Muenchener Rueckver's (MURGF) CFO Jörg Schneider on Q4 2016 Results - Earnings Call Transcript

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Muenchener Rueckver Ges (OTCPK:MURGF) Q4 2016 Results Earnings Conference Call February 7, 2016 8:30 AM ET

Executives

Christian Becker-Hussong - Head of Investor & Rating Agency Relations

Jörg Schneider - Chief Financial Officer

Analysts

Kamran Hossain - RBC Capital Markets

Guilhem Horvath - BNP Paribas

Xinmei Wang - Morgan Stanley

Vinit Malhotra - Mediobanca

Michael Huttner - JP Morgan

Paris Hadjiantonis - Credit Suisse

Thomas Seidl - Bernstein

Anasuya Iyer - Jefferies

Vikram Gandhi - Société Générale

Frank Kopfinger - Deutsche Bank

In-Yong Hwang - Goldman Sachs

Michael Haid - Commerzbank

William Hawkins - KBW

Operator

Good day and welcome to the Munich Re preliminary results conference call. Today’s conference is being recorded. And at this time, I would like to turn the conference over to Mr. Becker-Hussong. Please go ahead, sir.

Christian Becker-Hussong

Thank you, Alison. Good afternoon, everyone. Welcome to Munich Re’s call on the 2016 preliminary results and the outcome of the 2017 January renewals. Jörg Schneider, our CFO, would start with a short statement and then we will go right into Q&A.

So, Jörg, please go ahead.

Jörg Schneider

Thank you, Christian. Good afternoon, ladies and gentlemen. With a net profit of around €2.6 billion, Munich Re is right in the middle of the initial €2.3 billion to €2.8 billion target range. We have largely been able to compensate for the cost of this strategic reorganization of ERGO. Thanks to a sound underlying performance and helped by a bit of good luck as well as FX gains, we posted a robust result without eroding our substance.

We consider an ROE of 8.1% and ROAC of 10.9% to be quite pleasing. However, the challenging industry market conditions and prevailing low interest rates are having a visible impact on financial results in the industry. We will not be complacent about Munich Re’s good 2016 and our strong balance sheets will help mitigate some of the underlying earnings pressure going forward. I'm confident that during the next couple of years, we will more than replace lost income by further developing our business model with targeted innovative client solutions.

The Q4 result of around €500 million quite substantial major loss burden and thanks to positive FX effect. We refrained from using the strength of our balance sheets more actively.

Our capitalization remains very robust according to all metrics and continues to provide the basis for high payouts. Local GAAP earnings improved substantially over the previous year. This was due to net negative non-recurring effect in 2015. In 2016, the underlying result was lower due to lower reserve releases and higher major losses. This was overcompensated by a lower contribution to the equalization reserve and a good investment result, including intra-group disposal gains.

According to a preliminary calculation, the Solvency II ratio at the year-end 2016 amounts to about 260% without transitionals.

In the fourth quarter, a favorable impact from higher interest rates and FX effect on own funds and SCR was partially offset by the effects of model updates, including modeling of negative interest rates.

We want our shareholders to benefit from our good performance. The proposed dividend increase of 4% to €8.60 per share further confirms our attractive and reliable dividend policy and our trust in Munich Re’s sustainable earnings power.

Just a few remarks on the investment result, which stayed at the same level as in the previous quarter. While the reinvestment rate was stable, regular income increased slightly in Q4 due to a one-off effect. Impairments on commodity investments – in particular, gold – led to increased net write-downs.

Net gains from disposals was somewhat higher. They declined in the reinsurance segments as we refrained from active harvesting. But there were higher gains in ERGO’s international business as well as in primary life and health. The gains in the latter segment were offset by losses on hedging derivatives due to booming equity markets and rising yields.

For the full year 2016, given the low interest rates, we are quite pleased with an investment results of €7.6 billion. Our prudent asset liability management and high degree of diversification once again proved beneficial. The ROI of 3.2% matches the return in 2015 as an improved derivative result and lower write-downs mainly offset attrition of the running yield.

On a segmental basis, however, the reinsurance ROI declined a lot, while increased further in primary insurance.

Let me give you the highlights by business segment. As expected, ERGO produced slightly negative result for the full year 2016, mainly due to the restructuring charges and investments for its strategy program.

For the Q4 standalone, net earnings were positive, helped by a high investment result in all segments. Furthermore, German life and health business benefited from a high technical result and positive tax effect.

In Q4, the combined ratio of 100% in Germany was caused by higher major claims and increased prudency in industrial liability reserves and an elevated cost ratio due to investments in the context of the ERGO program. The combined ratio for the full year amounts to 97%, well below our 98% guidance, and this includes a one percentage point impact from investments in the strategy program that are immediately recognized as an expense.

The combined ratio of our international non-life operations improved to 99% for the full year on the back of a better performance in major markets. In Q4, however, the ratio of 100.4% suffered, among other things, from reserve increases in Turkey. Furthermore, there were changes due to closing ERGO Belgium to new life business.

Markus Rieß will present the key points of the future strategy of ERGO’s international business at our analyst conference in March.

Owing to a strong performance in Q4, Munich Health comfortably exceeded the full year net profit guidance. This is due to good underwriting performance, including various technical effect and a high investment result, which benefits from the release of some prior year’s conservativeness.

Munich Health fully met its ambition for 2016, with a combined ratio of 98.5%. As recently announced, we disbanded the business segment with effect from 1 February.

Turning to reinsurance. Starting with life, the very strong technical result of almost €170 million far exceeds the normal quarterly run rate. As in the last quarter, the result benefits from technical one-off effect and favorable reserving adjustments.

The contribution from North America and Europe was strong, but earnings from Asia were somewhat weaker compared with previous quarter. For the full year, at almost €490 million, the technical result comfortably surpasses our ambition, despite large single claims in the first quarter.

Moving on to P&C reinsurance, the combined ratio was 101.9% for the fourth quarter. This was largely down to above average major loss activity and it was only partially compensated for by reserve releases, accounting for 5.7 percentage points net of commission effect in Q4.

The full year basic loss net reserve releases were 5.5%. As an outcome of our annual reserve review, a higher release would have been possible. But we deliberately decided to maintain a high level of prudence in our reserve. I consider our reserving situation to be at least as strong as it was at year-end 2015.

On a normalized basis, the combined ratio has continued to increase, amounting to 100% for the full year according to our usual and somewhat simplified calculation method. On the one hand, this reflects price reductions experienced in the 2016 renewals, but on the other hand there were larger weather-related basic losses for which we give no credit when adjusting the ratio, as well as the usual noise from things like business mix effect. Therefore, we believe that our actual combined ratio is at a level, which is more or less consistent with our guidance of 99% for 2016.

In the current soft market, we have not given up our underwriting discipline. Our initial estimates are probably a bit conservative. Market conditions for the renewals of our reinsurance treaties at 1 January 2017 were once again challenging, yet price erosion continued to slow.

Terms and conditions were largely unchanged. Thanks to our active cycle and portfolio management, we limited portfolio price decreases to 0.5%. We withdrew from business that no longer met profit expectations, mainly large quota shares in China. But we also expounded profitable business, both by seizing new opportunities and strengthening existing client relationships. Overall, we posted a reduction in premium volume of almost 5%. The projected portfolio profitability is still above our cost of capital.

Thank you, ladies and gentlemen, for listening. I'm now happy to take your questions.

Christian Becker-Hussong

As mentioned, we go right into Q&A now. My usual request, please limit the number of your questions to a maximum of two per person.

Question-and-Answer Session

Operator

Thank you, sir. [Operator Instructions] We’ll take our first question from the line of Kamran Hossain from RBC Capital Markets. Please go ahead, sir.

Kamran Hossain

Hi, afternoon everyone. Two questions. First one is just on the HGB earnings. Last year, the equalization reserve cost, I think it was €0.4 billion from memory. What was the quantum of that decline when we think about HGB earnings for 2016? And then, when we look to 2017, did that number turn positive next year? That's the first question.

And the second question, just on the reserve releases for the full year in P&C. Obviously, they've come in at 5.5%, which is higher than the 4% at the beginning of the year, but it's lower than the 6% that you mentioned at the Q1 statement. So, in terms of that 0.5% difference, is that additional prudence that’s going into next year or will it be rolled over into 2017 or does it just sit there and buffer? And any thoughts around how you think about that would be really helpful. Thank you.

Jörg Schneider

Thank you, Kamran. First on HGB earnings, the contribution to the equalization reserve was more or less in line with last year’s, a little bit lower. It will most probably turn positive next year, but that depends on the development of our losses, of our loss ratios. But the tendency is quite clear. For the various lines of business, we are close to the maximum. So, there's not much more to contribute and to inject here in that reserve. So, it will be a strong support for distributions going forward.

Second, reserve releases, 5.5%, lower than 6%, which we indicated during the year, let me frankly admit that we got a bit nervous at the beginning of the year with a very weak first quarter. And then we said to ourselves and then to the public, it’s highly unrealistic to expect us to miss our profit target for the year, while at the same time sitting on a very substantial, I would say, estimation grounds. You can also call it buffers on the reserve. And, therefore, we said it’s unrealistic to assume that there will be a lower release than 6%. And the year turned out to become much better.

We had, as always, a wide estimation range in the course of the closing activities and we stayed at the high end of what is digestible from an adequacy point of view with reserve and therefore one could have released much more, but we didn't. Perhaps you can say because it was not necessary. But this is not a message of lower confidence in the reserve. We preserved the strength of our balance sheets. So, if inflation spikes, for example, or if pressure from current underwriting prevails in future, then there is a very strong basis from the reserve going forward.

Kamran Hossain

Fantastic. Thanks very much.

Jörg Schneider

Thank you, Kamran.

Kamran Hossain

Thanks.

Operator

We will take our next question from Mr. Andrew Ritchie from Autonomous. Please go ahead, sir.

Andrew Ritchie

Hi there. Two quick questions. ERGO was more or less breakeven or slightly loss making in 2016. I think, please clarify that's after €300 million roughly net of restructuring charges and investment. The guidance, I think, was €130 million of expected net profit for 2017. What is your confidence still in that kind of recovery? Can you give us any sort of vague update as to the progress so far of any of the restructuring and the investment programs, just a revisit of the ERGO guidance? First question.

Second question, in the renewals, there is quite a lot of big movements, obviously, of cancellation. I think you canceled 14% of the business and you grew new business 12%. What areas was that growth of new business in? And does this capture any bespoke business, bespoke transactions or are you kind of treating that separately? I'm surprised you haven't commented a bit more on opportunities there in renewals. Thanks.

Jörg Schneider

Thank you, Andrew. With regard to ERGO, so the restructuring charges for 2016 including, what we call, investments that are the expenses which go directly into the result were on a net basis €250 million roughly. And our guidance for next year, €130 million remains unchanged. So, progress is absolutely according to plan. We are lagging behind only for a couple of projects, but overall we are very satisfied with the first results and with the first steps. The negotiations with the staff representatives have come to a successful result and also the combination of the sales forces went pretty well. And new business is in line with our expectation, slightly above what we anticipated in the course of the Strategy Program. So, things are going well, are going into the right direction. And for the profit guidance, we do not have better indications now as of 01/30, which we indicated in June last year.

Andrew Ritchie

And so then without €50 million less restructuring in investment than expected, is that right?

Jörg Schneider

Overall, it’s more or less in line. So, that was quite close to what we indicated. And then new business, what we gave up is, for example, major quota share treaty. So, this is the bulk of reduction in volume which we have had. And as you know, these treaties are high-volume, low margin. That means for our profitability, they have lower impact. Where could we grow? Some new business in casualty US, some in property US, some other business in China also and in the UK. If I see the list of individual cases, it’s a broad and highly diversified portfolio of new business. Sometimes only expansion of business with existing clients, sometimes new business opportunity with new clients. So, overall, that’s the reason why we are rather satisfied about the outcome of the renewal.

Andrew Ritchie

Okay, thanks.

Operator

[Operator Instructions] We take our next question from Guilhem Horvath from BNP Paribas. Please go ahead.

Guilhem Horvath

Yes, thanks for taking my questions. The first one is on the North American renewals and the pricing there. I'm a bit surprised to see that you still have an erosion in terms of pricing despite the that you had a couple of very large net cat events there. So, can you comment a little bit on the pricing trend in this geography?

And the second is in terms of investments and the fact that you still have reinvestments yield, which concerns quarter-on-quarter. And I'd like to have your view on the fact that we are now evolving in an environment which apparently shows maybe higher yield. So, are you trying to catch a little bit of this or if you have a little bit of view on that? Thanks.

Jörg Schneider

First on the North American, we see a further stabilization in casualty business there and rates are mostly flat. And with the positive impact from the – with the positive impact from interest rates, the overall profitability is quite satisfying at the moment. With regard to property business, rates are slightly down according to what we see between 2% and 3%, I can say, only. And the impact from Hurricane Matthew doesn't seem to have been very high. But we must see any way the loss burden more on a global basis in our view. What we also see are agricultural business rates to increase, moderate decreases for Latin America, for Canada and Australia. This is the picture what we see at the moment. But, overall, a very diverse picture and with very limited changes between 2016 and 2017.

Thank you.

Guilhem Horvath

Thanks. And the investments?

Jörg Schneider

And the second, the investments. We do not change our investment policy. That means moderate risks, highly diversified, but based on economic matching of assets to liabilities. And we can – at the moment – we can, at the moment, harvest some of the better yields, especially in the United states, but it also depends on the duration of the portfolio and we are currently in the course of slightly reducing the duration of the portfolio overall. So, that means that all these effects level out each other somewhat.

Guilhem Horvath

Okay, interesting. Thanks.

Jörg Schneider

Thank you.

Operator

We’ll take our next question from Xinmei Wang from Morgan Stanley. Please go ahead.

Xinmei Wang

Hi, good afternoon. Two questions. First is a follow up on the reserve release question. Was there any areas where you had to strengthen reserves? And just given some of your commentary about high level of prudency, but also in terms of high inflation going forward, is the 4% number still the right number to be thinking about?

And my second question is, Jörg, I think you're quoted in the media earlier with regards to M&A and exposure of ERGO internationally. Can you expand a bit on which segments, life, P&C and geographies you're willing to consider and how large your appetite is there? Thank you.

Jörg Schneider

Thank you, Xinmei. With regard to the reserve, there are no buckets of major reserve strengthening. So, it's not the one big one or so. It's up and down here and then overall a very favorable view with what we call actually reported losses. Thus, expected reported losses still with a wide difference.

With regard to M&A, there is nothing new, I would say. We would very much like to make a fantastic deal, but we do not see one out there.

And with regard to our growth ambitions, it’s also about acquired growth. It can be in the primary insurance field internationally. Still interesting for us, Eastern Europe and Southeast Asia. But Markus Rieß will come back to that in the course of the analyst conference, but please do not expect any sensations here. It is a lot also about consolidation and concentration and it's about developing what we have already, plus some additional acquisitions also to strengthen our position in markets where we have been already strong. And what we would also very much like is to expand our specialty insurance activities written out of the reinsurance organization, what we call, risk solutions, especially when they are – when we can acquire special know-how which we can leverage on the broader Munich Re platform and which could fit ideally to the know-how of our group. This is what we are actively searching. But, as you know, the markets not easy because we think that the current prices for M&A, which we see in the auctions, do not adequately reflect the risk we are currently faced with, also from a global perspective.

Xinmei Wang

Okay, thank you very much.

Jörg Schneider

Thank you, Xinmei.

Xinmei Wang

We’ll take our next question from Vinit Malhotra from Mediobanca.

Vinit Malhotra

Yes, good afternoon. Thank you. Vinit from Mediobanca. Just two questions please. One is on, Jörg, could you please update us on the state of the derivatives in the group, particularly, as you mentioned, as well as some write-downs on commodities and gold. And in that context, the confidence in the reserves for the inflation, is that because you have assets hedging inflation or is it just because the reserving assumptions are probably much higher than where we are now. If you could just clarify that question please.

And very quick question also on New Zealand earthquake. Was there any revision to the prior event in 2010 or 2011 in today's €250 million or is it all from just this one event. And even if you could just comment also on, there were some changes at the EQC Act, was being reviewed and further I haven't monitored that closely, but maybe you could just provide us a quick update please. Thank you.

Jörg Schneider

Yeah. Thank you, Vinit. First, derivatives. We somewhat took down our derivative in the portfolio. The main reason was that our inflation sensitivity was remodeled and was – the outcome was that our inflation sensitivity on the liability side is lower than originally anticipated and we reacted to it by taking down the inflation derivatives. Therefore, they do no longer play a major role. There is some protection on the asset side, but not an enormous one. The confidence really comes from the fact that we are very highly reserved and that we could easily absorb also a higher loss inflation going forward.

With regard to the New Zealand earthquake, our very high estimation for this loss is influenced by the prior earthquake of 2010 and 2011, but only in the sense that we learned a lesson at that time because at that time, at the beginning, the losses were underestimated, built on – based on very high building standards we had there. Some buildings were looking as if there were not damaged and turned out to be a total loss then later on. Then the building standards were brought up and, therefore, we see a pretty high exposure in such a case of an earthquake and that might have influenced our very high estimation here.

Another reason is that a lot of that business has been written out of Australia where we are – where we have a very strong market share. And typicality, in New Zealand, the clients have relatively low self-retention. And all these factors bring up our own loss to this very high level, which is fully in line with our market share, but I would like to underline here our local market share, not our worldwide market share. So, it can well be above our worldwide market share. So far with the New Zealand earthquake.

Vinit Malhotra

Yes, thank you very much.

Jörg Schneider

Thank you, Vinit.

Operator

We’ll take our next question from Michael Huttner from JP Morgan. I had one question on deals. How much could you spend. And I know you wouldn't say, but maybe you could give the answer in terms of the leverage you could go to and where you are now.

Michael Huttner

And then on the HGB results, you kind of didn't answer. I think one of my colleagues said, oh, what were they, and you kind of said, no, they're fine. What was the number? Because you said significantly above €3 billion and I just wondered whether you could give more clarity on that because clearly it influences our thinking on how much you can afford in distribution going forward as well. Thank you.

Jörg Schneider

Thank you, Michael. Your first question, was it about M&A, how much we can spend [indiscernible]. It depends. So, we can finance a lot. We have a very low leverage which we could increase. Our appetite for stretching it is somewhat limited.

Michael Huttner

You had said you’re intent, aren’t you? In the past [indiscernible].

Jörg Schneider

Even lower.

Michael Huttner

Even lower, okay.

Jörg Schneider

Even a bit slower and there’s a very high capacity for additional raising of hybrid debt, for example, but we do not intend to do it at the moment. And with regard to M&A, nothing is in the pipeline at the moment and we have not changed our approach to it. So, we very much look at the numbers and see whether it is really value creating. It’s not only empire building. So, you can rest assured that the discipline prevails also in future. When there is a once-in-a-lifetime opportunity, we would do our best to move then.

HGB, the result for 2016 is €3.4 billion. So pretty high.

Michael Huttner

So pretty high.

Jörg Schneider

Thank you.

Michael Huttner

Thank you.

Jörg Schneider

Thank you, Michael.

Operator

We’ll take our next question from Paris Hadjiantonis from Credit Suisse.

Paris Hadjiantonis

Yes, good afternoon. And thanks for taking my questions. I have two today. Firstly, on Life Re, the result, the technical result there is a lot better than your €400 million guidance. And I was wondering whether or not this is sustainable or if there are some kind of one-offs in that number.

And then secondly, we haven't really talked about outlook for 2017. Maybe it's a bit early, but if you could give us maybe a kind of a directional guidance versus your full year 2016 result. Thank you.

Jörg Schneider

Thank you, Paris. Life Re, there are some one-offs in the number. Like always, we have huge reserve movements. We have reporting from clients which changes our numbers and have an impact on our numbers for the quarter, which is in the double-digit range. Overall, I would say, they compensate each other and this was really a strong result. So, in spite of being dominated by one-offs, but one-offs in both directions. Going forward, I'm confident that this level is sustainable, but please do not rely on quarterly delivery of €100 million because sometimes we have chances. You have chances to enter into new business, which might be negative short-term for IFRS P&L, sometimes you can negotiate on recaptures with the clients, which is from an economic point of view attractive, from an P&L IFRS point of view perhaps a little bit burdening. So, therefore, there will always be volatility, but the level of profits going forward should be in the ballpark range where it is now or even a bit higher and we are very confident with regard to the value of new business going forward.

For 2017, let me first say and confirm what we already told some of you that if we adjust the 2016 results, for example, for the ERGO restructuring with minus 250 or the too low reinsurance investment result on one hand. On the other hand, the lower major losses or the FX result, then we end up somewhere around €2.4 billion.

Going forward, what do we know about 2017, that is a further decline in the running yield, let’s say, in the order of 20 basis points or so. Even a spike in interest rates wouldn't change it dramatically short-term because it takes time with our mid-term to long-duration before it really benefits the current interest earnings. And we have a further slight negative impact from 2016 and 2017 renewal. So, therefore, on a like-for-like basis, it should be below €2.4 billion and then we are sitting on a very strong balance sheet, which in the course of its runoff could have a positive impact. We will come up with a guideline for guidance for 2017 in the course of the analyst conference. But I assume that we will not surprise you.

Paris Hadjiantonis

Thank you very much. Very helpful.

Jörg Schneider

Thank you, Paris.

Operator

We’ll take our next question from Thomas Seidl from Bernstein.

Thomas Seidl

Yeah, thank you. Good afternoon. The first question is on the US, new government planning quite significant changes on borderline tax and intragroup reinsurance deductibility though. My question is, if you could comment please on how serious those risks are and what you could do to mitigate that?

And the second question is regarding China, it's a bit of a contradictory picture on the one hand. You basically say this is a big opportunity; on the other hand, you're losing business for new Chinese local reinsurers being started up. So, I wonder how you see the market share of Munich Re evolving in China? Thank you.

Jörg Schneider

Yeah. Thomas, difficult question. Let me start with the second one. China is a big opportunity because we have the phenomenon of under-insurance there. So, enormous exposure to natural catastrophe. And when we compare the insurance density with that in other mature market, then there's a lot of additional potential in addition to the economic potential of a still strongly growing market. What we lost there, this is big quota shares with high numbers, high topline numbers, but very low bottom line. So, therefore, I wouldn't be so worried about the most recent development in the renewal 2017. But is a very competitive market. That is for sure. So, we are fighting. We have a strong presence on side. We have very good people there. We have the whole Munich Re know-how and capacity, but we have nothing. We have no gifts to grant there. That means it will remain volatile from year to year. And very active underwriting policy is of utmost importance that we do not only go for growth there, and that will be the same in future.

With regard to the new US government and the various plans, Munich Re has quite good position there because we have Munich Re America and we have a couple of primary insurance companies, which you all know, which give us a very strong foot on the grounds and also a lot of jobs on the ground, I would like to underline here.

Deductibility for outgoing intragroup reinsurance is a matter we can observe, but we can channel that or we can react by increasing our local retention here. In principle, we believe in a worldwide diversification of risks, which is important. And therefore, we always protect our subsidiaries and even branch offices outside of our country by repossession agreements, which more or less end up in Munich Re AGM, Munich in the end. But we have some leeway to optimize it. And since we are a US reinsurer with a domicile there, we are also protected against any negative impact there. When tax rates will be reduced, we will benefit from this phenomenon.

Lastly, I have to clarify what I said before about Life Re, I said the same level going forward, I wanted to refer, but I didn't explicitly, to the €400 million guidance and not the €500 million which we achieved in 2016. So, the €400 million remains a good guidance going forward. Sorry, if I created here some irritation.

Thomas, does it answer your question?

Thomas Seidl

Yeah, perfect, Jörg. Thank you.

Jörg Schneider

Thank you.

Operator

We’ll take our next question from Anasuya Iyer from Jefferies.

Anasuya Iyer

Hi. Thanks for taking my question. My first question is just a follow up on one of the other ones about ERGO. When you gave us the update last June, rates in Germany were almost negative, I think. And the 2016 guidance was for – profit was marginally negative assuming no change in rates. Since then, rates have worked in your favor. The net income has come in as per guidance. I'm just wondering whether, in the future, this could change if rates do continue to spike up. I appreciate there’s hedges and the duration of long [ph], but any comment on this will be useful.

And on the same topic, [indiscernible] is there a plan to give more details of targets in ERGO international because I think that was the plan before.

And my second question is just more generally on capital repatriation. Obviously, your German GAAP position is quite strong, but at the same time you are saying that you could see a bottom of the market in terms of pricing. How do you think about those two factors when you think about capital repatriation? Thank you.

Jörg Schneider

Thank you, Anasuya. ERGO, last June, when we disclosed our restructuring program, as far as I remember, it was based on interest rates which were higher than those in the fourth quarter and in third quarter. So, it was – we didn't correct it immediately downwards. And now we are more or less back where we were when the restructuring program was constructed and calculated. That means I wouldn’t see a major positive between then and now from the increase in interest rates. But let me confirm, on the other side, that I feel a little bit relieved about this normalization of interest rates, which we experienced recently, that this this crazy development below the zero line came to an end and there's much more realism now in the numbers.

The targets for international expansion. Let me predict, it will be a careful way. Careful way means – first is consolidation, first is growth out of the existing and, in some cases, very strong entities abroad. And then it will be about further expansion by acquisitions by entering new markets. There could be an opportunity in the meantime, which we would like to pick up, but it may not be a dramatic and totally different program for the next one or two years.

Then repatriation of capital, if market would drastically improve and underwriting margins would go up, I think that wouldn’t change so much in the short term because we have a capitalization in the order of 260% economic solvency ratio compared to, what we call, optimal range between 175% to 220%. So, there's still some room to go before we are in the optimal range. So, we could increase our underwriting risks quite substantially, especially due to the fact that there’s a very high diversification in place. That means that typically underwriting risks, if they are not all focused to the peak natural catastrophe risk diversified pretty well in our portfolio, therefore, there could be a lot of organic growth before we have to rethink our capital management policy.

Anasuya Iyer

All right, great. Thank you.

Jörg Schneider

Thank you, Anasuya.

Operator

We’ll take our next question from Vikram Gandhi from Société Générale.

Vikram Gandhi

Hi there. I’ve just got one question, which is why do you now model for the negative interest rates when yields seem to have at least stabilized in the positive territory. And that's all.

Jörg Schneider

Because we have to. So, it’s a good question. We had to learn that negative interest rates are possible and we had to more precisely model the impact in our internal steering year-end, which is also the basis for the regulatory world. And by the way, also the German BaFin, our lead regulator, wouldn't have accepted that we ignore negative interest rates. If you look at the numbers right now, they might look unrealistic, but we feel much better, having modeled them appropriately.

Vikram Gandhi

Okay, that's clear. And just a follow-up, if I can. Any release that you expect on the ZZR front?

Jörg Schneider

Not really. Two extreme scenarios I have in mind. One is continuation of the very low interest rates. That would mean an enormous strain from the ZZR, which we can fulfill by realizing our unrealized gains, especially on the fixed income side in order to finance the ZZR requirements under local German GAAP. It could become very difficult for many companies to fulfill these requirements going forward. And I don't know how the regulator and legislator will react to that.

Second scenario, that is a very strong spike in interest rates, which would mean that the unrealized gains could immediately disappear. That means, you wouldn't have any tool to finance the contribution to ZZR because ZZR would react very slowly because it is based on a ten-year average interest rate of first class bonds. In such a situation, I would trust that legislation and regulation would find tools to change the formulas. Overall, we see the ZZR with mixed feelings. On one side, it's an enormous requirement. Perhaps a bit exaggerated under the current circumstances. On the other hand, it has a benefit that it supports discipline on the market with regard to profit sharing, with policy holders because if you have no profit, then you can't share anything. Therefore, it's also in the interest of shareholders.

Vikram Gandhi

Okay.

Jörg Schneider

Thank you.

Vikram Gandhi

Thank you.

Operator

We’ll take our next question from Frank Kopfinger from Deutsche Bank.

Frank Kopfinger

Can you hear me?

Jörg Schneider

Yes, we can hear you well.

Frank Kopfinger

Okay. So, my first question is on the ERGO result. Can you provide some more color on the standalone Q4 effects in respect to impact from disposal gains, tax effects? And also, if occurred, whether there were some movements on the reserve side i.e. some run-offs in P&C.

And my second question is on the restructuring in Belgium. On the €300 million capital injection, could you comment on whether this had been done via equity injection or via hybrid capital? And also, whether there is a risk that you have to inject more in the future?

Jörg Schneider

Thank you, Frank. First, ERGO Q4 result was plus €70 million roughly. In life and health, it was even €95 million, so very high. It was based on a very high technical result. That has to do with an increase of the shareholder quota in the shareholder policy holder split for technical reasons because the contribution to the policyholder funds, to the RFP, are kept with regard to their tax deductibility. And therefore, we had to optimize it from a tax position, a very technical effect. Second, we had very high gains from disposal in the investment result and we had special effects from the distribution of income and expenses over the quarters. So, Q4 is dominated by one-off effects, also tax effects from tax audits. Therefore, that unfortunately will not to be – cannot be extrapolated in future. On property casualty Germany, we had a lower level of large losses than in the last year.

Also, in the fourth quarter, it was pretty mild. And we had a contribution to loss reserves for liability – industrial liability insurance. This contribution was rather strengthening, a real strengthening of the reserves instead of filling a whole. So, the confidence level in primary insurance is narrowing to that of reinsurance, let me put it like this.

In ERGO international, we had the losses in Belgium. Substantial expenses for restructuring and deck [ph] impairments, which were, to a large extent, compensated by a very high investment result from disposal gains. We also had some reserve increases in Turkey, but on a much lower level than last year.

And your second question on the restructuring in Belgium, the split between capital increase and subordinated loan, it was a capital increase in the order of €280 million plus an €80 million subordinated loan. Overall, €360 million. Big amount. And we expect it to be enough to finance what is necessary on-site, and this is on one hand. Also, a reserve which is similar to the German ZZR called [indiscernible]; and on the other hand, these were investments which have to do to the run-off status of the business. We are now confident that the company will show profits in the years to come instead of losses.

Is that okay, Frank?

Frank Kopfinger

Yeah, thanks a lot.

Jörg Schneider

Thank you.

Operator

We’ll take our next question from In-Yong Hwang, Goldman Sachs. Please go ahead.

In-Yong Hwang

Hello. Thank you for taking my question. I have got two. Firstly, on the renewals, a lot of your competitors have seen quite extreme level of growth in what they call large transactions, structured reinsurance and so on. Is that part of the renewals disclosure that you made today? It looks like you are kind of not as enthusiastic about those kind of transactions as your peers. Is there kind of a reasoning behind that? That's my first question.

Second, the life reinsurance side, I think the 4Q result had a kind of one-off reserve release from the US. Is that – does that signal confidence in your reserves for some of the old age kind of US mortality business that had been initiated for the last few years? Thank you.

Jörg Schneider

I start with the first question on the renewal, especially the structured reinsurance. We do not have a separate disclosure, unlike our peers. And the reason is that it's not too easy to separate that from the other part of the business, as you can imagine, because more or less – let’s say a large portion of our reinsurance business is dominated by optimization requirements, means tax accounting, regulatory stuff. And our tailor-made business, for example, is in the order of one-third of the overall business. We do not split it up in a way. The reason is because we offer it typically as part of an overall coverage for a client, combined with traditional reinsurance elements. We are active here in all territories, in all geographies, especially in Europe, Caribbean, Australia, China, to a lower extent in the US. And it’s typically high premium, low margin business. And as I said, integrated part of broader coverage programs.

On your second question about reserve releases in the US, it was about life insurance, wasn’t it?

Frank Kopfinger

Exactly, yeah.

Jörg Schneider

Yeah, okay. That was a release of claims reserve from model refinements in the area of inflation riders for disability and long-term care, very specific line of business. And it was something which was overdue, I would say, and this had a major impact. Very tactical and not to be extrapolated in future.

Frank Kopfinger

Understood.

Jörg Schneider

Thank you, In-Yong.

Operator

We’ll take our next question from Mr. Michael Haid from Commerzbank. Please go ahead.

Michael Haid

Thank you very much. Good afternoon. Just two questions. First on the reserve buffer and the prudency margin. I would like to better understand the drivers behind them. You mentioned that the reserve buffer has stayed fairly stable. You took out €1.1 billion reserve releases. So, does this mean that the initial reserving is also with basically putting in €1.1 billion on new business or are there any other parts which I am presumably missing.

Second, you just mentioned large quota share business, which comes at a high volume, low margin, low profit, and how much of this high volume, low margin business is included in the renewals – in the January 1 renewals. Is it fair to assume that, on a per unit of risk basis, you actually have grown?

Jörg Schneider

No. I can’t confirm that we grew there, Michael. Thank you for the question. We cannot precisely say that on the unit of risk that would be, should I say, artificial precision. Roughly perhaps about 30%, 20% – 20% of the risks perhaps, something in that area. With regard to the reserve buffer, I've been in my current position now for 16 years and it started in a pretty ugly situation with regard to the reserve. And then it got better, perhaps we overdid the prudency somewhat coming from the very bad experiences early on. And now, we would very much like to keep the level of confidence where it has been during the last couple of years. The reason is that when it's bad, then it's extremely bad. That had been the experience of the past because the market in total sometimes underestimates the deterioration in the early phase of a worsening market. And we want to be somewhat resilient against that phenomenon and, therefore, we insist on keeping the current level of confidence and of – one can also say, necessary buffers. And it is – as you describe it, it goes in and out. So, we try to reserve new losses with some conservatism in the calculation. And in the course of the run-off of the business, part of that gets released over time. And that is how it is ongoing and we do not see a major difference between 2015 and 2016 with regard to our experience. So, no deterioration.

But we are not immune against underreporting from our clients. If that happens, then we have additional buffers, which we set up ourselves. So, therefore, we should be fine for a long while.

Michael Haid

And did you change any expectations regarding inflation? Or can you give us a sensitivity of how inflation would change the buffer? Obviously, it would go down, but by how much?

Jörg Schneider

No. I'm pretty sure that the low inflation was one of the driver of the – drivers of the very comfortable industry position with regard to reserves. That means the direction changes. Then it will also have an impact on reserves. Reserves are not dominated by an impact of consumer price index, but rather of wage inflation – wage is important – and also medical inflation because we are mainly talking about personal injury claims. And here the expenses for care are very important. And also the longevity expectation of the respective victims. These are the main drivers and we have them under very tight control, but we do not sought out an inflation factor, which we can give as a sensitivity for the whole portfolio. But we are on very safe ground.

Michael Haid

Okay, perfect. Thank you.

Jörg Schneider

Thank you, Michael.

Operator

We’ll now take our final question from Mr. William Hawkins from KBW.

William Hawkins

[indiscernible]. You told Michael Huttner that the HGB result was €3.4 billion. Can you just help me understand that because that's up significantly from €2.6 billion in the previous year, I think? And you mentioned that the claims equalization reserve this year hasn't changed very much. And I know it's not the same, but the IFRS result is actually down quite a lot. So, €3.4 billion seems like a huge result and I don't quite understand how you’ve got there?

And then related to that, if the HGB result is strong, presumably your distributable reserves would have taken a big increase as well. Does that have any impact on capital management when we think about buybacks for the future and the rest of it or is this just one of those nice cushions that you're going to enjoy getting bigger?

Jörg Schneider

It's rather the latter. Let me start with the reason for the increase. Last year, we had to write down over €1 billion on our ERGO share and that was the main drive of the difference. And the lower level of contribution to the equalization reserve, again, a very high investment result. And in the investment result, there is also two major gains from intragroup transactions. In one case, we shifted a diversified portfolio of bonds and shares from one location to the other for technical reasons. And in the second phase, we wanted to realize a gain actively in order to be prepared for any tax changes, which did not appear later on. And so, both had an enormous impact on the result. And therefore, this is not a sustainable HGB result. And that is also the reason why we see with pleasure that our distributable earnings are now on a very high level. And if I see the prognosis also for 2017, we again expect a high HGB result based on the fact that there will be a lower, if no, requirement for the equalization reserve. That means also, for the total of 2017, it remains the same, but I would not recommend to drastically change our distribution policy because the impact of the low interest environment and of the lower rates on the reinsurance side find their way also in the HGB results. And on the other hand, ERGO will, at a later stage, deliver dividends, but that is still some years to go. Therefore, I rather take it as a very nice block of distributable earnings in order to even more concern on our distribution policy which we have followed during the last couple of years, but not to make a major step upwards.

William Hawkins

That's very clear. Thank you.

Jörg Schneider

Thank you, William.

Operator

That concludes today’s question-and-answer session. Mr. Becker-Hussong, I would like to turn the conference back to you for any additional or closing remarks.

Christian Becker-Hussong

Yeah, nothing to add from my side. Thanks to all of you for joining. And please don’t hesitate to call us with further questions. Looking forward to seeing you soon. Thank you. Bye-bye.

Operator

This concludes today’s call. Thank you for your participation. You may now disconnect.

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