Insurers in Australia and New Zealand are well placed to absorb the effects from the COVID-19 pandemic, in S&P Global Ratings' view, although we expect current fiscal year earnings to be subdued. The COVID-19 pandemic has created a new suite of earnings pressures for insurers, following significant natural catastrophe losses for property/casualty (P/C) insurers over the summer. To date, losses for Australian P/C insurers from bushfires and storms over the summer months are in excess of A$5 billion, while their New Zealand counterparts had weather-related losses of over NZ$150 million over the same period.

We expect the effects of COVID-19 to include a slowdown in top-line premium growth, elevated claims in some lines of business, and some realization of investment portfolio market value declines. However, we believe strong capital buffers, sound reinsurance coverage, and relatively conservative investment portfolios will protect insurers' credit quality.

The financial assistance measures that many insurers are offering, such as premium deferral periods, full or partial refunds, and rebates, will also lower earnings for fiscal 2020 (ending June 30, 2020, or later depending on the insurer). These financial assistance measures may improve consumer sentiment and retentions over the medium term. However, ongoing affordability pressures may eventually result in higher lapse rates and potential underinsurance.

The Pandemic Has Weighed On Some Outlooks

To date, we have taken four rating actions on Australian and New Zealand insurers resulting from the COVID-19-related downturn (see table 1). All of these were outlook changes, with no downgrades occurring to date. We expect the number of rating actions to remain low unless the length and depth of the economic downturn is materially worse than our current expectations.

Table 1

Premiums To Moderate Over 2020

For most insurers, we expect slower new business sales, a slowdown in premium rate increases, and increased policy lapses to be consequences of the COVID-19 pandemic. While there will be differences by line of business and sector, we generally expect insurance premiums to be affected by:

• Reduced economic activity, including lower home and car sales;
• Affordability constraints;
• Higher unemployment;
• The reluctance of insurers to raise premiums; and
• Less face-to-face contact for agents and brokers slowing new business origination.

Premium pressures could increase in the third and fourth quarters of calendar 2020 as government stimulus measures--such as Australia's "Job Keeper" payments and New Zealand's "Wage Subsidy" payments--subside. However, we would expect aggregate premiums to progressively return to pre-COVID-19 levels from 2021.

Mixed Claims Experience Across Business Lines

We expect to see a moderate increase in claims in some lines of business, but note that these are mostly smaller lines for Australian and New Zealand insurers. However, a reduction in claims across personal P/C lines, particularly the home and contents and motor vehicle insurance portfolios, may offset increased claims across other lines, including commercial and specialty lines. There also remains the potential for higher cost of claims reflecting COVID-19-related distancing costs, and higher imported inflation costs. Structural changes forcing insurers to provide business interruption cover for communicable diseases such as COVID-19 could profoundly affect the creditworthiness of P/C insurers; however we view this development as unlikely in local markets. Incurred claims were also impacted in the March 2020 quarter by the strengthening of reserves on long-tail lines of business, due to the lower discount rate applied to expected claims following the fall in bond yields.

Table 2

Conservative Investment Portfolios Limit Investment Losses

Australian and New Zealand insurers' operating performance was affected by both realized and unrealized losses on their investment portfolios in the March quarter, largely reflecting hits to credit spreads on fixed income portfolios. Losses were even more pronounced on shareholders' funds, which typically contain a higher allocation to riskier assets. However, we generally view holdings of higher risk assets, including equity securities, to be low for the insurers, particularly for assets backing insurance liabilities. Typically, equity investments comprise less than 10% of rated insurers' investment portfolios with many, especially smaller insurers, having no equity holdings. There is also a relatively low tendency to hold weaker credit-quality bonds or unlisted and illiquid investments. We also see potential for insurers to unwind some of the unrealized losses over the remainder of the year given that they typically have a longer term investment horizon.

Chart 1

Chart 2

The life insurance sector internationally is generally more exposed to investment asset risk and lower-for-longer interest rate risk than other insurance sectors. This is due to the investment component of some life products, and lower interest rates requiring higher reserves. Insurers in Australia and New Zealand are generally less exposed to investment markets due to the lower incidence of life products with an investment, participating, or guaranteed component, and the high average investment asset credit quality. Our rated portfolio, which comprises mainly risk-only writers, has even less exposure to investment markets than the broader life sectors in Australia and New Zealand. To date, we have seen some repositioning of investment portfolios to protect capital metrics impacted by unrealized losses, and decisions to defer dividend payments.

Strong Capital Adequacy

Strong capital buffers provide sound protection for Australian and New Zealand insurers, in our view. Insurers are required to hold high levels of capital and typically have strong capital adequacy buffers above regulatory minimums. The companies we rate in these two markets also have strong capital adequacy under our global insurance capital model; we assess around three-quarters of the insurers as holding capital above the 'AAA' level (see chart 3). While we consider the COVID-19 impacts for most insurers will be earnings events rather than capital events, we believe that most insurers would be able to absorb moderate losses stemming from the outbreak and resultant economic slowdown at current rating levels, even if it were to extend for longer than we currently expect.

Chart 3

Refinancing Risk Is Not Significant Over 2020

We do not view refinancing risk as significant for Australian and New Zealand insurers in 2020. While a delay in replacing hybrid debt issues with approaching call dates could be difficult or result in higher financing costs, the insurers that we rate in the two countries have limited maturities over the next 12 months. Further, most issuers that do have upcoming call dates have prefinanced these or are arranging to extend exchange dates. We have, though, already seen some issuers successfully tap investors for both equity and hybrid issues since the onset of the COVID-19 pandemic.

Sector Sensitivities: P/C Insurers

We expect that many P/C lines will see top-line contraction over the year as reduced activity and subdued economic conditions have resulted in fewer home and car sales in recent months, amongst other factors. New home sales were down around 22% in the month to March 2020, while new car sales were down by about 52% in the month of April. New car and property purchases typically support new insurance policies. We expect P/C insurers to also be impacted across calendar 2020 as a result of the financial support offered for individuals and small and midsize enterprises through premium deferrals, refunds, and similar measures.

Chart 4

Australia's P/C insurers have experienced elevated claims in a summer besieged by a large number of catastrophes and natural disasters; however we expect limited additional increases due to the COVID-19 pandemic. Key lines such as event cancellation, trade credit, and commercial liability are likely to see increased claims, however we note that these are much smaller lines for Australian insurers, and even smaller for New Zealand insurers. While business interruption policies typically will not respond to this event, as they do not usually cover communicable diseases, we will monitor the potential for varying interpretations and judicial challenges to affect these contracts. We also expect to see increased travel insurance claims, albeit only for the period up until the time that COVID-19 pandemic became a known event, and as a result are generally excluded. We understand the average travel insurance claim size is modest, with the majority of refunds for cancelled travel borne by the airline and hotel operators.

Potentially offsetting the increase in claims in some lines, the large motor and home insurance portfolios of Australian and New Zealand insurers will likely benefit from the economic lockdown. Fewer cars on the road have lowered the number of accidents, and more people staying at home will potentially lead to fewer home thefts and quicker identification of water leaks. However, gains achieved in these lines may be shared with customers through partial premium rebates, with market sentiment increasing for more insurers to offer these, particularly on motor vehicle insurance policies. On the other hand, there may be some uplift in claims associated with unattended commercial properties.

Sector Sensitivities: Life Insurers

As with other insurers, life insurers will likely experience a small decline in premiums over the next one to two years as a result of COVID-19, with lower new sales and an increase in lapses resulting from the increased financial pressure on consumers. These conditions supplement our existing negative outlook on the Australian life sector, while the New Zealand life sector remains stable. This is also at a time of industry disruption from merger and acquisition activity and conduct and compensation pressures on distribution post Australia's Royal Commission into Misconduct in the Banking, Superannuation and Financial Services Industry. Nevertheless, there is some evidence of an increased interest in life cover in some industry sectors due to direct exposure to COVID-19, which could partially offset other top-line impacts. The offering of financial support to customers in financial difficulty, such as through premium deferrals may assist with retentions and longer-term profitability, but will likely hurt near-term earnings.

With a low mortality rate in Australia and New Zealand to date due to the COVID-19 pandemic, including a low number of deaths to infections compared with other countries, we do not expect a noticeable increase in mortality claims for local life insurers, barring a significant worsening of the outbreak. A further factor that moderates life insurance claims is that the older age groups that are most susceptible to COVID-19 usually have limited or no life insurance cover in these markets. We expect limited total and permanent disablement (TPD) claims as COVID-19 isn't currently linked to permanent disablement. For income protection policies, we also see limited direct claims due to the typical 30 to 90 day waiting period, although incidence of reinfection rates or longer-term fatigue is uncertain.

However, we note that income protection and TPD claims typically increase during times of economic and social stress, particularly mental health and musculoskeletal claims, and as such we may see an increase in these types of claims as a second-order impact of the pandemic. This will apply more to Australia, and less so New Zealand with its existing government schemes. In addition, termination rates for existing claimants may be slower with fewer return to work options and disruption in provision of physical and mental therapies. This will further pressure the already poorly performing income protection product and increase the likelihood of additional rate increases and tightening of underwriting standards.

Sector Sensitivities: Health Insurers

We expect health insurers to be less affected by the COVID-19 pandemic, excluding investment losses. Local public healthcare systems have been structured to administer care to infected patients and meet hospital and medical care costs, and these costs will not be borne by the private health insurers. We anticipate top-line premiums to stagnate, or decline slightly, for private health insurers due to higher unemployment and reduced discretionary spending. Several insurers have also deferred premium rate increases for the current year to support customers during the pandemic.

We expect claims for private health insurers to decline substantially for the duration of the outbreak as hospitals defer elective surgeries and patients choose not to undertake certain procedures. As people continue to practice social distancing, we also anticipate that there will be a decline in customers using ancillary healthcare services, further lowering claims during this period. Due to the deferrals, some health insurers may offer refunds to policyholders, although we do not believe they would do so to the extent that it eats into profits. We also do not expect a significant spike in claims after restrictions are eased as there is a supply constraint on healthcare services and professionals.

Sector Sensitivities: Mortgage Insurers

Australia's mortgage insurers' earnings will likely come under pressure as the effects of the economic shutdown take their toll, and we have revised our outlook on the sector to negative accordingly. We expect premiums to contract over calendar 2020 as a result of reduced numbers of home sales, particularly those that would typically require the use of lenders' mortgage insurance (LMI). Premiums will be hit by reduced economic activity, with house sales significantly affected by the lockdown, but also by the reduced risk appetite of lenders, several of whom have tightened their lending criteria in response to the economic downturn.

We consider that mortgage insurance claims will increase, especially in the latter part of calendar 2020. Higher claims reflect a prolonged increase in the unemployment rate, which we expect to average 7.5% across calendar 2020, and unemployment is a key driver of mortgage defaults. There also remains the potential for underemployed borrowers to struggle to meet repayments. However, we note that many Australian banks have introduced a range of forbearance measures, including a six-month pause on mortgage repayments and extended hardship provisions, in response to the current crisis. Prior to the pandemic, many Australian borrowers were well ahead of their repayment schedules, which also acts as a buffer. The combination of low interest rates and the incremental increase in property prices in Australia's largest states over the past 12 months are also supportive of borrowers' ability to meet repayment requirements. A key sensitivity remains regarding the transition period, when bank forbearance measures subside at the end of the six-month period, and the relative state of employment at that time.

S&P Global Ratings acknowledges a high degree of uncertainty about the rate of spread and peak of the coronavirus outbreak. Some government authorities estimate the pandemic will peak about midyear, and we are using this assumption in assessing the economic and credit implications. We believe the measures adopted to contain COVID-19 have pushed the global economy into recession (see our macroeconomic and credit updates here: www.spglobal.com/ratings). As the situation evolves, we will update our assumptions and estimates accordingly.