Eurozone Ernst & Young Eurozone Forecast
Outlook for financial services
Summer edition – June 2011
Welcome
Andy Baldwin Head of Financial Services Europe, Middle East, India and Africa
Welcome to the Summer 2011 issue of the Ernst & Young Eurozone Forecast: outlook for financial services, a forecast prepared by Oxford Economics in association with Ernst & Young.
The new, strengthened stress tests required by the European Banking Authority will reveal this month how real the claims are that European banks will be able to survive a future credit crunch.
The forecast comes at a time of renewed uncertainty for the Eurozone financial sector and the wider economic environment. Just when we saw early signs of recovery and stabilization in the sector, the escalating sovereign debt crisis engulfing a number of Eurozone countries has knocked market sentiment and plunged parts of the financial sector back in to crisis, with the market beginning to price in the very real prospect of sovereign default.
A robust methodology with realistic underlying assumptions will produce the credible reports that will be essential to help fight the unsettlingly high degree of uncertainty pervading the financial sector.
However, there are some grounds for optimism. Overall economic growth is forecast to continue at a modest rate across the Eurozone – some 2% this year, dipping to 1.6% in 2012 and then averaging another 2% between 2012 and 2015. Although perhaps more worryingly for the fiscal integrity of the Eurozone, we are seeing a clear two-speed recovery. The major economies of Germany and France will see GDP growth rates averaging 2.2% over the next four years, while the smaller economies in the “Eurozone pheriphery,” such as Greece, Ireland, Spain and Portugal, will see lower rates of GDP growth around 1%. This emerging north/south divide is becoming more evident within the banking sector. For instance, in Germany, bank loans are forecast to expand by 4% in 2011, whereas Spain will see loans continue to contract by 5% reflecting the more challenging local market conditions. We are also seeing a similar pattern in the evolution of non-performing loans. But it is the growing sovereign debt crisis that perhaps poses the greatest threat to sustained economic recovery and growth. As we go to press, we have seen the major European banks, especially those in France and Germany, take the lead in proposing a partial “private sector” solution to the sovereign debt problem by “going back to the future,” suggesting a similar debt rollover approach used with Latin America during the last century. No doubt they will continue to add their powerful voices to an orderly resolution to the crisis. However, the markets continue to fear the contagion risk: a Greek default working its way “domino style” through a series of other smaller Eurozone economies before finally hitting the expected “fire break” in the form of Spain and Italy, two economies so large, that the rest of the Eurozone will surely need to back and support them. Due to the interconnected nature of the Eurozone economies, any perceived or real contagion will likely hit the European banks hard, particularly those which operate more exclusively at the sub-national level without the benefits of international diversification.
Contents
03
Executive summary 04
Introduction 06
Banking
In response to the pressure being applied by both their local regulators and the international ones, the banks have been busy deleveraging and building up capital, but this has had the knock-on effect of restricting credit growth to businesses and households in some markets, thus slowing the recovery. The banks are simultaneously wrestling with the implementation of an unprecedented level of mandatory change; adding to the cost of doing business while at the same time trying to reduce costs, change business mix and improve margins to ensure shareholder support continues for the sector. No small challenge. The outlook for the Eurozone insurance sector is more positive. Premium income is forecast to grow in line with the outlook for the wider economy, alongside improving asset values. But there is the risk of rising claims in the property casualty market which will remain a challenge for the sector. Bancassurance-related sales of products linked to lending events will also likely remain challenged in some markets. The Solvency II requirements will, however, improve confidence in the sector, even if they are perhaps considered unnecessary and time-consuming by those in the sector itself. However, the industry continues to suffer from a lack of investor understanding, which continues to suppress investor appetite at a time when it should be increasing. The outlook is also favorable for the asset management sector, where demand for its services is forecast to grow faster than overall GDP in the coming years, underpinned by rising equity markets. So there are grounds for optimism in insurance and asset management, but the risk remains that a sovereign debt default in the Eurozone could have a major impact on the banking sector and broader financial sector. Governments, central banks and all financial institutions need to build consensus and common strategies to ensure the current challenge does not trigger a rerun of the financial crisis from 2008. Visit our dedicated Eurozone website — www.ey.com/eurozone — for additional information on the Ernst & Young Eurozone Forecast.
12
Insurance
18
Asset management 23
Country forecast tables
Ernst & Young Eurozone Forecast: outlook for financial services — Summer edition — June 2011
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Ernst & Young Eurozone outlook for the financial sector — Summer edition — June 2011
17 Eurozone countries
Finland
Estonia
Ireland Netherlands Belgium
Germany Luxembourg Slovakia Austria
France
Slovenia Italy
Spain Greece
Portugal
Malta Cyprus
Published in collaboration with
Executive summary
Banking • Although the Eurozone banking sector is gradually recovering from the global financial crisis and recession, it still faces a number of challenges. Economic growth in the Eurozone is expected to remain uneven, household and business balance sheets remain stretched in many member states, and lingering uncertainty about the asset quality of many banks is hampering access to wholesale funding markets. Against this background, the outlook remains highly uncertain. • We expect growth in bank loans and total assets to lag behind growth in the broader Eurozone economy over the next few years. Although this can be partly viewed as a welcome rationalization of the Eurozone banking sector in those countries that had experienced an unsustainable credit boom, an overly cautious approach to lending in the aftermath of the crisis also risks delaying the economic recovery. This caution from banks is also being exacerbated by the uncertain regulatory outlook. • The potential for a severe credit crunch to undermine economic activity is particularly acute in the periphery economies. The legacy of bad loans will keep provisions at elevated levels, while the negative collateral effect on bank balance sheets will be compounded by falling house prices in countries such as Spain.
• We believe that the EU stress tests results, due to be published in July, will not significantly dampen risk aversion in wholesale funding markets. Crucially, the “adverse” scenario still does not consider a European sovereign debt default. Moreover, the methodology overlooks the potential for damaging feedback loops to develop between banks and the broader economy at times of financial stress. Nonetheless, enhanced clarity regarding the positions of banks will help market participants to calculate the effect of larger stresses for themselves and so contribute toward reducing uncertainty.
Insurance • The recovery in stock markets in 2009-10, together with lower interest rates and tighter spreads on corporate bonds, has helped to reverse insurer’s earlier capital losses and boost investment income. But they are still struggling to earn the returns expected by financial markets. • Relatively high loss ratios in some non-life business lines, such as motor insurance, will remain a challenge to profitability over the forecast period, as Eurozone insurers are finding it difficult to raise premium rates in the current macro environment.
• Low yields on core Eurozone sovereign debt are also dampening profits among the region’s insurers and driving a trend toward increased investment exposure to emerging markets. As insurers are among the largest institutional investors in the Eurozone, this exodus of funds has potentially significant implications for the funds available for investment in the wider Eurozone economy. • The Solvency II regime could impose significant costs on the insurance industry. At industry level, the reforms will likely serve to amplify some of the trends already under way within the sector, including tighter risk controls, greater transparency, higher bond exposures (especially among life insurers) and increased consolidation.
Asset management • Our forecast envisages major stock markets in the Eurozone growing fairly strongly over the next few years, which will support our expectation for growth in assets under management to average 4.5% p.a. during 2012-15. • Growth prospects differ significantly at the national level. Low rates of tax (on capital, interest income and personal income) continue to favor certain well-established financial centers, which already host funds and private banking disproportionate to their GDP. These established financial centers are likely to consolidate their positions.
Ernst & Young Eurozone Forecast: outlook for financial services — Summer edition — June 2011
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Introduction
4
Ernst & Young Eurozone outlook for the financial sector — Summer edition — June 2011
The recent crisis has underscored the importance of the financial sector for the health of the broader economy. An efficient financial system reduces the cost and risk of producing and trading goods and services, thereby making an important contribution to raising standards of living. But when investors lose confidence in the safety and soundness of the financial system, this can have devastating consequences. As described in the Summer 2011 Ernst & Young Eurozone Forecast, the recovery in the macroeconomic environment continued to solidify in the early months of 2011, supported by improved financial conditions. In fact, Eurozone growth was more vigorous than had been expected in the spring of 2011, prompting a rise in forecast growth for this year from 1.7% to 2%. Eurozone GDP is forecast to rise by 1.6% in 2012 and 2% on average in 2012-15. But prospects are mixed at the country level. Among the “core” Eurozone member states, GDP is forecast to rise by 2.2% per year on average in 2011–15, a growth rate slightly higher than in the decade before the crisis. By contrast, in the “periphery,” GDP is forecast to rise by only 1.2% per year in the next five years, not even half the pace of the decade before the crisis.
agreed on 23 June has helped to restore some calm to the financial markets, a restructuring of sovereign debt by Greece, Ireland or another Eurozone member at some point in the future remains a possibility. The lack of consensus on how to resolve the Eurozone debt problem is increasing uncertainty about the prospects for the broader economy. A disorderly sovereign debt restructuring by a Eurozone member involving significant losses to bondholders would have a large negative impact on the balance sheets of banks and other financial institutions across the region, implying more restricted credit and negative confidence effects for the broader economy. At this time of unusual uncertainty for the Eurozone economy, we have launched this publication as a companion to the main Eurozone Forecast to examine in more detail the implications of our economic forecasts for the development of the region’s financial sector. Given the importance of the financial sector to the health of the broader economy, we also draw out in more detail the likely consequences of industry developments for the broader economic outlook and risks to our central forecast. The first three chapters of this report examine in turn the banking, insurance and asset management sectors, and present forecasts of key indicators for each industry. The final chapter presents our country forecasts for the key Eurozone markets of Germany, France, Italy, Spain and the Netherlands.
The Eurozone Forecast also highlighted that downside risks have become larger and more apparent. Mounting concerns over the potential for a restructuring of Greek sovereign debt and uncertainties over the exposure of Eurozone banks to the likely fallout erupted into a period of renewed financial market stress in May. Although the bailout
Forecast of the Eurozone economy (annual percentage changes unless specified) 2010
2011
2012
2013
2014
2015
GDP
1.7
2.0
1.6
1.9
2.0
2.0
Consumer prices
1.6
2.5
1.9
1.8
1.8
1.9
10.1
9.8
9.5
9.2
8.8
8.5
Unemployment rate (level) Government budget (% of GDP)
-6.0
-4.3
-3.2
-2.4
-1.9
-1.5
Government debt (% of GDP)
85.4
87.0
87.6
86.9
85.7
84.1
European Central Bank (ECB) main refinancing rate (%) Exchange rate ($ per €)
1.0
1.3
2.3
3.1
3.5
3.9
1.33
1.42
1.38
1.33
1.27
1.24
Source: Oxford Economics
Ernst & Young Eurozone Forecast: outlook for financial services — Summer edition — June 2011
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Banking
6
Ernst & Young Eurozone outlook Forecast: foroutlook the financial for financial sectorservices — Summer — Summer edition —edition June 2011 — June 2011
Key issues and highlights • We expect growth in bank loans and total assets to lag behind growth in the broader Eurozone economy over the next few years. Although this can be partly viewed as a welcome rationalization of the Eurozone banking sector in those countries that had experienced an unsustainable credit boom, an overly cautious approach to lending in the aftermath of the crisis also risks delaying the economic recovery. • The potential for a severe credit crunch to undermine economic activity is particularly acute in the periphery economies. The legacy of bad loans will keep provisions at elevated levels, while the negative collateral effect on bank balance sheets will be compounded by falling house prices in countries such as Spain. • We believe that the EU stress tests results, due to be published in July, will not significantly dampen risk aversion in wholesale funding markets. Crucially, the adverse scenario still does not consider a European sovereign debt default. Moreover, the methodology overlooks the potential for damaging feedback loops to develop between banks and the broader economy at times of financial stress.
The Eurozone banking sector is gradually recovering from the global financial crisis and recession, but the outlook is challenging. As described in the Summer 2011 Eurozone Forecast, economic growth in the Eurozone is expected to remain uneven; household and business balance sheets remain stretched in many member states, and lingering uncertainty about the asset quality of many banks is hampering access to wholesale funding markets at reasonable cost (although the ECB is playing a crucial role in providing financing to certain banks). At the same time, bank profitability in the region is facing headwinds from a broad range of regulatory reform initiatives that are currently under way at both the EU and global levels. Against this background, the outlook for the Eurozone banking sector remains highly uncertain.
Sovereign risk is casting a shadow over the banking sector …
The sovereign debt crisis remains a defining theme for both the Eurozone economy and the banking sector. Credit default swaps (CDS) spreads for Greece, Ireland and Portugal have risen to new highs, which is translating to higher funding costs that banks are finding difficult to pass on to borrowers in these countries. Concerns about possible sovereign debt defaults have led to a sharp rise in the perceived counterparty risk of banks in the troubled countries, with banks elsewhere in the Eurozone and beyond reducing their exposures to “peripheral” country banks. Due to the interdependence of bank and sovereign creditworthiness, access to wholesale funding is likely to remain significantly restricted in these economies. This is illustrated by our forecast for 10-year government bond yields, which are expected to remain close to 4% in Germany and France this year, as opposed to 5.5% in Spain and more than 15% in Greece.
Chart 1.1
ECB lending to the periphery €b 450
Ireland
400
Portugal Spain
350
Greece 300 250 200 150 100 50 0 2007
2008
2009
2010
2011
Source: Oxford Economics; Haver Analytics Ernst & Young Eurozone Forecast: outlook for financial services — Summer edition — June 2011
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Banking This drain of liquidity has left peripheral country banks increasingly reliant on the ECB for funding. Total ECB lending to Ireland, Portugal, Spain and Greece (the “peripheral-4”) amounted to around €350 billion in April. Within this total, lending to Ireland has expanded significantly over the past year due to the intensification of their banking crisis. By contrast, ECB lending to Spain had, until recently, been contracting in line with improved investor sentiment. But the intensification of the sovereign debt crisis has seen financing costs for Spanish banks rise again, forcing them to borrow from the ECB rather than access capital markets.
… underscoring the north/south divide in performance
Beside a funding squeeze, uncertainty remains about the asset quality of many of the banks in the peripheral economies, particularly their exposures to the depressed residential and commercial property sectors. The impact of ongoing fiscal austerity measures on economic growth, employment and credit quality will continue to represent a significant downside risk to the performance of banks in these economies for some time, where they have significant local exposure. These trends in credit quality are reflected in our forecast for the non-performing loans (NPL) ratio in Italy, for example, which we expect will not fall below 5% of total loans until 2015. Persistently high NPL ratios in the periphery economies will mean that provisions for bad loans will remain at elevated levels, dampening earnings and profitability. In countries such as Spain, where we expect house prices to continue falling through to 2014, the negative collateral effect on bank balance sheets will be compounded, as mortgages will
have to be written off net of much lower collateral values. This legacy of bad loans will hamper banks’ ability to normalize credit conditions to support the economic recovery in these regions. In light of our underlying forecasts for subdued economic growth and multiyear deleveraging in the private sector of the peripherals, we expect lending and profitability to remain subdued, with the likelihood that some banks will need to raise capital to meet new Basel III standards as well as address elevated asset quality risk. There is also a risk that margins will generally remain weaker than for banks in the core due to the higher cost of funds. On the other hand, our forecast for a gradual normalization of monetary policy by the ECB will see the yield curve flatten within the core Eurozone over the next few years, which is also likely to squeeze margins for banks in these economies.
Increasing differentiation between banks also at the national level
While our economic forecasts imply that Eurozone banking sector performance will become increasingly polarized at the national level, the disparities will also become more acute between individual banks at the sub-national level. This reflects the broadening spectrum in asset quality, funding profiles and banks’ individual strategic choices. Indeed, a recent report from Standard & Poor’s, the rating agency, highlighted that ratings for Europe’s largest 100 banks are currently showing the widest range in creditworthiness for 30 years. At the sub-national level, it is also likely that smaller and less diversified banks will underperform their larger rivals, given their high exposures to potential loan defaults.
Chart 1.2
Banks’ non-performing loans % total loans 8
Forecast
7 Italy
6
Spain
5
Eurozone
4 France
3
Germany
2
Netherlands
1 0 2007
2009
2011
2013
2015
Source: Oxford Economics; World Bank 8
Ernst & Young Eurozone Forecast: outlook for financial services — Summer edition — June 2011
Slower growth in lending will represent the new norm
course to record another year of exceptional growth at 3.5% in 2011, with growth averaging 2% in 2012-15. By contrast, the Spanish economy is forecast to expand by just 0.7% this year, with growth picking up only modestly to 1.2% in 2012 and remaining below 2% through to 2015. Against this background, we forecast bank loans in Germany to expand by 4.0% in 2011 and 3.2% in 2012, whereas in Spain, they are forecast to contract by 5.0% this year and by a further 1.5% in 2012. The contraction in loan demand is expected to be particularly evident in countries such as Spain, where private sector deleveraging will continue for several years.
These developments would be in stark contrast to the years leading up to the crisis, when banks became increasingly reliant on wholesale funding markets and banking sector assets represented a growing share of GDP (see Chart 1.3). Although this can be partly viewed as a welcome rationalization of the Eurozone banking sector in those countries that had experienced an unsustainable credit boom, an overly cautious approach to lending in the aftermath of the crisis also risks delaying the economic recovery. This caution from banks is also being exacerbated by the uncertain regulatory outlook. In addition lower lending growth will have knock-on effects for insurance products, in particular loan protection insurance.
A Greek default could undermine bank capital in France and Germany
Loan growth has been muted across the Eurozone over the past couple of years. This is a trend that is likely to continue, as history suggests that lending growth tends to remain sluggish for more than five years in markets that experience a major housing bust and banking crisis. With this in mind, we expect growth in bank loans and total assets to lag behind growth in the broader Eurozone economy over the next few years. New Basel III liquidity standards will also make it more costly for banks to rely on wholesale funding, forcing growth in assets to mirror more closely the growth in customer deposits.
It is evident that banks in the core Eurozone are in a different camp to the periphery, with loan losses having clearly peaked and moved onto a declining path. Crucially, the economic recovery in the Eurozone core is on track, with countries such as Germany and France having rebounded relatively quickly. Our forecasts show the German economy to be on
At the same time, it is important to understand that all banks in the Eurozone would come under pressure if there was a sovereign default in the periphery, due to their high cross-border exposures. German and French banks have particularly high exposures (primarily through government bonds and second-order exposures, such as interbank loans) to the peripheral countries of the Eurozone. Whether Greece can avoid a restructuring of its sovereign debt at some point in the future (notwithstanding the latest bailout agreement) will therefore have important implications for banking systems across the Eurozone. Investors are clearly cognisant of these risks, given the recent high correlation between the performance of bank equities and the sovereign spreads of the periphery economies.
Chart 1.3
Chart 1.4
Growth in Eurozone banking assets and nominal GDP
Exposure to peripheral debt â‚Źb
% year 16
Forecast
France
Total bank assets
Germany
12
Other Europe UK
8
US Nominal GDP
4
Netherlands Japan
0
Other debt holders
Italy
Banks Belgium -4 2003
2005
2007
Source: EBF; Oxford Economics
2009
2011
2013
2015
0
50
100
150
Source: Oxford Economics; BIS Ernst & Young Eurozone Forecast: outlook for financial services — Summer edition — June 2011
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Banking Credibility of stress tests will determine market reaction
Given ongoing investor concern over whether some Eurozone banks have sufficient capital to absorb potential losses, supervisory authorities conducted bank stress tests in the first half of the year, with the hope that the results will help to restore confidence in the financial system. The new European Banking Authority, which replaced the Committee of European Bank Supervision at the beginning of the year, is expected to announce the results of this year’s bank stress tests in July. But whether the tests help to restore confidence in the banking system will depend crucially upon market perceptions of their credibility. When bank regulators conducted a stress test of European banks last year, the tests were widely derided by market participants for not being sufficiently tough and deemed a “missed opportunity.” A total of just 7 out of the 91 Eurozone banks that participated in the July 2010 tests were deemed to have failed. Those criticisms gained credibility when Ireland was forced to bail out its two largest banks just a few months after both had passed the tests. European supervisors have attempted to reassure the markets that the 2011 tests will incorporate a much tougher methodology to be applied to both trading and banking books. Although there have been some improvements to the specifications, it appears that the tests will largely be conducted on the same basis, rather than representing a clear step change in methodology. Crucially, the adverse scenario still does not consider a formal debt default by a European government.
Another shortcoming in the design of the stress tests is that they are performed on a bank-by-bank basis, overlooking the damaging feedback loops that can develop between individual banks, as well as the broader economy, during times of financial stress, Against this background, it seems unlikely that the results will drive a wide-scale recapitalization of southern banking systems that would help to assuage investors. On the other hand, banks will be required to disclose more details about the size of their exposures, which will help market participants to calculate the effect of larger stresses for themselves. So while we believe the stress test results themselves are unlikely to dampen risk aversion significantly in the funding markets, enhanced clarity regarding the positions of banks should contribute toward reducing uncertainty.
Bank capital will be a key issue in coming years …
Capital levels will also remain one of the key issues for the Eurozone banking sector in coming years. The new Basel III framework, which sets out tougher global regulatory standards on capital adequacy and liquidity, will be introduced in 2013, although not fully implemented until 2019. The Basel Committee also recently announced that additional Tier One common equity of between 1% and 3.5% will be required depending on a bank’s systemic importance. As banks have a substantial adjustment period to fulfil the criteria, however, it is likely that most banks will be able to meet new capital regulations through retained earnings, so concerns about equity dilution may be overstated.
Chart 1.5
Relative performance of Eurozone bank equities Index, 1 Jan 2007 = 100 120
100
FTSE Developed Europe Large Cap
80
60
40 FTSEurofirst 300 Banks 20
0 Jan-07
Jan-08
Jan-09
Source: Oxford Economics; Haver Analytics 10
Ernst & Young Eurozone Forecast: outlook for financial services — Summer edition — June 2011
Jan-10
Jan-11
Nonetheless, it is likely that there will be increasing differentiation between banks with high levels of capital and those with low levels over the coming years. Banks that are well capitalized are likely to have better access to wholesale funding, and at a substantially lower cost. Although minimum capital requirements will be set at the national level, on an individual bank basis, financial markets are likely to form their own view of appropriate capital levels, based on the bank’s business mix. This implies that investment banks would generally require higher levels of capital than commercial banks. More generally, it is likely that banks will retain capital buffers above the regulatory minima so that unexpected losses do not impair their ability to pay dividends or compensation.
… while the broader regulatory reform agenda will compound the challenges
Revised capital and liquidity requirements for banks represent just one of many regulatory reform initiatives that the banking sector will face over the next few years. A large number of additional reforms are currently under discussion at both the international and EU level, with potentially high compliance costs for the banking sector. Regulatory developments therefore remain a key source of uncertainty, given their potential to drive bank performance. They are also likely to dampen the future return on equity for Eurozone banks, which will struggle to approach pre-crisis levels of around 15%.
As well as facing the greatest negative impact from the new Basel III standards, investment banks will also be affected more significantly by upcoming changes to market structure (e.g., securities clearing and proprietary trading restrictions) and additional taxation. Nonetheless, investment banks domiciled in the Eurozone could be placed at a comparative advantage to their competitors in Switzerland and the UK, where regulatory changes are likely to prove more onerous.
Credit availability remains a risk to the broader economic outlook
There is also a risk that forthcoming regulations will have a negative impact on the Eurozone economy as they force banks to change their business mix. For example, stricter rules on the riskweighting of assets could deter banks from lending to small “growth” companies, which are necessarily risky propositions. More generally, the outlook for bank lending remains a key risk to the health of the Eurozone economy, raising the potential for negative feedback to bank performance. Indeed, lending surveys indicate that Eurozone banks are still repairing their own balance sheets and continue to keep a tight lid on credit, hampering the recovery in household consumption and business investment.
Eurozone Total assets (€b) Tier 1 capital (€b) Total loans (€b) Consumer credit (€b)
2010
2011
2012
2013
2014
2015
31,406
32,198
32,987
33,847
34,792
35,771
638
692
739
789
841
891
12,549
12,524
12,730
13,079
13,460
13,847
814
841
863
891
922
958
Business/corporate loans (€b)
5,974
6,129
6,256
6,442
6,635
6,814
Residential mortgage loans (€b)
3,286
3,302
3,339
3,409
3,504
3,610
4.8
4.6
4.3
4.0
3.7
3.4
NPLs as % of total gross loans Source: Oxford Economics
Ernst & Young Eurozone Forecast: outlook for financial services — Summer edition — June 2011
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Insurance
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Ernst & Young Eurozone outlook Forecast: foroutlook the financial for financial sectorservices — Summer — Summer edition —edition June 2011 — June 2011
Low interest rates are dampening profitability …
Key issues and highlights • Relatively high loss ratios in some non-life business lines, such as motor insurance, will remain a challenge to profitability over the forecast period, as Eurozone insurers are finding it difficult to raise premium rates in the current macro environment. • Low yields on core Eurozone sovereign debt are also dampening profits among the region’s insurers and driving a trend toward increased investment exposure to emerging markets. As insurers are among the largest institutional investors in the Eurozone, this exodus of funds has potentially significant implications for the funds available for investment in the wider Eurozone economy. • The Solvency II regime could impose significant costs on the insurance industry. At the industry level, the reforms will likely serve to amplify some of the trends already under way within the sector, including tighter risk controls, greater transparency, higher bond exposures (especially among life insurers) and increased consolidation.
Insurance companies were heavily affected the by financial crises with a significant reduction in the capital surplus (the excess of capital employed over regulatory requirements) due mainly to the decline in asset values. The recovery in stock markets in 2009-10, together with lower interest rates and tighter spreads on corporate bonds, however, has helped to reverse these capital losses. But insurers are still struggling to earn the returns expected by financial markets as the industry shifts its focus back to its core strengths in underwriting and away from the quasi-banking activities that threatened the health of the industry during the financial crisis. The current low yield environment for core European bonds has depressed investment returns, making it difficult for insurers to improve profitability. At the same time, insurers are not generally seeking to diversify their portfolios into equities, as the forthcoming Solvency II regulatory regime encourages insurers (particularly in the life segment) to focus on fixed income investments. The ongoing sovereign debt crisis is perpetuating a “flight to quality” effect that is keeping yields low on core European sovereign debt, particularly German Bunds. In light of the uncertain economic outlook, we believe that this phenomenon will persist and our forecast does not envisage yields on benchmark 10-year German Bunds rising above 4.5% until 2013. With German inflation forecast to average 1.8% p.a. in 2012-13, this implies an average annual yield of just 2.5% in real terms. Against this background, Eurozone insurers are increasingly seeking to diversify their portfolios into emerging market investments to raise potential returns.
Chart 2.1
Eurozone gross insurance premiums $b 1600
Forecast Non-life premium
1400
Life premium
1200 1000 800 600 400 200 0 2003
2005
2007
2009
2011
2013
2015
Source: OECD; Oxford Economics Ernst & Young Eurozone Forecast: outlook for financial services — Summer edition — June 2011
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Insurance … driving a trend toward increased exposure to emerging markets
The trend toward increased emerging market exposure has been supported by the upward credit migration of local bond markets in these economies, which has coincided with the decline in credit quality in the Eurozone periphery. As insurers are among the largest institutional investors in the Eurozone, and their initial level of exposure to emerging markets is generally very low, this large exodus of funds has potentially significant implications for demand in the Eurozone bond markets and the funds available for investment in the Eurozone economy.
Contagion effects from a sovereign debt restructuring could damage capital positions
In light of the sovereign debt crisis, insurers are also focussing more attention on credit risk within their Eurozone government bond portfolios, assets that until recently had generally been viewed as ‘risk-free’. The new European Insurance and Occupational Pensions Authority’s (EIOPA) has also examined the capital position of Europe’s insurance industry in its annual stress test exercise and concluded, that just one in 10 insurers would fall short of the Solvency II minimum capital requirements if faced with an ‘adverse’ scenario. With 90% of insurers having passed the test, EIOPA concluded that the industry as a whole is robust and the exposures of the major European insurers to Greek sovereign debt appear manageable at present. However, the adverse scenario did not include a default by Greece. Iit is also important to take into account the potential contagion effects to other Eurozone government bonds that would be associated with a restructuring of Greek debt. As large holders of European bank debt, insurers in the Eurozone would also be at risk from associated defaults in this sector, which could threaten to undermine their capital positions.
14
Premium income is recovering across all segments
While the recovery in asset values provided a boost to investment returns last year, earnings are now being reinforced by higher premium income as the economy recovers. Nonetheless, insurers are finding it difficult to raise premium rates in the current macro environment. Per capita insurance expenditure remains very uneven across the Eurozone, ranging from €3,000–€4,500 a year in the Netherlands and Denmark to €2,000–€3,000 in Germany, France, Finland and Belgium, and less than €500 in Greece, Portugal, Slovakia and Estonia. Although the difference results partly from lower premium rates in lower-income countries, which the single market will not equalize, it mainly reflects the tendency of households to spend more of their budgets on insurance as income rises. This suggests significant scope for industry expansion, both of life and non-life policies, as Europe’s lower-income countries outgrow those with higher income and begin to close the gap. This convergence across the EU was interrupted by the 2008-09 recession, and will be further delayed by sovereign debt problems in the Eurozone periphery, but it will remain a factor supporting continued growth of European insurance demand in the coming years.
Life insurance Gross life premiums have proved resilient …
Gross premiums in the Eurozone life sector continued to expand through the recession, and our estimates suggest that growth in life premiums accelerated to a rate of 5.4% in 2010. Germany, France and Italy remain the largest markets, accounting for around 70% of overall life premiums in the Eurozone. According to CEA data, life premiums in these three countries rose by 4%, 6% and 11% respectively during 2010.
Ernst & Young Eurozone Forecast: outlook for financial services — Summer edition — June 2011
Experience during the recession has confirmed the relative resilience of demand for life and life-related policies. Demand for these tends to rise with the level of household income and wealth, especially where sold with linked investment policies; but policies are generally retained during temporary declines in real income and wealth, and this has helped insurers avoid real premium reductions during the recession.
… and premiums are forecast to rise by 3%–3.5% p.a. over the period 2012–15
Demand for life insurance products is forecast to remain robust, although profitability may come under pressure due to Solvency II capital requirements. With personal disposable income in the Eurozone forecast to expand by around 3% p.a. in nominal terms over the period 2012–15, we expect this will underpin average annual growth in life premiums of around 3.5% over the same period. Claims ratios are forecast to decline from a level of around 62% in 2010 to 57% by 2015.
Non-life insurance Non-life premiums picked up modestly last year
Our estimates suggest that non-life premiums staged a modest recovery in 2010, rising by 1.2%, as the strengthening economy supported renewed demand for insurance products. Non-life gross premiums edged up by just 0.2% in Germany, but there was more robust growth of 2.3% in France and 1.1% in Italy.
Among non-life business lines, motor insurance remains the largest (accounting for around 30% of European non-life premium income). Germany and Italy are the largest markets, accounting for around one-third of European premiums. After declining in 2009, motor insurance premiums are estimated to have increased by around 1% in 2010, helped by compulsory requirements, and car scrapping schemes that boosted new vehicle sales in many countries. Health insurance is now the second largest non-premium item, accounting for around 25% of European non-life premiums, with the Netherlands and Germany together accounting for almost two-thirds of this total. Preliminary estimates indicate that health premiums increased by around 6% in 2010. Expenditure on health and related care insurance is forecast to continue growing as Europe’s population ages and trends in taxand social-insurance-funded health care encourage greater private provision.
Stronger economy in 2011 paves way for premium income growth
Insurance companies reacted to the economic slowdown by allowing business volume to decline rather than cutting premium rates to retain market share, a pattern of behavior also observed in the 2000–01 economic slowdown that helped to stabilize industry margins. This provides a strong foundation on which to convert household and business income growth into insurance revenue growth in 2011–12 while the industry also enjoys a continued recovery in investment income. Our forecast is for premium income to expand by 2.7% in 2011, with growth averaging around 3% p.a. over the period 2012–15. This is rather lower than the 3.5% p.a. average growth rate of nominal GDP during 2012–15, reflecting the uncertain market environment, competitive pressures and regulatory headwinds.
Chart 2.2
Chart 2.3
Life insurance loss ratio
Non-life loss ratio
Claims payments (% gross premiums) 120 Spain
Claims payments (% gross premiums) 120
Forecast
Netherlands
Italy 100
Forecast
100
Netherlands
Italy 80
80 Germany
60
60
Germany
France
France
40
40
20
Spain
20 2003
2005
2007
Source: OECD; Oxford Economics
2009
2011
2013
2015
2003
2005
2007
2009
2011
2013
2015
Source: OECD; Oxford Economics Ernst & Young Eurozone Forecast: outlook for financial services — Summer edition — June 2011
15
Insurance Improved prospects for income and asset values must be qualified by the risk of rising claims activity. Relatively high claims ratios – over 100% in some areas of motor insurance in 2010 despite premium increases – remain a challenge in most non-life business lines. New risks generated by technological and climate change, for example, are difficult to price and, although sometimes excluded if unpredicted by the client, can lead to unexpected losses on first appearance. It is possible that a trend toward deregulation and self-regulation across Europe, especially in relation to industrial health and safety, has transferred to insurers some risks that were previously controlled by public policy. In addition to motor losses, the balance between premium income and claims outflow has tended to shift unfavorably in property insurance, Europe’s third-largest non-life product, accounting for around 20% of non-life premiums. Property premium income has been little changed since 2005, with slight growth in 2006-08 largely reversed by the economic recession and sliding property values in 2009. At the same time, claims due to crime and adverse weather events have trended higher in a number of countries, and this has been difficult to pass through to premium rates without denting total revenue (owing to competition among providers, excess capacity and the sensitivity of demand to premium rises). Property is among a number of non-life risks that are expected to undergo long-term claims growth due to global warming and associated weather events. Divergent trends in house prices will also be an important factor for this segment; for example, our forecast envisages moderate price rises in Germany and France in 2011–12, while Spanish residential property prices will continue falling through to 2014.
16
The July 2011 renewal season will be watched closely for a possible hardening of the premium rate cycle in response to the recent spike in catastrophe claims. If reinsurers are the first to shift rates upward, this could severely stretch margins in the the primary market over the coming year. Our forecast is for the non-life claims ratios to decline only gradually toward its long-term average over the forecast period, as insurers continue to have difficulty raising rates against the fragile economic backdrop.
Regulatory outlook Solvency II may impose significant costs on the insurance industry …
The EU’s Solvency II Directive had been scheduled to come into force on 1 January 2013, but recent concerns about the preparedness of some member states and the European insurance industry is likely to delay this date to 1 January 2014, as reflected in the draft of Omnibus II published on 21 June 2011. Financial crisis and recession have promoted a generally favorable re-appraisal of the principles underlying the Directive, designed to create more harmonized insurance supervision across Europe while strengthening investor and consumer confidence in the industry by ensuring its resilience to major liquidity or balance-sheet shocks. But the European Commission’s fifth study of the likely impact of Solvency II (QIS 5), conducted during August-November 2010, highlighted the need for a number of modifications to the implementing measures to ensure a smooth transition for the European insurance industry. In particular, there is a risk that the associated compliance costs may be excessively onerous for many small and medium-sized companies.
Ernst & Young Eurozone Forecast: outlook for financial services — Summer edition — June 2011
Although the Commission has stated that it does not expect the majority of insurers to need to raise additional capital to meet the new industry standards, surveys suggest that a majority of insurers and reinsurers in Europe’s main financial centers are having to increase their core capital as a result of Solvency II, and some have warned that increased capital costs will raise the price or limit the availability of certain forms of cover. Concerns about how the rules will affect future earnings have also weighed on the stock prices of European insurance companies.
... while mark-to-market reporting may introduce volatility to financial statements
In addition, Solvency II’s requirement to take the market value of assets and liabilities regularly, and adjust capital accordingly, may increase the impact of broader economic cycles on the industry’s traditional business model. A switch to international financial reporting standards (IFRS) for valuing assets and liabilities, launched in 2005, has already moved the industry toward “fair value” accounting, with the International Accounting Standards Board (IASB) due to issue a final standard by the end of 2011.
At the same time, there is a major push under way to strengthen the insurance retail investment regulation framework within Europe through three pieces of legislation: the Markets in Financial Instruments Directive (MIFID), the legislative framework for Packaged Retail Investment Products (PRIPs) and the Insurance Mediation Directive (IMD). All three legislation packages will cover precontractual product disclosure and sales practices. The impact for the insurance industry will be far reaching, as it will effect suitability of products, hiring and training of client-facing staff, knowledgeable intermediaries, and an increase in reporting requirements to national regulators. At a time when the industry is already facing significant compliance costs from new regulatory initiatives, this can only add to the regulatory burden facing insurers.
Regulatory changes are likely to accelerate existing industry trends
Surveys conducted in 2010 showed a majority of firms anticipating, or already experiencing, significant compliance costs associated with Solvency II, but also reporting that the Directive has driven beneficial changes to risk management, information flow and business processes design. What seems most likely is that the introduction of Solvency II and other forthcoming regulatory initiatives will serve to amplify some of the key trends already under way within the European insurance sector, including tighter risk controls, greater transparency, higher bond exposures (especially among life insurers) and increased consolidation within the industry.
Given the long-term nature of much insurance business, the insurance industry does not believe that booking short-term changes in market prices to their profit and loss account is an appropriate reflection of their business model. In particular, there is the risk that these reporting standards could introduce excessive volatility into company results that would undermine confidence in the industry or trigger unwarranted supervisory action. Against this background, Eurozone insurers and industry bodies are participating in an ongoing dialogue with the IASB and the European Commission to calibrate the proposed reporting more appropriately standards.
Insurance Total gross premium (US$b) % year Total gross claims payments (US$b) Total claims ratio (%) Life gross premium (US$b) % year Life gross claims payments (US$b) Life claims ratio (%) Non-life gross premium (US$b) % year Non-life gross claims payments (US$b) Non-life claims ratio (%)
2010
2011
2012
2013
2014
2015
1,140
1,179
1,219
1,258
1,299
1,342
3.6
3.4
3.4
3.2
3.3
3.3
706
714
720
735
750
766
62
61
59
58
58
57
662
688
713
737
761
787
5.4
3.9
3.7
3.3
3.3
3.3
410
418
421
433
442
451
62
61
59
59
58
57
478
491
506
521
538
555
1.2
2.7
3.1
3.0
3.2
3.2
296
296
299
303
308
315
62
60
59
58
57
57
Source: Oxford Economics Ernst & Young Eurozone Forecast: outlook for financial services — Summer edition — June 2011
17
Asset management
18
Ernst & Young Eurozone outlook Forecast: foroutlook the financial for financial sectorservices — Summer — Summer edition —edition June 2011 — June 2011
Key issues and highlights • Our forecast envisages major stock markets in the Eurozone growing fairly strongly over the next few years, which will support our expectation for growth in assets under management to average 4.5% p.a. during 2012-15. • Growth prospects differ significantly at the national level. Low rates of tax (on capital, interest income and personal income) continue to favor certain well-established financial centers, which already host funds and private banking disproportionate to their GDP. These established financial centers are likely to consolidate their positions.
Assets under management in the Eurozone down 20% since 2007
Funds under asset management in the Eurozone have fallen by just over 20% in recent years, declining from €2,454b in 2007 to an estimated €1,961b in 2010. This steep three-year decline mainly reflects the sharp drop in asset valuations that accompanied the financial crisis and global recession. Given the extent of the decline since 2007, demand for asset management services in the Eurozone is set to grow faster than overall GDP growth in the next few years as the sector rebounds, underpinned by rising equity markets, an increase in domestically generated savings, and a search for improved yield by individual and institutional investors. Moreover, although a larger economic area than the US, the EU is still in the process of integrating and harmonizing its financial markets, and
most current (and prospective) Eurozone members have a long tradition of state-provided pensions and insurance. These factors have resulted in an institutional fund sector that is far smaller than that in the US, despite having comparable or higher household savings rates. But this also implies greater scope for faster expansion as the Eurozone economy recovers. Nonetheless, a sustained upward shift in investment flows will only occur when regulatory, fiscal and legal policies in the region move toward compulsory savings.
A rebound is expected in the coming years …
As well as the expected rebound in funds under management in 2011 and 2012, long-term growth forecasts for the sector reflect a gradual but sustained narrowing of the trans-Atlantic gap in total funds under management. This will be supported by growth of the European bond market, and ongoing integration of its equity, futures and options markets. The growth of funds under management will be reinforced over the medium term by inflows of funds from outside the Eurozone, as an expanding group of wealth holders in other regions seek to make use of relatively well-developed financial and legal infrastructures. The EU’s rules and regulations, particularly its UCITS (Undertaking for Collective Investment in Tradable Securities) model for investment funds, have become a well-respected “brand” attracting investors from further afield; over 40% of UCITS sales in 2010 took place outside Europe, according to the European Fund and Asset Management Association (EFAMA). The Eurozone is already a significant location for the custody and management of investments originating elsewhere, especially the Middle East, North Africa and the former Soviet Union countries. In addition, new regulations coming into force from 2011 will encourage some inward movement by fund managers wishing to distribute within the EU, which are currently located in financial centers or offshore locations outside it.
Chart 3.1
Chart 3.2
Total assets under management in the Eurozone
Assets under management in Germany, France and the Netherlands
€trn 3.0
% year 30
Forecast
Forecast
20
2.5
Netherlands 10
France
2.0 0
Germany
1.5 -10 1.0
-20
0.5
-30
-40
0.0 2003
2005
2007
2009
Source: Lipper FMI; Oxford Economics
2011
2013
2015
2003
2005
2007
2009
2011
2013
2015
Source: Lipper FMI; Oxford Economics Ernst & Young Eurozone Forecast: outlook for financial services — Summer edition — June 2011
19
Asset management … but worsening Eurozone debt crisis weighs on activity in early 2011
However, the sector’s immediate growth prospects are heavily influenced by the weakened state of the financial services industry following the European and American banking crises of 2007—08, and the subsequent deterioration in public finances, especially in some peripheral Eurozone countries. Total funds under management staged a strong post-crisis recovery for most of 2010, driven mainly by rising asset values. This rebound faltered in the first half of 2011, affected by signs of slowing growth in the Eurozone and North America and uncertainties linked to booming commodity prices and instability in the North Africa and Middle East region (MENA). But this should prove to be only a temporary setback, assuming that the sovereign debt crisis is contained. With major stock markets in the Eurozone expected to grow fairly strongly over the next few years in our central forecast, this should support our expectation for growth in assets under management to average 4.5% p.a. during 2012—15. The earlier sharp drop in funds under management in 2008—09, due to falling markets and flight into cash, highlighted the cyclical nature of the industry’s revenue and profits, which are closely linked to asset values. Even when inflows return to their long-term growth trend, margins of profit on new sales and ongoing management will be held down by competition (reflecting relative ease of entry) and regulation (by governments concerned about extending affordability to lower-income investors). Although regulation is tending in directions that limit new entry by raising fixed costs, it can still promote competition by breaking
20
down national barriers within the Eurozone and widening exposure to competitors based elsewhere. Longer familiarity with broader portfolio management will help some US-based groups expand services in Europe, challenging the larger local players. Medium-term growth prospects for alternative investment funds are less certain than those for UCITS, despite favorable trends in the pre-2008 period. Greater risk aversion by pension funds, and increased capital requirements for banks (under Basel III) and insurers (under Solvency II), will keep “mainstream” institutions focused on investmentgrade bonds and blue-chip equities. UCITS’ share of the total market is unlikely to drop far from the 73% recorded in Q1 11, and it could even increase as more “alternative” funds adapt structure or strategy to move within the UCITS framework.
Strategic outlook for asset management is changing
Events since 2008 have therefore changed the strategic outlook for the Eurozone asset management industry, which, before the crisis, was focused on meeting client demand for higher yield while also improving the risk/return balance by reducing cost. This drove a shift of assets into specialist funds that generally commanded higher margins, especially compared to mainstream equity funds, whose expense ratios were driven down by competition from low-cost index and passive exchangetraded funds. It also promoted the widening of portfolios to equities and bonds outside the Eurozone, especially into technology stocks (concentrated in North America) and larger emerging markets.
Ernst & Young Eurozone Forecast: outlook for financial services — Summer edition — June 2011
Clients’ concern for lower cost was encouraged by regulatory changes requiring greater transparency over total expense ratios. This promoted a growth in fund size to spread fixed costs, often accelerated by merger and acquisition. Growth was especially rapid among index funds, for which large scale became a further means by which to deliver lower charges. It also led to widespread outsourcing of advice, research, back-office administration, information technology and distribution, aimed at reducing costs as well as accessing specialist resources. Competition has meant that the gradual reduction of transaction costs, due to deregulation and the move to electronic trading on the main exchanges, has tended to be passed on to retail clients rather than used to widen margins. Institutional funds’ growth in the forecast period will be accelerated by government initiatives to promote pension saving, through familiar tax incentives and new initiatives such as opt-out enrollment. But the increased involvement of government in promoting private sector pensions and other personal investments will be accompanied by regulatory efforts to simplify products and cap charges in order to ensure accessibility. In some Eurozone countries, this could lead to a more clearly defined two-tier system, in which most fund managers and financial advisors target higher net-worth households with commissionbased services, and a few also pursue the high-volume, lowercommission “mass market” with more standardized products and generic advice. Some national regulators have also hinted at further interventions to enable wider public take-up of basic services – including the promotion of low-cost products, and standardization to reduce the “overchoice” linked to the proliferation of slightly differentiated offers.
UCITS IV Directive to boost industry prospects
The UCITS IV Directive, due to take effect by 1 July 2011, will enable the continued evolution of Eurozone fund management as an effective channel for the region’s own financial investment and an attractor of external funds into the EU. Although the UCITS Directives restrict the range of products a fund can invest in – excluding commodities, real estate and money market funds – UCITS III (effective from 2001) widened managers’ freedom to adopt new techniques for improving the risk-return balance. In particular, the use of derivatives was permitted for pursuit of higher returns (subject to appropriate risk management) as well as for hedging. This has led to a growing number of “newcits” funds, applying within the UCITS framework strategies previously associated with alternative funds, especially the pursuit of absolute returns. It has also enabled some hedge funds that want to distribute across Europe to come within the UCITS framework, maintaining their existing absolute-returns strategy. UCITS IV continues the process of widening the product choice available to investors and reducing costs within a framework of investor protection sufficient for mainstream investment. On the other hand, it is also worth noting recent moves to exclude some “newcits” from the definition of non-complex instruments within the UCITS framework, on the basis of their underlying investment strategies or techniques. If these proposals come into force, this could create difficulties for distributors and advisors, with adverse consequences for consumer choice.
Chart 3.3
Assets under management in Italy and Spain % year 20
Forecast
15 10
Spain
5 Italy
0 -5 -10 -15 -20 -25 -30 -35 2003
2005
2007
2009
2011
2013
2015
Source: Lipper FMI; Oxford Economics Ernst & Young Eurozone Forecast: outlook for financial services — Summer edition — June 2011
21
Asset management Differing prospects among Eurozone member states
In contrast to the Eurozone’s internationalizing “wholesale” asset management market, retail distribution will remain differentiated along national lines in the medium term, with (for example) banks remaining the principal channel in Germany and France, while independent advisors play a more prominent role in Italy. However, increased qualification and capital requirements may create pressure for consolidation of the independent advice sector. Larger practices offering brokerage services may be well placed to exploit cost as well as service-reliability advantages as compliance becomes an additional source of scale economies. Geographically, growth will be highly differentiated across European countries in the coming years. EU “passporting” arrangements enable funds to distribute across borders from one location, and locations will continue to vary in attractiveness. Low rates of tax (on capital, interest income and personal income) continue to favor certain well-established financial centers, which already host funds and private banking disproportionate to their GDP, and will remain among the fastest growing.
The clusters of asset management, banking, insurance and related services in these centers were generally “seeded” with the help of tax and regulatory advantages. But they have been reinforced by specialist skills and communication infrastructure, regulatory reputation and economies arising from concentration. Passporting arrangements will promote clustering by permitting pan-European distribution from one location. As a result, the advantages of existing asset management centers will survive further harmonization of taxes and operating rules. Although large member states that have lost significant fund business to lower-tax near neighbors have repeatedly sought more tax harmonization in this area, the lower-tax jurisdictions have successfully argued that leveling up would drive business out of the EU rather than redistributing across it. As well as capturing business from other European countries, the main centers manage significant assets drawn from outside the EU. The Commission has therefore retreated from pursuing tax harmonization that would directly affect asset management, accepting that a leveling down of tax rates is politically difficult at a time of fiscal strain across the region, while a leveling up might drive business away.
Asset management Total assets under management (€b) % year
2010
2011
2012
2013
2014
2015
1,961
2,102
2,198
2,292
2,393
2,501
-2.8
7.2
4.5
4.3
4.4
4.5
Source: Oxford Economics; Lipper FMI
22
Ernst & Young Eurozone Forecast: outlook for financial services — Summer edition — June 2011
Country forecast tables
Ernst & Ernst Young&Eurozone Young Eurozone Forecast: outlook outlook forfor the financial financial services sector — Summer edition — June 2011
23
Country forecast tables Germany Key issues and highlights
As a result, overall growth in premiums is forecast at just 1.5% this year, although growth is expected to accelerate back above 3% p.a. during 2013—15.
• The rise in NPL at German banks has been less marked than during the economic downturn of 2002, underscoring the relatively robust financial situation of the private sector. Still, some banks have felt compelled to reduce the size of their balance sheets to meet tougher regulatory requirements. Future growth in loan demand will be constrained by sluggish economic growth and high savings rates.
• The German non-life insurance markets appear more healthy, with most insurers overcapitalized, and growth in premium volumes forecast to rebound to around 4% this year in line with the renewed strength of the economy. • After falling sharply in 2008, total funds under management in the asset management industry have picked up, driven by recovering asset prices. We forecast total assets under management to reach US$590b by 2015.
• Growth in life premiums was dominated in 2009—10 by sales of single premium contracts with short terms of 12 months or less. This source of new business is set to slow this year as customers shift funds to investments offering more attractive rates of return.
Banking Total assets (€b) Tier 1 capital (€b) Total loans (€b) Consumer credit (€b) Business/corporate loans (€b) Residential mortgage loans (€b) NPLs as % of total gross loans
2010
2011
2012
2013
2014
2015
8,305
8,563
8,779
9,013
9,289
9,570
268
283
298
315
334
354
3,228
3,177
3,255
3,379
3,523
3,650
232
241
249
257
267
279
1,424
1,520
1,555
1,623
1,706
1,777
806
822
843
866
891
912
3.1
2.9
2.7
2.6
2.6
2.6
Source: Oxford Economics
Asset management Total assets under management for sector (€m) % year
2010
2011
2012
2013
2014
2015
489,705
520,268
530,041
545,266
564,749
590,276
7.8
6.2
1.9
2.9
3.6
4.5
Source: Oxford Economics; Lipper FMI
Insurance Total gross premium (€m) % year Total gross claims payments (€m) Total claims ratio (%) Life gross premium (€m) % year Life gross claims payments (€m) Life claims ratio (%) Non-life gross premium (€m) % year Non-life gross claims payments (€m) Non-life claims ratio (%)
2010
2011
2012
2013
2014
2015
306,000
314,846
325,117
335,934
346,989
357,849
2.7
2.9
3.3
3.3
3.3
3.1
228,515
230,252
233,144
237,866
243,535
249,956
75
73
72
71
70
70
135,778
137,815
141,536
146,261
151,001
155,895
6.0
1.5
2.7
3.3
3.2
3.2
101,019
102,259
104,454
107,941
111,439
115,050
74
74
74
74
74
74
170,222
177,031
183,581
189,673
195,988
201,954
0.2
4.0
3.7
3.3
3.3
3.0
127,496
127,993
128,690
129,926
132,096
134,905
75
72
70
69
67
67
Source: Oxford Economics 24
Ernst & Young Eurozone Forecast: outlook for financial services — Summer edition — June 2011
France Key issues and highlights
• France ranks first in Europe as a funds management center, a position that will help it to attract fund inflows over the forecast horizon. Total assets under management are forecast to rise to €866b by 2015.
• Although France has a comparatively low level of private sector debt and an absence of significant stress in funding markets, unemployment is forecast to remain relatively high, which will constrain growth in demand for loans in 2011—12. The forecast recovery in labor market conditions is expected to brighten prospects for growth in bank lending from 2013. • Growth in insurance premiums is likely to remain subdued against the backdrop of a sluggish economic recovery, as well as adverse regulatory and demographic developments. Life premiums are forecast to rise to €256b by 2015, while non-life premiums hit €117b.
Banking Total assets (€b) Tier 1 capital (€b) Total loans (€b)
2010
2011
2012
2013
2014
2015
7,830
8,034
8,251
8,479
8,712
8,949
277
297
322
348
383
412
2,260
2,289
2,319
2,383
2,449
2,521
Consumer credit (€b)
158
164
170
176
184
192
Business/corporate loans (€b)
768
795
816
832
848
864
Residential mortgage loans (€b)
730
749
771
797
824
853
4.4
4.0
3.5
3.0
2.8
2.8
NPLs as % of total gross loans Source: Oxford Economics
Asset management Total assets under management (€m) % year
2010
2011
2012
2013
2014
2015
673,654
736,738
769,599
801,837
833,930
866,195
-8.3
9.4
4.5
4.2
4.0
3.9
Source: Oxford Economics; Lipper FMI
Insurance Total gross premium (€m) % year Total gross claims payments (€m) Total claims ratio (%) Life gross premium (€m) % year Life gross claims payments (€m) Life claims ratio (%) Non-life gross premium (€m) % year Non-life gross claims payments (€m) Non-life claims ratio (%)
2010
2011
2012
2013
2014
2015
311,398
325,238
337,855
349,059
360,897
373,191
3.5
4.4
3.9
3.3
3.4
3.4
194,221
198,590
200,583
206,134
209,517
214,104
62
61
59
59
58
57
213,419
223,339
231,371
239,008
247,141
255,856
4.0
4.6
3.6
3.3
3.4
3.5
134,454
138,470
138,823
143,405
145,813
148,396
63
62
60
60
59
58
97,980
101,899
106,484
110,051
113,756
117,335
2.3
4.0
4.5
3.3
3.4
3.1
59,768
60,120
61,761
62,729
63,703
65,708
61
59
58
57
56
56
Source: Oxford Economics Ernst & Young Eurozone Forecast: outlook for financial services — Summer edition — June 2011
25
Country forecast tables Italy Key issues and highlights
• In the insurance industry, the strong increase in life premiums written in 2009—10 is not expected to continue, as demand for with-profit policies has been dented by downward revisions of the guaranteed minimum returns by several companies. Gross life premiums are forecast to rise to €157b by 2015 while non-life premiums reach €60b.
• Italian banks have relatively low leverage (in a European context) and traditional business models. But they remain under pressure from competition and increasing cost of funding. Although credit quality is improving, a significant stock of doubtful loans will keep NPL inflow high in coming years. Lending growth is thus forecast to remain sluggish and tight credit conditions could slow the economic recovery.
• In the asset management industry, total funds under management remained broadly stable in 2010. A modest rebound in growth is forecast in 2011—12, with assets under management rising by 5.3% and 4.1% respectively, mainly due to revaluation effects associated with our forecast for robust growth in the domestic stock market.
Banking Total assets (€b) Tier 1 capital (€b) Total loans (€b) Consumer credit (€b)
2010
2011
2012
2013
2014
2015
3,789
3,860
3,951
4,040
4,137
4,244
167
205
221
242
256
272
2,035
2,070
2,131
2,182
2,214
2,255
59
60
63
65
68
71
Business/corporate loans (€b)
904
915
940
958
963
973
Residential mortgage loans (€b)
289
295
305
316
328
339
7.6
6.8
6.5
6.2
5.6
5.0
NPLs as % of total gross loans Source: Oxford Economics
Asset management Total assets under management (€m) % year
2010
2011
2012
2013
2014
2015
344,387
362,758
377,707
392,074
407,751
423,277
-0.2
5.3
4.1
3.8
4.0
3.8
Source: Oxford Economics; Lipper FMI
Insurance Total gross premium (€m) % year Total gross claims payments (€m) Total claims ratio (%) Life gross premium (€m) % year Life gross claims payments (€m) Life claims ratio (%) Non-life gross premium (€m) % year Non-life gross claims payments (€m) Non-life claims ratio (%)
2010
2011
2012
2013
2014
2015
180,305
187,961
195,997
202,888
210,128
217,467
8.1
4.2
4.3
3.5
3.6
3.5
117,198
119,210
119,780
121,957
124,203
125,763
65
63
61
60
59
58
127,987
134,989
141,443
146,551
151,920
157,236
11.2
5.5
4.8
3.6
3.7
3.5
83,192
85,043
84,866
86,465
88,114
89,625
65
63
60
59
58
57
52,318
52,972
54,554
56,336
58,208
60,231
1.1
1.3
3.0
3.3
3.3
3.5
34,006
34,167
34,915
35,492
36,089
36,139
65
65
64
63
62
60
Source: Oxford Economics 26
Ernst & Young Eurozone Forecast: outlook for financial services — Summer edition — June 2011
Spain Key issues and highlights
• The outlook for insurance premiums remains subdued against the backdrop of very weak domestic demand. In particular, premiums in the non-life industry are expected to continue falling in 2011—12, before stabilizing in 2013 as economic prospects brighten.
• The outlook for the cajas and other domestic banks without international diversification remains difficult, given ongoing economic weakness, deleveraging by households and firms, as well as difficulties in funding markets. NPLs are forecast to remain high and, with house prices forecast to continue falling through to 2014, the negative collateral effect on bank balance sheets will be compounded, as mortgages will have to be written off net of much lower collateral values. This legacy of bad loans will hamper banks’ ability to normalize credit conditions to support the economy. We forecast lending to contract in 2011— 12, with only modest growth thereafter.
• Having fallen by more than 40% since 2007, total funds under management in the asset management industry are expected to stabilize in 2011. Moderate growth is expected thereafter, driven mainly by improved returns, as the domestic stock market is forecast to rebound next year.
Banking Total assets (€b) Tier 1 capital (€b) Total loans (€b)
2010
2011
2012
2013
2014
2015
3,252
3,295
3,345
3,422
3,513
3,614
194
201
211
219
228
239
1,748
1,661
1,637
1,648
1,685
1,728
Consumer credit (€b)
219
224
227
232
237
242
Business/corporate loans (€b)
929
878
886
908
941
969
Residential mortgage loans (€b)
599
559
524
508
508
516
5.5
6.2
6.0
5.5
5.1
4.6
NPLs as % of total gross loans Source: Oxford Economics
Asset management Total assets under management (€m) % year
2010
2011
2012
2013
2014
2015
132,942
137,508
150,893
161,922
174,770
188,701
-16.2
3.4
9.7
7.3
7.9
8.0
Source: Oxford Economics; Lipper FMI
Insurance Total gross premium (€m) % year Total gross claims payments (€m) Total claims ratio (%) Life gross premium (€m) % year Life gross claims payments (€m) Life claims ratio (%) Non-life gross premium (€m) % year Non-life gross claims payments (€m) Non-life claims ratio (%)
2010
2011
2012
2013
2014
2015
85,341
84,557
84,801
85,729
87,161
89,032
0.2
-0.9
0.3
1.1
1.7
2.1
64,583
63,460
62,846
63,184
63,800
64,237
76
75
74
74
73
72
41,415
41,691
42,824
43,690
44,442
45,185
2.1
0.7
2.7
2.0
1.7
1.7
36,031
35,854
36,401
36,700
36,887
37,052
87
86
85
84
83
82
43,926
42,866
41,976
42,039
42,719
43,846
-1.5
-2.4
-2.1
0.1
1.6
2.6
28,552
27,606
26,445
26,484
26,913
27,185
65
64
63
63
63
62
Source: Oxford Economics Ernst & Young Eurozone Forecast: outlook for financial services — Summer edition — June 2011
27
Country forecast tables Netherlands Key issues and highlights
The sluggish outlook for the economy is likely to constrain growth in both life and non-life premiums over the next few years. After declining in 2010, life premiums are forecast to grow by 7.4% in 2011, but growth rates will moderate thereafter. Non-life premiums are set for sluggish growth in 2011—12, but growth should accelerate above 3.5% p.a. as the economy strengthens in 2012—15. Margins are also likely to remain under pressure in coming years from more intense competition in the Dutch insurance market.
• Growth in bank lending remained positive last year, making the Netherlands an exception within the Eurozone. But banks have become more cautious and, with high private sector indebtedness a concern, the outlook is for a relatively modest rebound in lending growth. • Similar to the UK, the Dutch banking system is heavily concentrated and relatively large in relation to the economy. Against this background, growth in total bank assets is forecast to lag significantly behind overall growth in the economy over the forecast period.
• The financial position of the asset management industry has improved over the past six months due to higher returns on equity investments. With the domestic stock market expected to make strong gains over the next few years, this should support a continued rise in assets under management.
Banking Total assets (€b) Tier 1 capital (€b) Total loans (€b) Consumer credit (€b)
2010
2011
2012
2013
2014
2015
2,259
2,325
2,389
2,458
2,527
2,594
122
130
139
148
154
161
1,028
1,081
1,104
1,141
1,175
1,210
26
26
27
29
30
32
Business/corporate loans (€b)
623
662
671
691
706
718
Residential mortgage loans (€b)
379
392
406
421
439
460
2.8
2.6
2.0
1.5
1.2
0.9
NPLs as % of total gross loans Source: Oxford Economics
Asset management Total assets under management (€m) % year
2010
2011
2012
2013
2014
2015
58,351
64,498
76,091
85,094
92,078
98,759
0.7
10.5
18.0
11.8
8.2
7.3
Source: Oxford Economics; Lipper FMI
Insurance Total gross premium (US$m) % year Total gross claims payments (US$m) Total claims ratio (%) Life gross premium (US$m) % year Life gross claims payments (US$m) Life claims ratio (%) Non-life gross premium (US$m) % year Non-life gross claims payments (US$m) Non-life claims ratio (%)
2010
2011
2012
2013
2014
2015
68,018
70,944
73,646
76,348
79,209
82,143
1.3
4.3
3.8
3.7
3.7
3.7
54,748
54,902
55,613
57,276
59,020
60,790
80
77
76
75
75
74
32,641
35,052
36,881
38,266
39,662
41,106
-4.4
7.4
5.2
3.8
3.6
3.6
30,338
30,495
30,980
31,760
32,523
33,296
93
87
84
83
82
81
35,377
35,892
36,766
38,082
39,548
41,037
7.1
1.5
2.4
3.6
3.8
3.8
24,410
24,407
24,633
25,515
26,497
27,495
69
68
67
67
67
67
Source: Oxford Economics 28
Ernst & Young Eurozone Forecast: outlook for financial services — Summer edition — June 2011
Follow the Eurozone’s progress online Please visit www.ey.com/eurozone to: • View video footage of macroeconomists and Ernst & Young professionals discussing the future of the Eurozone and its impact on businesses • Use our dynamic Eurochart to compare country data over a five-year period • Download and print the Ernst & Young Eurozone Forecast and forecasts for the 17 member states
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Ernst & Young Eurozone Forecast: outlook for financial services — Summer edition — June 2011
29
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