Captives could face downgrade
Wednesday August 24 2011 | 07:15 AM
Captives’ ratings risk being downgraded over the next three to five years after Standard & Poors’ US sovereign downgrade.
AM Best and Moody’s Investors Services reviewed captives’ exposure to sovereign debt in Europe and the United States in August, using stress tests.
Steven Chirico, AM Best assistant vice-president, predicted captives may start to see downgrades in the next few years if the debt crisis is not remedied.
Chirico said: “I wouldn’t say anything is imminent at all, but if we have enough pressure on the global economy you are going to find some downgrades of captives eventually.
Although AM Best has made no downgrades to captives yet, Chirico said: “We all need to keep an eye on our fixed income portfolios regarding the amount of and diversity of sovereign debt in those portfolios.”
Chirico advised captive owners to stress test captives for what happens when interest rates increase based on continuing downgrades, regardless of what country they are in.
“Keep an eye on those concentrations and have exit plans that will allow you to divest yourself of some of those securities in anticipation of further trauma. By diversifying an investment portfolio, you can protect yourself from some of these events.”
Chirico said the life insurance industry is clearly more adversely impacted than the property/casualty (P/C) industry because of its exposure to investment risk through higher asset leverage.
He said downgrades are, “definitely something we would see in P&C captives in particular as they have a history of investing in what had been relatively safe fixed income.” Chirico warned P&C companies with large exposure to declines in the market value of bonds due to increased interest rates, and may also need to realise the loss due to liquidity needs, could have their ratings affected.
The impact of that change on adjusted surplus causes capitalisation to fall too low, and a company would ‘be a write-off’ said Chirico, as they would be unable to meet liquidity needs in operations or inflation-led impacts of loss costs.
NEWS ARCHIVE
Article compliments Captive Review
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