their government-debt holdings.

But it won't reveal individual results publicly, instead aggregating industry averages, and isn't identifying the insurers participating in the tests.