European (re)insurers are well positioned to withstand the current volatility in the stock markets, having made significant changes to their investment portfolios in recent years, according to A.M. Best.

The rating agency’s announcement comes after efforts by China’s central bank to stabilise the country’s stock markets have failed to prevent further losses.

In a briefing paper, published on 26 August, A.M. Best said the declines in the Shanghai Composite Index, compounded by "Black Monday" on August 24, 2015 when it tumbled 8.5%, and the contagion effect of the impact of China’s slowing growth on the global economy, is of concern.

A.M. Best noted the significant declines seen in global equity markets in the past few months, and the drop in commodity prices, come at a time when European (re)insurers have started to move assets back into stocks and real estate.

In spite of this move back into stocks and real estate, A.M. Best said European (re) insurers’ investment portfolios are still largely concentrated on fixed income instruments.

The briefing paper said: "Companies are conservative in their approaches and maintain a strict policy of cash and extremely liquid assets to enable credit facilities to be available.

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"However, given the low interest rate environment, many companies have recently begun to search for yield and have shifted into real assets including infrastructure projects, equities and real estate.

"European life insurers, in particular, have faced mounting concerns about the duration gap between assets and liabilities and the associated reinvestment risk, and have sought greater returns by diversifying their
portfolios by shifting gradually into non-traditional commercial loans, infrastructure projects and mortgage books."

Limited options

A.M. Best added if there are worries about a slowdown in global economies, options for insurers to
try to increase their investment returns will become more limited as they focus largely on high-quality fixed-income securities that generate lower yields.

To place the current stock market volatility in context, A.M. Best said since the global financial crisis of 2008, and the subsequent European sovereign debt crisis in late 2011 to 2012, there has been a notable shift from shares to high-quality fixed income assets.

It said the majority of the large European (re)insurers are currently extremely well capitalised and are well aware of the speed at which liquidity can freeze up and how contagion effects can spread to both real estate and equities.

According to A.M.Best, typically, most of the highest rated European large insurance groups have a buffer of 20% to 30% in their investment portfolios to withstand market value fluctuations without incurring negative pressure to their current ratings.