Fitch warns insurers over possible investment income volatility

Credit rating agency goes in-depth on impact of IFRS 9 implementation

Fitch warns insurers over possible investment income volatility

Insurance News

By Terry Gangcuangco

Even before the implementation of the much talked about IFRS 17, another accounting standard is already set to impact insurers. Effective for annual periods beginning on or after January 01, 2018, IFRS 9 is forecast to cause increased investment income volatility – albeit moderate.

The accounting standard for financial instruments, which specifies how an entity should classify and measure financial assets and liabilities, replaces incurred-based credit losses with an expected credit-loss model. Fitch Ratings said the new model may create more loss-provisioning volatility for insurance companies with loan portfolios, as it is based on macroeconomic forecasts, unlike its less forward-looking predecessor.

More importantly, one particular category of IFRS 9 is expected to affect insurers’ earnings.

“IFRS 9 prescribes three classification categories: fair value through profit and loss (FVPL), fair value through other comprehensive income (FVOCI), and amortised cost,” explained the credit rating agency. “The FVPL classification will be the least favoured by insurers, as it requires changes in fair value to be recognised in profit and loss as they arise, potentially increasing earnings volatility.”

Fitch Ratings, however, believes the impact on financials will be manageable, since the bulk of insurers’ investments remain in traditional fixed-income-type securities – most of which are likely to be initially classified as FVOCI or amortised cost. Most equities though could now be classified as FVPL, and firms would have to re-assess their business models.

“Overall, the amount of financial assets measured by FVPL will increase compared with the previous standards,” said the credit rating agency, which added that life insurers’ income volatility is likely to be impacted more compared to their non-life counterparts due to higher exposure to non-fixed-income investments as well as the long-term nature of life insurance.

A major takeaway: this accounting standard should not be viewed in isolation. Insurers are urged to examine IFRS 9 “in tandem” with 2021’s new standard for insurance contracts – which, as it is, is feared to pose a greater challenge not only operationally but also financially.

“The new standards together move the industry to a new accounting era of increased transparency, granularity, and comparability,” said Fitch Ratings. “The interaction of the two new reporting standards may affect insurers’ financials, as investment assets and insurance contract liabilities are often managed together. Insurers will have to consider carefully the implication of these interactions.”

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