Chinese life insurers face new risks

Chinese life insurers may be exposed to risks from new investments as a result of liberalization by the China Insurance Regulatory Commission, Fitch Ratings said in a report on Thursday.

Under a new initiative by the commission, Chinese insurers have more flexibility in diversifying their investments to include credit-related financial products such as banks' wealth management products and asset-backed securities, where they are allowed to hold up to 30 percent of their assets.

In addition, insurers can invest up to 20 percent of total assets in infrastructure debts and property-related assets, up from 10 percent previously.

"Credit assessment of these financial products is generally more difficult than of straight bonds. Liquidity can also be an issue due to no secondary market being available," said Joyce Huang, director in Fitch's Asia Pacific Insurance team. "Such new investment vehicles may expose Chinese insurers to new risks which they may not be prepared to manage."

Chinese life insurers are more likely to tap into these complex investments than non-life insurers, given their greater investment flexibility afforded by the longer tenor of life insurance reserves. They have also mainly relied on investment income for profit. Stock market fluctuations continue to cause volatility in profitability and capitalization, although the low guaranteed returns for policyholders (which have been capped at 2.5 percent after June 1999) mitigate the downside risk.

Chinese life insurers are now placing greater emphasis on margin improvement over gaining market share. Their efforts in growing more profitable regular-premium policies have contributed to a continuing growth in the value of in-force business, despite a slowdown in premium sales, the report stated.

Fitch is maintaining a Stable Rating Outlook for the Chinese life insurance sector, in light of rated insurers' resilient market positions, adequate capitalization and external funding capabilities. That said, Chinese life insurers' capitalization remains vulnerable to potentially unfavorable movements in stock markets and deterioration in the quality of fixed-income securities in an economic slowdown in China. Significantly weakened capitalization on a sustained basis could lead to negative-rating action.

On the other hand, China remains an under-penetrated market, particularly in risk protection, retirement and healthcare products amid an aging population. Increasing insurance penetration, which leads to higher underwriting profits, and less reliance on volatile investment income, could result in positive-rating action.