Rating Migration: Key Credit Weakness for US Life Insurers Amid Higher Investment Risk
October 8, 2019 by Moody's Investor Service
Searching for yield in a low interest rate environment, our rated US life insurance companies have become more susceptible to the negative impacts of falling ratings or ‘rating migration’. This is primarily due to a decline in the credit quality of the investment grade portion of their fixed income portfolios, as shown by their increased investment allocation to Baa-rated bonds, which have increased to over one-third of total bond holdings today from a little over one-quarter a decade earlier. A sharp downward turn in the credit cycle that leads to a large number of credit rating downgrades within insurers’ bond portfolios, and a corresponding rise in defaults, would reduce life insurers’ capital strength. Interestingly, the greatest impact would be a function of higher capital requirements caused by rating downgrades, and to a lesser extent lower statutory capital driven by defaults.
Under a severe rating migration scenario, which we examine in this report, industry capital strength as measured by the risk-based capital (RBC) ratio1 would decline to 378% from a year-end 2018 industry median of 447%.