Like elsewhere in Europe, Nordic insurance companies are seeking to raise competitiveness and cost efficiency in a challenging environment of low interest rates. A spate of mergers and acquisitions in the past year has been one consequence of this search for efficiency. However, we don't expect these acquisitions to alter the Nordic market composition materially. Nor do we anticipate significant changes over the next two to three years, largely because the markets are already concentrated and the number of potential acquisition candidates is limited.

Our ratings on Nordic insurance companies are mainly in the 'A' to 'A-' range with stable outlooks, reflecting our favorable view of the companies' strategies to cope with prevailing low yields and regulatory requirements. Their healthy technical results and capitalization also afford resilience to stress, in our view. We believe most Nordic insurers are abundantly capitalized, both under Solvency II and under our capital model. We expect this situation to continue, thanks to sound and stable earnings from the property/casualty (P/C) segment, and a move to more capital-light products in the life business. As a result, debt issuance has been meagre over the past few years, despite low financing costs.

Further Consolidation In Already Concentrated Markets

Market concentration remains high in all Nordic countries, a key advantage for Nordic insurers in our view, because it strengthens barriers to entry. We see these insurers' high cost efficiency, distribution setup, and strong brands as the other main safeguards against outside competition. Even in the least concentrated markets, Denmark life and P/C and Swedish life, the top three players have a combined market share of above 40%. Meanwhile in Finland the three largest players have a combined market share of about 80% in both the P/C and life sectors. In contrast, in German life and P/C, the top three players have a combined market share of 35% and 26%, respectively. Market dynamics may vary, however. For example, in the Norwegian P/C market, smaller insurers have gradually increased their market share to 30% in 2017 from 8% in 2004. This trend appears to have halted though, with smaller insurers only increasing their share by 2% over the past three years.

In the last year, several companies have grown their business through acquisitions (see table 1), principally to seek scale and cost efficiency advantages. Life and pensions insurers in particular are trying to boost profitability in the context of the low-yield environment and depressed earnings margins from asset management operations. Furthermore, we regard organic growth opportunities in Nordic insurance markets in terms of premium amount and numbers of customers as rather limited. In terms of premiums, growth is likely to be in line with GDP growth assumptions, or about 2%-3% for the Nordic life and P/C sectors overall. Premium growth in life markets may be volatile due to fluctuations in single premiums, or extraordinary high wage increases. For example, backed by wage increases, we anticipate premiums in the Swedish life market to increase by up to 5% in the next two to three years.

Overall, from our perspective, the recent acquisitions do not alter the Nordic market composition materially. We don't anticipate significant changes over the next two to three years either, largely because of markets are concentrated and thus the number of potential candidates for mergers or acquisitions is limited.

Table 1

Low Debt Issuance Despite Favorable Financing Conditions

Although financing conditions have been quite favorable in the past one to two years, we have witnessed low debt issuance. In general, issuance has been mainly for refinancing or acquisitions, including Tryg's acquisition of Alka. Debt issuance peaked in 2015 because of a high amount of refinancing of matured or called debt (about 40% of Nordic insurers' issuance). After the 2015 peak, we expected issuance to remain high since insurers focus on efficient capitalization. But since then, insurance companies have issued less debt than we expected (chart 1).

Although there is still room for further leverage under Solvency II, we believe the low debt issuance activity is a reflection of most Nordic insurers' abundant capitalization. Our rated Nordic insurers continue to show sound capitalization under Solvency II and under our capital model. Several insurers have a solvency ratio above 200% and we assess most insurers' capital adequacy as extremely strong (table 2).

In 2016, Gjensidige issued the first Solvency II restricted tier 1 (RT1) bond. Under Solvency II, an RT 1 bond is expected to absorb losses through full or partial principal loss absorption, either by conversion to equity or being fully or partially written down. This is beyond standard Tier 2 capital requirements. The market for insurance RT1 instruments has since developed in Europe, including in the Nordics with two recent RT1 issues by If and Tryg. We expect some further RT1 issues in the Nordics but foresee no material pick-up in the next two to three years beyond refinancing.

Chart 1

Table 2

Strong P/C Underwriting Results Should Continue, Benefitting From Cost Efficiency

Most Nordic insurers benefit from sound earnings, particularly within the P/C sector. We regard underwriting and claims handling processes as highly efficient, supported by sophisticated digital solutions. As a result, expense ratios are healthy (chart 2) and compare well with other European markets (Spanish P/C: about 23%; German P/C: about 25%; U.K. P/C: about 33%).

Cost efficiency is fundamental for the strong underwriting profitability of the Nordic P/C markets. We expect Nordic companies to continue to focus on cost efficiency and overall underwriting performance and therefore expect combined ratios will remain beneficial in 2019 and 2020, barring any extraordinary claim events. In 2017, combined ratios were around 90%, or even lower for some Nordic countries (chart 3), benefitting from relatively benign claims. This compares well with about 100% in the U.K., about 97% in Germany, and about 93% in Spain.

Norway's and Finland's combined ratios are slightly weaker than those of Denmark and Sweden in our 2018 forecast, but still better than other European markets. In Norway, we expect a deterioration in 2018 to about 94%, partly due to an increased frequency of claims related to adverse weather conditions. Meanwhile, we expect the Swedish combined ratio to remain below 90% in 2018, despite the recent forest fires.

Chart 2

Chart 3

The strong P/C underwriting results are the basis for sound overall earnings, reflected by an average return on equity of about 15% or more over 2013-2017 (chart 4). Again, this compares well with other European markets (U.K.: 8%; Germany: 13% in 2017). In addition to the profitable underwriting, investment income has been an important earnings contributor. However, a high amount of high-risk assets exposes results to a less benign investment environment. Still, based on our favorable expectations on the underwriting results, we anticipate sound return on equity to persist for the Nordic markets over the next two or three years, barring any turbulence on equity markets or a sharp decline of property prices (chart 4).

Chart 4

Life Insurers' Product Shift Is On Track

Nordic life insurers are making progress in shifting their product portfolio toward capital-light products, such as unit-linked (UL) products or products with lower or no guarantees. Companies are making this shift with the aim of consuming less capital, as required under the Solvency II regulation. The amount of average guarantees in the back-book varies from 2.5% to 3.5% among Nordic markets, and remains high in a European context. This is particularly the case for Finland with some insurers having guarantees of about 4.5%. However, Nordic insurers are restructuring their portfolios faster than other European players, resulting in a relatively high amount of UL reserves compared with traditional business with guarantees (chart 5). For instance, in Finland the share of UL provisions increased to above 60% in 2017, from less than 40% in 2011. This fast shift explains the high average guarantee level in Finland as it is the business with lower guarantees that has been transferred. In Norway, the amount of UL business in terms of reserves increased to 21% in 2017 from 12% in 2012. We recognize this is in part because local regulators support the conversion of life insurers' traditional in-force business into UL products. This isn't the case in other countries, such as Germany, where the regulator is more hesitant with regard to restructuring.

We believe restructuring of the business is a key element for Nordic life insurers to maintain sound capitalization and to offer attractive products for their customers. Nonetheless, it will take time for the guarantees in the back-books to abate, and financing of the guarantees depresses earnings.

Despite extraordinarily high return on equity in Swedish life in 2013, or in Finnish life in 2017, we regard the profitability of life insurers in general as lower than the non-life markets, but still adequate given the environment (chart 6).

Chart 5

Chart 6

Nordic insurers are in general more inclined to have a higher risk appetite than insurers in many other European markets. For example, in Finnish life, close to 30% of invested assets for the guaranteed life insurance business were held in equities at year-end 2017.

In order to compensate for lower bond yields, many life insurers continue to invest in equity, private equity, property, illiquid assets like infrastructure, or increase credit risk. Meanwhile the share of high risk assets has remained at about the same level over recent years in Finland and Norway, while further increases have been seen in Denmark and Sweden (chart 7). Since we expect interest rates to remain low, we believe this trend could continue over the next two years, leading to a potential increase in earnings volatility on the one hand. On the other hand, due to their strong capitalization, many Nordic insurers can afford the higher risk, for the benefit of potential higher yields.

Chart 7

Our Outlooks On Nordic Insurers Are Mostly Stable After Recent Upgrades

Our ratings on Nordic insurance companies/groups--on average in the 'A' to 'A-' range--reflect our favorable view of the companies' strategies to cope with prevailing low yields and regulatory requirements. Furthermore, most rated players benefit from a strong franchise and healthy competitive position, which enable them to achieve resilient earnings.

Despite the recent upgrade of Norway-based life insurer Storebrand (A-/Stable), our ratings on life insurers are still somewhat below those on the larger P/C insurers, Gjensidige, Länsförsäkringar, and If.

We expect to see a low level of rating changes over the next two to three years. Although a high share of high-risk assets make several Nordic insurers' earnings subject to volatility, their healthy technical results and strong capitalization also make them resilient to stress.

Related Criteria

• Insurers: Rating Methodology, May 7, 2013

Related Research

• Nordic Insurers: Digitalization Is A Key To Operational Efficiency, May 2, 2018
• European Life Insurers Are Playing The Long Game With Product Shifts, Feb. 22, 2018
• Hybrid Issuance By Nordic Insurers Likely To Slow From 2015 Peak, April 4, 2016
• Insurance Industry And Country Risk Assessment: Denmark Life, June 4, 2018
• Insurance Industry And Country Risk Assessment: Denmark P/C, June 4, 2018
• Insurance Industry And Country Risk Assessment: Finland Life, June 14, 2018
• Insurance Industry And Country Risk Assessment: Finland P/C, June 14, 2018
• Insurance Industry And Country Risk Assessment: Norway Life, April 12, 2018
• Insurance Industry And Country Risk Assessment: Norway P/C, Feb. 28, 2018
• Insurance Industry And Country Risk Assessment: Sweden Life, June 4, 2018
• Insurance Industry And Country Risk Assessment: Sweden P/C, June 4, 2018