Discontinued German life insurance portfolios: rules‐in‐use, interest rate risk, and Solvency II
| Date | 10 May 2011 |
| Published date | 10 May 2011 |
| DOI | https://doi.org/10.1108/13581981111123843 |
| Pages | 117-138 |
| Author | Karsten Paetzmann |
| Subject Matter | Accounting & finance |
Discontinued German life
insurance portfolios: rules-in-use,
interest rate risk, and Solvency II
Karsten Paetzmann
KPMG, Hamburg, Germany
Abstract
Purpose – This paper seeks to provide an overview on potential impacts German primary life
insurers are exposed to in relation to upcoming Solvency II regulation and potential strategic choices,
especially in the light of halting low-interest rates. Given a large degree of complexity, the paper aims
at giving some guidance to decision makers considering a discontinuation of underwriting.
Design/methodology/approach – The paper builds upon current observations made in the
German primary life insurance industry, especially, recent strategic decisions of two market
participants to discontinue their life insurance carriers. On the background of low-interest rates but yet
guaranteed interest participations and additional capital requirements arising from Solvency II, the
paper illustrates the strategic options life insurers have in the German market, given the specific
market environment.
Findings – Regulatory capital requirements of Solvency II will sanction guarantee products in a way
that for some insurers life products will become unattractive. As there is evidence in the market that
some participants have started to consider the run-off option for selected carriers, the paper finds that
this option may represent an appropriate consequence not only for foreign insurers ceasing their
business in Germany but also for domestic insurance groups. Given the specific rules-in-use in the
German primary life insurance market, the paper discusses the controlled run-off approach as a
strategic option for selected life insurers, enabling a harvesting strategy through maximizing cash
flows from existing liabilities while avoiding further investments.
Originality/value – Discussions in this paper help to bring into focus the strong challenge s by both
the upcoming regulatory Solvency II and current market conditions. The brief case study included in
this paper may illustrate the implications as well as some crucial success factors of discontinued life
business.
Keywords Life insurance,Recession, Germany
Paper type Case study
1. Introduction
In November 2009, ERGO, Munich Re’s primary insurance group, announced a
comprehensive group restructuring plan under which ERGO planned to sell new life
insurance products under the ERGO brand only and under which Victoria Life, one of
ERGO’s life carriers with technical provisions of e24 billion (2009), would mainly
discontinue writing new business by 2010 (ERGO, 2009). ERGO explained that the
rationale behind the single-brand strategy was to strengthen ERGO’s life insurance
business, subsequently underwritten by former Hamburg-Mannheimer Life. This
brought forward the largest restructuring in the German life insurance market in history.
Only a few months later, in March 2010, Delta Lloyd Groep, the Dutch insurer part of
UK-based Aviva Group, announcedthat it had decidedto discontinue the underwriting of
its German life insurers Delta Lloyd Life and Hamburger Life (with technical provisions
of e4.7 billion and e379 million, 2009). According to Delta Lloyd Groep, this decision
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German life
insurance
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Journal of Financial Regulation and
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Vol. 19 No. 2, 2011
pp. 117-138
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DOI 10.1108/13581981111123843
was primarily based on the assessment that the German market environment would
leave the life insurer with the risk of low-investment returns while the major portion of
high-investment returns was credited to policyholders (Delta Lloyd Groep, 2010).
While in previous years, from a German or Continental European view, the
phenomenon of run-off or discontinued business had been associated primarily with the
UK life insurance market (e.g. Equitable Life, the oldest mutual life assurance society in
the world, ceased underwriting in December 2000 (O’Brien, 2006)), with non-life
(reinsurance) business and with distressed situations, the German insurance market
now proactively starts to consider a discontinuation of life business. The few
well-known examples of reinsurance run-of fs in Germany include Hamburger
Internationale Re (1989), Gerling Globale Re (2002) and Gothaer Re (2004), none of
them relating to primary life business (Eilers and Labes, 2000; Labes and Fronert, 2003).
A prominent example of a German primary life insurer in run-off is Mannheimer Life
(2002), which was subject to an industry-wide rescue plan and which we have inclu ded in
this paper as a “case study”. In general, the German run-off market remains juvenile
compared to the UK where, according to the 2007 ARC/KPMG life run-off survey, life
insurance liabilities in run-off alone increased by 23 per cent from £107 billion to £132
billion in the period 2002-2006 (KPMG, 2007).
Even though basic elements including the regulatory environment,market structure,
history, and culture of the UK and German insurance market differ, it seems fair to
question whether the German primarylife run-off market will pick up, given the current
pressure on investment returns and the potentialregulatory changes due to Solvency II.
We estimate that, given the specific “rules of the game” in the German life insurance
market which we will discuss in this paper, German life insurers will be strongly
challenged over the coming years.Some analysts already call life insurers “the potential
losers from Solvency II” (JP Morgan Chase & Co., 2010a). In any case, a run-off can be
regardeda feasible option for German life insurers which needsto be considered carefully.
The arguments we bring forward in this paper complement the significant
cost-cutting potential European, not only German, primary life insurers continue t o
have: for example, HSBC Bank (2009) study estimates e6.2 billion of aggregate
administration cost-cutting potential of European primary life insurers if least efficient
insurers could achieve administration expenses ratios held by top-quartile performers.
Hence, it is valid to discuss the strategic choices German insurance group have in
relation to their life portfolios.
The remainder of this paper is organised as follows. Section 2 explains the “main
rules of the game” in the German primary life insurance market. Given this specific
environment, Section 3 discusses major impacts of low-interest rates as well as the
concept of Solvency II and its main implications for the German primary life insurance
industry. Section 4 provides illustrations of potential strategic choices, inter alia a
controlled run-off. The “real” case of a discontinued German primary life insurer is
presented in Section 5. This Section discusses the implications of a discontinuation and
intends to highlight issues interesting to other insurers considering a contro lled run-off
of their life carrier.
2. Key rules of the game for German primary life insurers
In order to evaluate the potential impacts which the current low-interest rates and
Solvency II might have on German primary life insurers, one needs to understand three
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