China’s insurers prepare for C-Ross phase II

China's insurers appear to be trying to get ahead of expected new solvency rules by strengthening their capital adequacy levels and making more prudent investments.

China Life, Ping An Property and Casualty, Zhujiang Life and Aeon Life have all obtained regulatory approval to issue bonds to replenish their capital, the Chinese Banking and Insurance Regulatory Commission (CBIRC) revealed last week via four separate notices.

As a result, the four insurers between them are authorised to raise up to Rmb50.5 billion ($7.5 billion) by issuing 10-year callable bonds in the interbank bond market, the statements show.

That comes after the CBIRC signalled its intention to finalise plans for a new phase of its China Risk-Oriented Solvency System (C-Ross) by mid-2020. C-Ross is used to measure an insurer’s ability to meet its long-term financial obligations. 

Even China Life, the biggest insurer in China, is having to raise funds to shore up its capital because they see that the capital market is not very optimistic, Stella Ng, director of insurance at Fitch Ratings, said at a media briefing on Tuesday.

China Life warned last month that its net profit for 2018 had plunged by between 50% and 70% compared with the previous year because of the volatile performance of domestic shares. It is scheduled to announce its full year-end result on March 28.

“We think that under C-Ross phase II, they will step up efforts to optimise their capital risk factors ... From another perspective, their need for capital will also go up,” she said.

C-Ross, introduced in 2016, is a risk-based regime in which an institutional investor’s solvency ratio is mainly determined by the level of risk baked into its investment portfolio. Prior to this, maximum limits were set for different types of investment asset.

While the details of C-Ross phase II remain sketchy, it is widely expected that the capital charges for some risky assets, such as long-term equity, will be higher. So if insurers maintain the same level of investment in such assets under the new rules, their solvency ratios will go down.

In addition to C-Ross phase II and the jitteriness of the A-share market, insurers are also facing pressure on their premium income because of the clampdown on short-term insurance policies, adding to the pressure on their capital, Ng said. 

But for now, the solvency levels of Chinese insurers are seen to be at healthy levels. As of the end of 2018, life insurers in China had a comprehensive capital adequacy ratio of 235% on average. This level is much higher than the current official threshold of 100% and the 150% level encouraged by regulators.

CBIRC said on Friday that it rated Chinese 104 insurance companies as type A out of 178 it had assessed -- including life, property and casualty insurance and reinsurance providers. A further 69, it said, were type B, leaving just two as type C and two as type D.

Type A companies are regarded as meeting all the required solvency standards, while those in type D seriously fail in the assessment. Type D companies can be ordered to stop part of or all of their insurance business.

MORE CAUTIOUS

As a result of the looming new solvency rules, insurers are also expected to become a bit more prudent when it comes to investing in riskier types of assets, including perpetual bonds issued by banks.

CBIRC relaxed its rules on January 24 to allow insurance firms to invest in banks' tier-2 and perpetual capital bonds. These perpetual bonds provide insurers with more investment options as they seek long-duration and relatively liquid investments that match their lengthening liability durations, according to both Fitch and Standard & Poor’s.

Insurers’ investments into banks’ perpetual bonds increase the risk arising from cross-investing into financial institutions, Standard & Poor's said in a report in January.

Banks’ perpetual bonds are like subordinated debt and have loss-absorption features. It is capital banks draw upon when they incur certain losses, in which case investors can lose out on coupon payments, Ng of Fitch said.

The risk charge on high-quality corporate bonds is 9%. In contrast, the risk charge for perpetual bonds could even be higher than that of tier-1 bonds issued by different types of banks, which can range from 20% to 40%, Ng said. “This will affect a lot their risk-based capital, or solvency position, especially under C-Ross (phase II)."

So although this new type of asset has been opened up to insurers, from Fitch's conversations with the industry the big players are generally assuming a more cautious attitude towards investing in perpetual bonds, she added.

*This story has been updated to reflect the risk charge of perpetual bonds.