On Nov. 15, 2023, S&P Global Ratings released revised criteria for the assessment of risk-based capital adequacy of insurance companies used for its rating analysis. At the same time, we added under criteria observation (UCO) identifiers to ratings that could be affected by the criteria change (three companies in Japan). Subsequently, we applied the revised capital adequacy criteria to the 17 insurance companies or insurance groups for which we conduct stand-alone assessments in Japan, prioritizing companies that were identified as UCO. This report summarizes our findings following the implementation of the revised capital adequacy criteria for Japanese insurers. (See "Insurance Capital Adequacy Criteria: Impact As Expected Following UCO Resolution," April 18, 2024).

Assessment Of Capital Adequacy Under Our Revised And Previous Criteria

A comparison of the capital adequacy assessments at the end of March 2023 under the revised criteria and the previous criteria shows that the assessment of both life and non-life insurance companies improved as a whole following the application of the revised criteria. This indicates that the capital adequacy improved for the majority of issuers with total adjusted capital (TAC) exceeding the risk-based capital requirements (RBC) at a higher confidence level compared with the previous framework. Although the analysis in this report focuses on the results of the application of the revised capital adequacy criteria, it should be noted that the results of the capital model are only one element of our rating analysis.

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For illustrative purposes, we set the aggregate TAC of the companies that were in scope under the previous criteria at 100 to examine the difference in outcome when using each set of criteria. As both TAC and RBC have increased for life insurance companies as a whole, the results of the revised and previous capital adequacy criteria are almost the same (previous criteria: AA; revised criteria: 99.95% confidence level; these both equate to a very strong capital and earnings assessment before adjustments). This may look contradictory with the overall improvement in our capital adequacy assessment under the revised criteria. This is because the significant improvement in our capital adequacy assessment occurred mainly for smaller life insurance companies. For non-life insurance companies, the results of the capital adequacy criteria have largely improved because TAC has increased significantly with the revised criteria and RBC has declined at confidence levels below 99.99%--namely 99.95%, 99.8%, and 99.5% (Previous criteria: BBB; revised criteria: 99.95% confidence level; this presents an improvement to a very strong capital and earnings assessment before adjustments, from satisfactory).

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With regard to TAC, two changes in the revised criteria have had a significant impact. One is that we clarified adjustments to determine TAC is net of the related tax impact. The other is the removal of various haircuts to liability adjustments. The biggest factor negatively impacting TAC for Japanese insurers under the revised capital adequacy criteria is that their equity-like reserves are recorded on an after-tax basis instead of pre-tax basis. On the other hand, the major factor positively impacting TAC is that TAC is now recorded without haircuts for the value-in-force (VIF) and with inclusion of unrealized gains on bonds backing life insurance liabilities.

For life insurance companies, the negative impact of the change in equity-like reserves offset the increase in VIF credit, resulting in a slight increase in TAC under the revised criteria. The impact of the increase in TAC stemming from the life insurance business of major non-life insurance groups was greater than the negative impact of equity-like reserves. In addition, the tax effect of intangible assets deducted from TAC and the removal of haircuts related to the discount adjustments to long-term non-life insurance reserves contributed to the increase in TAC.

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With regard to factors causing changes in capital requirement, RBC before diversification increased significantly for both life and non-life insurance companies. This primarily reflects the recalibration of our capital charges to higher confidence levels to explicitly capture the benefits of risk diversification. This is a change to the previous framework that reflected some diversification being implicit in the choice of confidence intervals for each risk charge. Also, capital requirements corresponding to the confidence level were added for VIF. On the other hand, the increase in market risk was mitigated, especially for life insurance companies, because the ability to better reflect interest rate risk eased capital requirements for asset-related risks. The increase in RBC after diversification effects was muted because diversification effects were more explicitly incorporated into the capital model. Overall, the RBC increased slightly for life insurance companies. For non-life insurance companies, the diversification effect has become larger, reflecting the diversity of major non-life insurance groups' businesses. The RBC under the revised criteria was lower than that under the previous criteria, except at the highest confidence level.

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Impact On Ratings Of Japanese Insurance Companies

The implementation of the revised capital adequacy criteria has resulted in an overall improvement in the ratings on Japanese insurance companies and their component scores. Among the three entities that were put on UCO:

• We upgraded NN Life Insurance Co. Ltd. to 'A' from 'A-'. This was mainly due to our upgrade of the parent group. However, we also raised our SACP on the insurer to reflect improvement in our assessment of its capital adequacy.
• We maintained our outlook on AIG General Insurance Co. Ltd at stable, even though we changed our outlook to positive on the parent American International Group Inc. to reflect improvement in its capital assessment. This reflects our view that the rating on AIG General is constrained by our sovereign rating on Japan.
• We changed our score composition for Fukoku Mutual Life Insurance Co. but kept the rating unchanged based on the fact that we continue to view its capital adequacy as excellent, above the 99.99% confidence level.

The improvement in the capital assessment of companies with the UCO designation in Japan is consistent with global trends. When S&P Global Ratings announced the revision of the capital adequacy criteria, we assigned UCO to 63 credits globally. We subsequently took positive rating actions or outlook changes on 62% of these credits. This is attributable to the removal of haircuts for certain insurance reserves included in TAC under the revised criteria and the more explicit credit for risk diversification, as is the case for Japanese insurance companies.

Among the Japanese insurance companies to which we did not assign the UCO designation, we raised the SACP of four companies/groups (Nippon Life Insurance Co., Taiju Life Insurance Co. Ltd., Tokio Marine Group, Secom General Insurance Co. Ltd.), supported by overall improvements in our assessment of their capital adequacy. For life insurance companies, positive changes such as the removal of negative capital and earnings adjustments also played a role, in addition to the effects of the revision of the revised capital adequacy criteria mentioned above. This reflects the significant progress in reducing market risks such as interest rate risk in response to the recent rise in domestic interest rates. On the other hand, improvement in our capital assessment of non-life insurance companies mainly reflects the accumulation of capital and the more explicit credit for diversification.

However, the changes in SACP did not result in changes to our ratings on these four companies, either because they had already been assigned a higher rating than the SACP due to support of the parent group or because they are constrained by our sovereign rating on Japan (A+/Stable/A-1).

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Related Criteria

• Insurer Risk-Based Capital Adequacy--Methodology And Assumptions, Nov. 15, 2023
• Insurers Rating Methodology, July 1, 2019

Related Research

• Insurance Capital Adequacy Criteria: Impact As Expected Following UCO Resolution, April 18, 2024