Takaful Summit London, 1 July 2009
Developments in the Rating of Takaful / Re-Takaful Companies. Andrew Murray
Agenda Fitch’s Analytical Process Focus on Selected Takaful Issues Ratings in the Financial Crisis
Agenda Fitch’s Analytical Process Focus on Selected Takaful Issues Ratings in the Financial Crisis
A Difficult Time for Insurance… > Recent years have featured –
Relatively benign claims environment
–
Favourable investment returns
–
Good profitability
–
Strong solvency
> But, 2008 saw –
Substantial investment challenges
–
Weaker pricing
–
Continued support from reserve releases
–
Increased uncertainty
Credit Spreads for Selected Major Insurers AXA
Allianz
Aviva
Zurich
Generali
RSA
H208
(Basis points) 600
Lehman’s Bankruptcy, AIG supported by Government
500 400 300 200 100 0 Mar 08
Jun 08
Aug 08
Source: Fitch RAPP, 1 year credit spreads
Oct 08
Jan 09
Mar 09
May 09
The Building Blocks of Credit Risk Expected Loss Fitch does not “approve”, certify or evaluate Shar’iah compliance
IFS Rating
IDR
RR
Issue rating (eg Insurer Financial Strength) An issue rating reflects the likelihood of a specific issue to be paid by the Issuer on a timely basis, as well as some consideration of recovery prospects
Probability of Default
Loss Given Default
Issuer Default Ratings (IDR) Issuer Default Ratings (IDRs) reflect the ability of an entity to meet financial commitments on a timely basis
Recovery Ratings (RR) The Recovery Rating (RR) is based upon the expected relative recovery characteristics of an obligation
Fitch’s Takaful Rating Methodology > Takaful Rating Methodology Supplements existing Criteria for Conventional Insurers –
“Non-Life Insurance Rating Criteria (Global)”, 2 March 2007
–
“Life Insurance Rating Criteria (Global)”, 2 March 2007
–
“Reinsurance Rating Criteria: Life and Non-Life (Global)”, 2 March 2007
> Fitch’s Methodology recognises that important differences do exist by country: –
Attitude to Shariah compliant purchasing differs by region (Turkey, Malaysia, UK, Dubai)
–
Legal and Regulatory Environment
–
Availability of Shariah Compliant Investments
–
Corporate Governance, Risk Management etc.
IFS Rating IDR
RR
Ratings Analysis in the Current Environment > Application of ratings criteria in context of global recession and capital markets crisis > Ratings criteria not changed – but focus and weighting of analysis adjusted –
Liquidity
–
Idiosyncratic risks
–
Fixed income / Sukuk securities losses
–
Equity market scenarios
–
Leverage analysis
–
Earnings volatility
–
Diversification/complexity
–
Risk mitigants
–
Government support
Agenda Fitch’s Analytical Process Focus on Selected Takaful Issues Ratings in the Financial Crisis
Simplified Diagram of a Generic Commercial Takaful Firm Selected Important Issues >
A. Availability of operator capital to Takaful fund participants
>
B. Interest free loan (Qard al-Hasanah)
>
C. Priority of participants in the event of a winding up
>
D. Group rating methodology Shareholders of Takaful Operator Takaful Firm
Source: Fitch
Fund Participants
Dividends
Takaful Operator Manages the Takaful Fund
Affected by Legal, Regulatory and Other Factors
Contributions Wakala Fee or Share of Profits Under Mudaraba Qard al-Hasanah if Required
Claims/ Distributions
Takaful Fund Mutual Pool for the Collection of Contributions and the Payment of Claims
A. Availability of Operator Capital to Takaful Fund Participants The Dilemma >
Participants
1. Segregation of Takaful operator and Takaful fund is clear under Shariah principles –
Takaful operator does not suffer downside risk under Wakala or Mudarabah
But >
Takaful Operator: Manages the Takaful Fund
2. Availability of a Takaful operator’s assets for the protection of participants is often critical for financial security
Depends on >
Applicable laws & regulations
>
Wording of contracts and certificates
>
Memorandum and articles of association
>
Can participants rely on this capital in a stress scenario?
Fees
Management Services
Qard alHasanah
Takaful Fund Mutual Pool for the Collection of Contributions and the Payment of Claims
B. Interest Free Loan (Qard al-Hasanah) > >
Provided by Takaful operator to Takaful fund Mainly provides a short term financing function > Much less important if participants have full recourse to Takaful Operator’s assets Credit for existing loans > If meets Fitch’s hybrid criteria for equity credit – Subordinated to policyholder interests – Restrictions on repayment (eg can only be repaid from future surplus, no fixed maturity date) – OR mandatory conversion to “equity” (ie donation) Credit for future loans > Only if compulsory and suitable triggers exist > Must also meet Fitch’s hybrid criteria for credit
Participants
Takaful Operator: Manages the Takaful Fund Fees
Management Services
Qard alHasanah
Takaful Fund Mutual Pool for the Collection of Contributions and the Payment of Claims
C. Priority of Participants in the Event of a Winding Up Description of Regulatory Environments (Select Jurisdictions Only) Country Priority of policyholders? Australia Life Yes Non-life No Barbados No Bermuda Yes Canada Yes Cayman Islands No France Yes Germany Yes Ireland Yes Japan Life Yes Non-life No United Kingdom Yes United States Yes European reinsurers No US reinsurers No
Source: Fitch
>
Example: Malaysia
>
Insurance Act 1996
>
122. (1) In the winding up of an insurer, the assets of an insurance fund shall be applied to meet its liabilities to policy owners and claimants under policies of that class of insurance business and these liabilities shall have priority over unsecured liabilities other than preferential debts specified under subsection 292 (1) of the companies Act 1965 to the extent that they are apportioned to the insurance fund.
>
Not necessarily policyholder priority for Takaful firm
>
No specific provisions in Takaful act 1984
D. Group Rating Methodology > Having formed stand-alone view of financial strength – Assess potential group support based on –
Ability to support > 1. External barriers > 2. Financial strength
–
Willingness to support > 1. Relationship with parent > 2. Support agreements –
Formal
–
Informal
> Fitch has internal guidelines to assess how much uplift to apply based on these elements
Holding Company
Sub-Holding Company
Middle East Family Takaful
Retakaful
Middle East General Takaful
Asia Conventional Insurer
Asia Family Takaful
Agenda Fitch’s Analytical Process Focus on Selected Takaful Issues Ratings in the Financial Crisis
-25 Q102 Q202 Q302 Q402 Q103 Q203 Q303 Q403 Q104 Q204 Q304 Q404 Q105 Q205 Q305 Q405 Q106 Q206 Q306 Q406 Q107 Q207 Q307 Q407 Q108 Q208 Q308 Q408 Q109
Net Upgrades Less Downgrades
(No.) 20
15
10
5
0
-5
-10
-15
-20
Source: Fitch
Sliding Equity Markets
(31 Jan 07 = 100)
S&P 500 Italy
FTSE Malaysia
DAX Egypt
CAC 40 China
H208
250 200 150 100 50 0 Jan 07
Jul 07
Source: Bloomberg/Yahoo finance
Dec 07
May 08
Oct 08
Mar 09
Yield on Government Securities Falls Sharply Germany France
US Spain
(%)
UK Japan H208
Italy Malaysia
6 5 4 3 2 1 0 Dec 07
Mar 08
Jun 08
Sep 08
Source: Bloomberg, 5 year Generic Government Securities
Dec 08
Mar 09
Credit Spreads Increase Substantially
Basis points AAA
2 Jan 08 6
+5
1 Jul 08 11
+49
31 Dec 08 60
+4
31 Mar 09 64
AA
34
+24
58
+58
116
-13
103
A
46
+31
77
+45
122
+40
162
BBB
61
+69
130
+200
330
-35
295
BB
208
+105
313
+560
873
-138
735
B
414
+165
579
+716
1,295
-304
991
Source: Fitch RAPP
Takaful Developments‌ The Takaful Industry has: > Avoided investing in Structured and Complex Products > Avoided providing Guarantees > Limited Investments in high profile failures (Lehman, AIG etc.) > Made Some Progress Towards a Clearer Regulatory Environment But, > Losses from Equities > Credit losses expected to increase > Global downturn affects Takaful firms as well as Conventional Insurers
Conclusion >
Takaful firms benefit from: – Absence of exposure to structured credit market, some other difficult assets – Absence of guarantees offered – Generally Low leverage But: – Some Takaful firms hurt by high exposure to equity markets – Credit risk could also cause difficulties, especially where there are investment concentrations
>
Selected Developments – Challenging time for Insurers globally although important differences exist between types of firm and specific organisations. – Some Progress Towards an Exposure Draft on Measuring the Solvency Requirements of Takaful firms – Greater emphasis on some areas of rating process (investments, liquidity etc)
Fitch Ratings www.fitchratings.com
The Fitch Group
New York One State Street Plaza New York, NY 10004 +1 212 908 0500 +1 800 75 FITCH
Fitch Ratings
London 101 Finsbury Pavement London EC2A 1RS +44 20 7417 4222
Algorithmics
Singapore 7 Temasek Blvd. Singapore 038987 +65 6336 6801
Fitch Solutions