COVID-19 and Capital Markets for the Insurance Industry
Keeping track of the current economic climate is a challenge right now, but most indicators are showing good results. The NAIC Capital Markets Update as of May 2021, presented positive trends for liquidity and cash solvency in the insurance industry during 2020.
At year-end 2020, U.S. insurance companies reported total cash and invested assets, including affiliated and unaffiliated investments, of $7.5 trillion, an increase of 7.7% compared to $7 trillion at year-end 2019. Chart 1 shows the industry’s total cash and invested assets on a book/adjusted carrying value (BACV) basis from 2011 through 2020, along with annual year-over-year (YOY) growth rates.
Cash and invested assets have grown steadily on an absolute dollar basis since 2011, with BACV increasing over 40% during the 10-year period. Despite the market stress and volatility resulting from the effects of controlling and mitigating the COVID-19 pandemic, the 7.7% YOY increase in cash and invested assets at year-end 2020 was the largest increase in the last 10 years and follows growth of 7% in 2019.The composition of the industry’s assets was unchanged from prior years, with bonds and common stocks the largest and second largest asset classes, respectively. Mortgages and Schedule BA assets were the third and fourth largest categories, respectively.
While exposure to less liquid assets (such as mortgages and Schedule BA assets) continued to increase as measured in absolute dollar terms, U.S. insurance companies enhanced their balance sheet liquidity, whereby cash and short-term investments increased 27% in 2020 in response to the uncertain operating environment resulting from the COVID-19 pandemic.
The credit quality of the U.S. insurance industry’s bond portfolio deteriorated as of year-end 2020, with bonds designated NAIC 1 and NAIC 2 declining one percentage point to 93.9% of total bond exposure and a small shift in exposure toward the lower end of the higher quality spectrum.
Bond investment portfolios experienced credit quality deterioration following record levels of negative rating actions at nationally recognized statistical rating organizations in 2020 following the impact of the COVID-19 pandemic on the credit markets.
The beginning of the COVID-19 pandemic and oil price dislocation in April 2020 resulted in significant pressure on credit quality. This led to a record number of negative rating actions that reflected sudden and, in some cases, sustained declines in revenues amid deteriorating cash flows and rising leverage. In 2020, for example, S&P Global Ratings (S&P) took approximately 2,100 public rating actions on global corporate, financial and sovereign bonds where the COVID-19 pandemic, the oil price shock or both were cited as a factor, with more than 50% of the ratings actions resulting in downgrades. The majority, or 68%, of the rating actions affected high-yield issuers, which tend to have weaker liquidity and refinancing profiles. Almost 45% of S&P’s corporate, financial and sovereign rated universe experienced a negative rating action, with approximately 23% of them downgraded. In addition, in 2020, S&P lowered the ratings of more than 1,800 structured finance tranches in the U.S. due to the COVID-19 pandemic and/or the decline in oil and gas prices. The rating actions represent approximately 5% of the outstanding S&P-rated traches in the U.S. and Canada. RMBS and CLOs accounted for 37% and 27% of the structured finance rating actions.
This could change as a result of the current oil and gas price surge due to the recent cybersecurity hack on Colonial Pipeline in the southeastern United States. Currently, experts are not indicating a long-term impact but will continue to monitor the situation for further details. As the US sees a marked downtown in Covid-19 cases and improving “return to normal” business conditions, forecasts should remain positive. We’re nearly to the halfway point of 2021, here’s to the arrow continuing to point up!
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