Research Roundup: Credit Rating Agencies on Japan Earthquake Impact

 |  Includes: ACE, AZ, HVRRY
by: Research Recap

Moody’s and Fitch Ratings have differing views on the impact of the Japanese earthquake on insurers. Below is a roundup of excerpts from the latest commentary by the major US credit rating agencies on the impact of the disaster.

Moody’s Japan K.K. says that insurance and reinsurance companies, both in Japan and around the world, will sustain heavy losses following last Friday’s huge and tragic earthquake in Japan, and this will in turn result in negative credit implications for the two sectors.`

With Japanese domestic insurers, the non-life sector is highly concentrated, with three groups -- MS&AD Insurance Group (insurance financial strength rating, or IFSR, Aa3, stable for Mitsui Sumitomo Insurance; and A1, stable for Aioi Nissay Dowa Insurance), Tokio Marine Group (IFSR Aa2, stable), and NKSJ Group (IFSR Aa3, stable) — accounting for nearly 90% of the Japanese market.

Japan Earthquake Reinsurance Co., Ltd (JER), joint-owned by private P&C insurance companies, assumes residential earthquake exposure from domestic insurers, and provides up to Yen5.5 trillion ($66.9 billion) in claims-paying capacity. Losses above Yen115 billion ($1.4 billion) are shared with domestic insurers and the Japanese government at various levels of co-participation as loss levels increase beyond the JER’s first layer retention. The company’s maximum exposure is approximately Yen606 billion ($7.4 billion).

With international Insurers, the largest global players — including ACE Limited (NYSE:ACE) (IFSR Aa3, stable), Chartis (IFSR A1, stable), Allianz (AZ) (IFSR Aa3 stable), and Zurich (IFSR Aa3 stable) — write commercial lines business in Japan, but have only a small market share. These companies also utilize reinsurance to manage exposures.

Moody’s further believes that a meaningful portion of losses will flow to the global reinsurance industry (including various Lloyd’s syndicates), as catastrophe reinsurance covering Japanese earthquakes is a large market.

Moody’s expects the largest global reinsurance players — including Munich Re (IFSR Aa3, stable), Swiss Re (IFSR A1, stable), SCOR (IFSR A2, positive), Hannover Re (OTCPK:HVRRY) (not rated), Berkshire Hathaway (NYSE:BRK.A) (IFSR Aa1, stable), PartnerRe (IFSR Aa3, stable), and Everest Re (IFSR Aa3, stable) — to report the highest losses on a nominal basis.

Fitch Ratings believes that while the 11 March earthquake in Japan will be among the largest insured losses in history, such losses can be absorbed by the insurance and reinsurance industries without widespread solvency problems, or undue financial strain.

Due to the scale and complexity of the insured loss, it will take some time for international catastrophe modelling firms and local loss adjusters to accurately estimate insured losses. Initial estimates place the economic loss at approximately USD100bn (EQECAT) and insured property losses in the range of USD15-35bn (JPY1.2-2.8trn) (AIR Worldwide.) These estimates do not specifically include the impact of the ensuing tsunami, demand surge or life insurance.

Fitch believes that the insured loss will be significantly lower than the economic losses due to a number of mitigating factors, including:

  • Earthquake damage to residential property is covered under the existing Japanese state-backed Earthquake Insurance System, with the Japanese government assuming up to JPY4.3trn (USD52.6bn) of residential earthquake losses.
  • Japanese non-life insurers have accumulated significant residential catastrophe reserves over recent years totalling JPY524bn (USD6.4bn), representing 88.4% of their potential liability under the scheme.
  • Earthquake insurance is offered as an optional rider to homeowners’ property policies and it is estimated that only 14% to 17% of homes in Japan are covered for earthquake risk.
  • The epicentre of the earthquake was located some distance from heavily populated areas such as Tokyo or Osaka. Affected areas have lower insurance penetration than the major cities.

Moody’s Investors Service sees limited rating implications for most large corporates and financial institutions in Japan following the devastating earthquake which struck the country last Friday.

Most of Moody’s rated entities are broadly diversified, nationally and — for some — internationally. As a result, they do not demonstrate material concentration risks to the most impacted prefectures of Fukushima, Iwate, Ibaraki and Miyagi.

In a special report on the implications of the quake, Moody’s says that for the vast majority of rated corporates, we expect the impact will primarily involve a short-term interruption to operations due to power constraints, or more severe disruptions to operations in the most-affected prefectures. In addition, the capital expenditure required to repair damaged assets should be manageable within existing rating profiles, particularly after consideration of likely insurance coverage.

Likewise, for the Moody’s rated banking sector, the vast majority of ratings will be unaffected. Importantly, national operators, such as the mega banks or major banks, do not have large operations in the most-affected regions. Even among Moody’s rated regional banks, none have primary sources of operations in the impacted areas.

Standard&Poor’s Ratings Services said today that the damage to several nuclear plants in Japan following Friday’s earthquake and tsunami has no immediate effect on the credit quality of U.S. nuclear plant operators. However, this incident raises the probability of greater costs and oversight for existing nuclear plants located in the U.S. We expect that generators would be able to recover any incremental costs associated with fully regulated nuclear plants through state regulatory proceedings. Merchant operators would have to absorb any potential mandated costs at a time of low power prices, which would further squeeze cash flows.

Fitch Ratings says that it is too early to quantify the extent to which the recent Japan earthquakes and subsequent tsunamis could impact outstanding Fitch-rated mortgage-backed transactions and that it will continue to monitor closely the potential consequences.