The South African and global insurance industry took a hard knock in 2015, marking the end of the usual way in which the industry operates. Declining global commodity prices, the slowing down of China’s growth and the strengthening of the US dollar, particularly against emerging market currencies like South Africa have impacted negatively, threatening economic growth prospects.
South Africa’s subdued economic growth can also be attributed to climate change, severe droughts and floods, energy and water constraints, rising interest rates and food prices, as well as pressure on disposable household incomes and passive growth in equity markets. “Investor confidence has also been negatively impacted by the threat of further downgrades of South Africa’s sovereign ratings, which impacted negatively on the embedded value of insurance, as it impacted their risk discount rate and their cost of capital,” reports PwC in their insurance industry analysis, “Insurance through challenging times.”Although the slow economic growth is impacting the South African insurance industry this year, PwC reports that those companies with solid balance sheets are most likely to remain buoyant in the market despite the difficult environment they are working in.
Standard and Poor (S&P) recently prevented a further downgrade of South Africa’s sovereign rating. In its 2017 ratings, and their assessment projects a modest economic growth of 1.4% that will see moderate profitability in the insurance industry.
Slow economy leaves little room for growth
“A slow economy will restrain household spending, leaving little room for insurance premiums to grow. Insurance premiums are expected to remain subdued, growing in line with nominal GDP in 2017 and 2018. Despite the negative backdrop, the industry remains resilient, and overall profitability for property/causality insurers should remain robust with annual return on equity of around 15%-20%,” said S&P, adding that life insurers will be impacted by the weaker economic prospects, competition, dampening sales and capital market volatility that became evident in 2016.
“However, major life insurers are better positioned to handle these conditions with their strong market position, broad product offering, large distribution networks, and significant risk-sharing mechanisms within investment products.” The CEO of the South African Insurance Association (SAIA) Viviene Pearson is optimistic about the challenges and prospects for the industry.Pearson says there is a sense of optimism in the air after S&P announced in December 2016 that it was maintaining South Africa’s credit rating at BBB, the rand is stronger against the US dollar compared to the same time last year and there is a strong collaboration between business, labour and government.
Challenges and opportunities
“I am always optimistic—challenges often turn into opportunities and I would say this covers both short and long-term insurance industries. However, the short-term industry nature is linked to everything on the ground and climate change is a real issue. We are seeing a lot of different kinds of weather events, which are more frequent or more severe, such as serious droughts or heavy rains and flooding. There are more frequent and severe storms and bigger and bigger hail stones, which is happening particularly in Gauteng where most of the vehicles and houses are concentrated. But our industry is very good at adapting to finding ways to deal with these increased risks.” Pearson says that, due to the constrained market, she sees a trend of collaboration within the insurance industry with mergers and acquisitions and changing business models. The challenge with motor vehicle insurance, for example, is the exchange rate notes Pearson, as it impacts on motor vehicle parts and insurers must manage to keep down costs.
“Motor insurance is an issue, you can’t raise costs ad infinitum — so premiums increase,” she explains, adding that motor insurance impacts between 40% to 44% of the sustainability of the whole insurance industry. The industry needs to be more efficient and cost effective and financial technology (fintech) is a positive development as more of our members are using fintech to help service their clients.” The challenge with using fintech, explains Pearson, is that it could be a threat to jobs in the future. Another focus this year for SAIA will be to align with the National Development Plan (NDP) and improve the levels of financial inclusion in South Africa. “There is a huge need for more financial inclusion for the lower income groups by broadening the market. The challenge is, how do you find an appropriate product that is affordable for the market and sustainable for the insurers?”
S&P reports that the biggest challenges for the insurance industry in 2017 are; more stringent rules—with prudential regulation under Solvency Assessment and Management (SAM) — and conduct of business regulations under the Retail Distribution Review (RDR) framework, leading to less complex products as well as external factors that will affect the industry, such as the consequences of the weak macroeconomic outlook for South Africa’s sovereign ratings. In addition, local economic conditions for life and property insurers have resulted in greater asset risk in their balance sheets due to their substantial exposure to South African rand-denominated government bonds or other financial assets in the highly focused domestic market. “Despite difficult operating conditions major South African insurers have sound balance sheets and resilient profitability,” said S&P.