Nordic insurers proved themselves equal to the challenges of 2020 and are now making plans for the post-pandemic period. With their capitalization largely restored, many are re-examining the risks to which they are exposed with new eyes.

The market decline in the first half of 2020 initially suggested a high risk of investment impairments, despite insurers' previously robust capital positions. However, as countries learned to manage COVID-19, the markets recovered. To a large extent, capital was restored to pre-pandemic levels by year-end, supporting our ratings.

Although we still anticipate that COVID-19 will carry some risks for economies and capital markets in 2021, we forecast that property/casualty (P/C) and life insurers will see sound premium levels and that the claims experience will gradually trend back to normal. Nordic insurers still benefit from high operational barriers to entry; supportive institutional frameworks; strong technical results, cost efficiency, and risk selection; and the ability to increase prices if claims increase.

With increased capital, the appetite for acquisitions has also returned, but we note a new approach to M&A at some groups. Until now, Nordic insurers have tended to avoid acquiring companies beyond their home region; some are now testing the benefits of wider geographic diversification.

Despite the volatility we saw in 2020, we took very few rating actions on Nordic insurers. We revised our outlook on only three companies--Alandia Forsakring Abp, Gard P&I (Bermuda) Ltd., and Sirius Group--largely for group-specific reasons. Given that all but three of our 21 insurance ratings in the region have a stable outlook, we do not anticipate that this trend will alter.

Capital Buffers Remain Healthy Into 2021

In March 2020, as the pandemic went global, market volatility and financial market risk increased sharply. We still consider financial market risk to be the most significant and immediate source of potential risk for our ratings on Nordic insurers in 2021, chiefly because of the pressure it places on capital adequacy.

We applied stress tests during 2020, to measure the resilience of our rated insurers' capital to the pandemic-induced market volatility, and we continue to assess the sensitivity of insurers' capital adequacy positions to movements in asset values and potential deterioration in credit quality. Our tests include sensitivity to a range of assumptions, including equities, real estate, default and transitions, loans and mortgages, and bank deposits.

For example, in the modeled stress for equities, we based the magnitude of the stress on the average we observed for specific regions at the worst of the fall in 2020. For default and transitions, we used the global defaults and transitions we observed during the 2001 credit crisis. Our performed stress does not account for any potential actions or remedies taken by the companies. In addition to these stresses, we also considered the implications of movements in interest rates and credit spreads, following reactions from policymakers and markets to the pandemic. This is an important risk, particularly for life insurers. We maintain an ongoing discussion on the topic with the insurers we rate in the region. Further details of our stresses are given in "Down But Not Out: Insurers' Capital Buffers Are Proving Resilient In The Face Of COVID-19," published on Sept. 22, 2020.

Overall, we consider that the Nordic insurance industry's capital buffer demonstrated resilience to the stress test we performed. That said, under our stress scenario, we estimate that about 67% of the capital in insurers' buffers at the start of 2020 would be erased. Based on the output of our capital model, Nordic insurers have a surplus in their buffer capital. Our assessment of capital and earnings for the Nordic insurers we rate ranges from satisfactory to excellent. As chart 1 shows, equity risk was the main single risk factor in reducing buffer capital.

Chart 1

Compared with the broader European picture, the Nordic region stands out, particularly in terms of equity risk. Elsewhere in Europe, equity risk accounts for only about 27% of capital, versus 31% in the Nordics. The region's insurers typically hold a considerable proportion of high-risk assets in their asset portfolios, mainly equities and loans/mortgages. As financial markets have recovered much of what was lost, we believe the industry has regained some, but not all, of the capital cushion it had built up pre-pandemic. Moreover, we expect Nordic insurers to post healthy results for full-year 2020, which will further support capital positions, even though investment results were dented by the pandemic's effect in the first half. Hence, we do not anticipate that capitalization will face short-term pressures as we enter 2021.

Ratings Were Unaffected By The Pandemic

Our ratings on Nordic insurers were largely unaffected by the pandemic in 2020. We revised outlooks on three insurers during the year, but not because of the pandemic. In 2021, we expect capital positions to remain robust and well prepared to cope with potential market volatility.

Nordic insurers include traditional life and P/C players as well as niche companies, such as protection and indemnity (P&I) clubs and insurance subsidiaries of banks. On average, they have a financial strength rating in the 'A' category and all but three have a stable outlook, reflecting the underlying stability and sound capitalization of the sector.

Chart 2

Chart 3

Chart 4

Nordic Insurers Exercise Strong Cost Control

In our view, Norway, Sweden, Finland, and Denmark enjoy strong credit quality and wealthy economies. The Nordic insurance sectors will continue to benefit from high operational barriers to entry and a supportive institutional framework. We view their high cost efficiency, strong control of distribution channels, and brand recognition as healthy protection against external competition.

Recently, management teams have renewed their focus on cost control exercises and certain insurers have started restructuring their business composition. For example:

• Länsförsökringar announced intragroup restructuring plans;
• Alandia is selling its pension and accident & health business, and divesting its life book;
• Sampo is reducing its ownership in Nordea as it focuses on its insurance business; and
• Dina Forsakring's owner companies are carrying out mergers to increase long-term efficiency in the group and, potentially, to lower costs.

Each of these insurers is clearly aiming to create a more streamlined and efficient organization, further focusing on cost efficiency and shifting operations toward its core business.

Nordic insurers are adapting more closely to digital business models, which will enable them to make additional cost savings and further improve their future competitiveness. The pandemic has accelerated the sector's efforts toward digitalization and we understand that their digital platforms and processes have worked well beyond expectations during the crisis. At an operational level, Nordic insurers have been relatively unaffected by the pandemic because digitalization is widespread in the region. They have been able to operate effectively, even though almost all their employees have been working remotely for long periods.

P/C Insurers Demonstrate Strong Technical Performance

The region's P/C insurers comfortably outperform their peers in the rest of Europe on a technical level (see chart 5). They mainly accomplish this through cost efficiency and enhanced risk selection, and because they have the freedom to increase prices in business lines where claims are increasing. We anticipate that technical results will remain healthy in future, fueling capital positions.

Moreover, we have observed positive one-off profits during the pandemic. Excluding claims linked to the pandemic and natural catastrophe experience, the claims experience has been favorable, mainly because lockdowns led to a massive drop in the frequency of motor claims. As of early 2021, claims were gradually trending back to more normal levels.

Although the market was relatively volatile in 2020, Gjensidige posted its best-ever third quarter underwriting result, a combined ratio of 78.2% (2019; 83.2%). Gjensidige's year-to-date figure for the first nine months of 2020 was also impressive, at 80.7% (same period in 2019; 83%). Similarly, If P&C reported a strong combined ratio of 82.9% in the third quarter, and a year-to-date figure for the first nine months of 2020 of 82.4%. Lower combined ratios indicate better profitability. A combined ratio of greater than 100% signifies an underwriting loss.

Chart 5

Nordic insurers in particular, have increased their investment leverage to enhance returns by holding higher-risk assets, mainly equities. In our view, although some insurers reduced risks at the beginning of the second quarter, asset allocation has been largely stable through 2020. This means that return on equity (ROE) at Nordic insurers is significantly more volatile than the broader European picture. We capture this in our capital and earnings assessment. The low interest rates are likely to weigh on investment yields, and thus on ROE. That said, P/C insurers will be less affected than life insurers.

Chart 6

Chart 7

Interest rates remain ultralow and this weighs on life insurers' profitability (return on assets and ROE). The problem is especially acute for those that offer guaranteed products, which is more common in the German-speaking and Nordic regions. In search of higher investment yields, some markets have chosen exposure to the volatile equity and real estate classes. These high-risk assets result in ROE volatility.

Chart 8

Chart 9

Nordic Insurers Reconsider M&A Targets Outside The Region

Given their historical preference for immediate profitability from nonorganic growth, it is unsurprising that few have looked outside the region for acquisitions. That said, the high market concentration and profitability in all Nordic countries can make it difficult to find suitable acquisitions within the region.

In 2020, we observed that, as M&A activity returned, the targets had become more diverse. We saw smaller, regional, bolt-on acquisitions, like Storebrand's acquisition of specific insurance portfolios from Insr Insurance Group ASA, and also large acquisitions of entities from outside the region. Examples of the latter type of transaction include:

• Sampo and Rand Merchant Investment Holdings' acquisition of the U.K.-based Hastings Group Holdings PLC; and
• Tryg's joint purchase, with Intact Financials, of the U.K.-based RSA Insurance Group.

These acquisitions are intended to provide valuable diversification of business, which we generally treat as supportive for our business risk profile. That said, integrations can be difficult to manage, both in the short term and during the execution phase. They make capitalization more uncertain and achieving the desired long-term improvement in profitability can be tricky. In addition, Nordic insurers are far more digitalized than the rest of Europe, complicating the merger process.

The market's strong recovery from the pandemic-inspired downturn is likely to revive the appetite for acquisitions among Nordic insurers. As they rebuild their capital positions, we expect to see more transactions. Many are likely to be the smaller, regional portfolio add-ons that were historically common. Nevertheless, we anticipate that some Nordic insurers will look outside their region. The recent transactions offer a moment of truth for Sampo and Tryg. They offer an opportunity to test whether successful integration within core business lines, but outside the region, is possible and, more importantly, if it can be profitable.

Related Criteria And Research

Related Criteria

• Criteria | Insurance | General: Insurers Rating Methodology, July 1, 2019
• Criteria | Insurance | General: Refined Methodology And Assumptions For Analyzing Insurer Capital Adequacy Using The Risk-Based Insurance Capital Model, June 7, 2010

Related Research

• SLIDES Published: EMEA Insurance Outlook 2021: Choppy Waters Ahead, Nov. 17, 2020
• Gard P&I (Bermuda) Ltd. Outlook Revised To Negative On Weakening Operating Performance; 'A+' Ratings Affirmed, Oct. 30, 2020
• Down But Not Out: Insurers' Capital Buffers Are Proving Resilient In The Face Of COVID-19, Sept. 22, 2020
• Sirius Group Ratings Affirmed And Off CreditWatch On Acquisition By Third Point Re; Outlook Negative, Aug. 7, 2020
• Finnish Insurer Alandia Forsakring Abp Ratings Affirmed At 'A-'; Off CreditWatch; Outlook Negative, June 15, 2020
• Alandia Forsakring Abp 'A-' Ratings Placed On CreditWatch Negative After Negative Underwriting Performance, March 17, 2020
• Sirius Group On CreditWatch Negative On Disagreement With Majority Shareholder Over Authority To Approve Share Issuance, March 3, 2020