Posted on Oct 25, 2011 by Sergio Ulloa
There could be changes afoot in China's powerhouse insurance industry as the country's national regulator looks to address the capital position, debt, and other competitive issues amongst players active across multiple business lines in the market.
Last week Mainland China's insurance regulator, The China Insurance Regulatory Commission (CIRC), released a statement outlining tighter credit rules for domestic insurance companies who have been looking to raise further capital through subordinated debt issues. The CIRC has been looking to strengthen its oversight over insurer financial matters to mitigate the threat of systemic risk spreading from the insurance industry to the banking sector and vice versa during these volatile macroeconomic times. Subordinated debt is a lower priority bond tool, which is only made repayable after all other debts (from government tax authorities, senior creditors etc.) have been collected. While the technique offers investors less insurance in the event an issuer can't repay, they remain attractive because they provide markedly higher yields than regular bonds due to the increased inherent risk. Subordinated debt has proven to be a popular fundraising mechanism for many Chinese financial institutions. Banks and insurance groups have typically held onto each other's subordinated debt despite the extra risk. Indeed, China Life Insurance Co, the nation's largest insurer by premium, was approved to raise CNY30 billion through a debt issue this week.
Under the new CIRC regulations, only insurance companies that have been active in the market for at least 3 years and have not incurred any significant administrative penalties will be eligible to issue subordinated bonds. Previously there had been no such requirements and many insurers used proceeds raised through subordinated debt issues to mask operating losses. The amount of outstanding subordinated debt these Chinese insurers can now hold will be limited to 50 percent of their net asset value going forward, versus 100 percent allowed earlier. Parent companies will also be barred from issuing debt on behalf of any insurance subsidiaries they own. The CIRC are certain these moves will all work to lower the default risk present in the Chinese insurance industry, and prevent contagion with the banking and financial services sector. "The changes were made to prevent systemic risks and maintain financial market stability," the CIRC statement read.
The Chinese insurance regulator reiterated concerns about insurer capital positions again this week. According to the Wall Street Journal
, the CIRC are worried that domestic insurance companies are continuing to struggle to make payments to policyholders. The CIRC is now looking at ways to help insurance companies replenish their capital base and intimated that they may help them tap into the offshore Yuan market in Hong Kong for supplementary funds. Despite the growth potential of the Chinese insurance industry
, there remain many challenges to the market due to inflationary pressure, macroeconomic policy changes and weak global capital markets. Insurance companies will need to adapt to changes in the Chinese economy, adjust their business models and increase both equity investments and bank deposits, all while making sure to maintain a healthy solvency ratio.
Insurance companies rely on both bank deposits and securities investments to settle policy claims and payouts. Because of this dependency, a sagging stock market (China's share market down 16 percent on the year) has affected the ability of domestic insurers to make payments on outstanding policies. When you combine these macroeconomic worries with the rapid rise in demand for insurance business in China, it becomes apparent that more capital is necessary for insurers to maintain their trajectory. This was supported in a July report by credit analysts from Standard & Poor's Ratings Services
, who project that Chinese insurance companies will need to raise more than CNY110 billion (US$17 billion) of fresh external funding to sustain their industry's further growth and development over the next three years. Although the credit outlook for China's life and property insurers will remain stable to positive, the ratings agency expects the industry to gradually slow down.
Speaking at a forum in Beijing, Chen Wenhui, CIRC vice chairman, said that the regulator would help domestic insurers raise cash through bond issues in Hong Kong, which would fall in line with existing Chinese government plans to accelerate the development of the Special Autonomous Region into the premier offshore yuan center. Despite their sizeable client base, Chen noted that insurers will face moderate industry risk in the long term without extra capital due to their relatively low capitalization, unrefined risk management practices, limited asset and liabilities management options and any adverse macroeconomic developments. If insurers are able to make their debt appear more attractive they could quickly capitalize on the country's fast-growing bond market and supplement their operations.
Mr. Wenhui also noted that the CIRC would study the relaxation of certain insurance regulations to promote new channels of business growth in China. Among these regulatory changes could be the potential introduction of foreign entrants into the country's humongous motor insurance market for the first time.
According to Bloomberg
, the CIRC has put forth a measure to China's State Council which would allow international insurance companies that meet select criteria to sell compulsory third party liability auto insurance. The proposal originated as a response to an American Chamber of Commerce complaint, which alleged that restricting mandatory motor lines effectively blocked AIG and other insurers from competing fairly in the market, as consumers tend to purchase their optional and compulsory motor insurance from the same company. While tightened regulatory price controls have lifted China's motor insurance sector into overall profitability since 2009, the industry still faces a barrage of infrastructure and service problems, particularly in mandatory lines. In opening the country's motor insurance market, the CIRC looks to both tap foreign expertise and stimulate domestic competition to address these issues and improve service standards.
The Chinese insurance industry has experienced pronounced growth in the past decade and still has plenty of room to grow due to generally stable economic indicators and an under-penetrated protection market. Despite volatile global financial market conditions, Chinese insurers remain attractive investment targets, for large multinational insurance companies and investors from the financial-services sector, amongst others. Indeed, almost US$25 billion in dual share offerings in Hong Kong and Shanghai could be coming to the market over the next year from Chinese insurance companies. PICC have plans to raise between US$5 billion and US$6 billion in a dual listing this year. New China Life Insurance, China's third-largest life insurance firm has also recently applied to the Hong Kong stock exchange for a dual listing. The insurer is aiming for US$4 billion in fresh funds by the end of the year
. Taikang Life Insurance, China's fifth-largest insurer by premiums, has also targeted between US$3 billion and US$4 billion from a Hong Kong listing in the next couple of years as well. Market observes will be watching closely to see if these insurers can all dual list successfully and build on their enormous domestic customer base to establish a more international presence.