Intense competition and increasing regulation is bringing new challenges to the Swiss insurance and reinsurance arena, says Helen Yates

The Swiss private insurance industry has been described as a fortress, shutting itself off from the outside world. But while foreign insurers still have a fairly limited presence in the market this is largely a function of overcapacity. The Swiss are among the world's best-insured people and this has led to the development of a highly mature, saturated and competitive primary insurance market. According to Swiss Re, per capita premiums for private insurance amounted to $4,900 in 2002. Overall, the market registers the highest penetration in terms of GDP for both the life and non-life sectors (see graph below). "We believe the Swiss primary insurance market is one of the most mature in Europe," says Standard & Poor's credit analyst Karin Clemens. "We also believe the market has overcapacity because there are over 140 companies (excluding reinsurers) in the market. It is still highly competitive and that really combines with low growth prospects."

Bear market legacy

Largely as a result of its key position in the global capital markets, Swiss insurers and reinsurers are vulnerable to downturns in the global equity market. During the last bear market this had a substantial impact on many companies' bottom lines and high losses were recorded. In 2004, premiums declined by 2.7%, continuing the downward trend that began in 2003. The life market was hardest hit with premium reductions of 7% in 2004, mainly as a result of a decline in sales of individual products. While most losses were absorbed, owing to substantial reserving, the response was an almost immediate decision by many companies to reposition themselves and to refocus on core competencies.

While growth remains weak, the result of restructuring and pricing discipline has led to significantly improved earnings and capitalisation in 2003 and 2004. "The economic trend has been very stable," says Michael Zboron, managing senior financial analyst at AM Best. "We have seen market discipline being maintained - especially in the largest lines of business such as health and accident and motor insurance." But Guy Bar, deputy head of the Swiss Insurance Association's (SIA) economy & financial affairs unit, believes this turnaround in capital positions can be largely attributed to the recovery in the stock markets while Standard & Poor's warns that investor confidence is still low.

Market breakdown

The Swiss insurance market is ranked seventh in terms of gross written premiums. With 198 insurance companies operating in the market (26 life insurers, 117 property/casualty insurers and 55 reinsurers), it remains highly competitive. For this reason, along with the relatively small size of the Swiss market, some of the largest insurers and reinsurers have built a significant market presence abroad. Zurich (ZFS), Winterthur, Basler, Swiss Life, Converium, Helvetia Patria and Swiss Re are all prominent international players. More staff are currently employed in Swiss foreign branches and subsidiaries than domestic operations and overall, foreign operations bring in a substantial 65% of total premium income. In contrast, the presence of foreign-owned insurers in Switzerland is still limited, with Allianz and Generali representing the only dominant foreign groups.

In 2004 there was a 60:40 premium split between life and non-life insurance. Group life business accounted for 70% of life premiums, while accident & health was the largest non-life line, representing 40% of non-life premiums. Most major Swiss insurers offer both life and non-life products, however since the equity market downturn many now concentrate more on their core business. Swiss Life for example now mostly offers only life insurance products, whereas Mobiliar focuses on non-life products. In both sectors the major players continued to dominate the market in 2004. The top five life players accounted for almost 75% of the market share, while the top five non-life players accounted for 47%.

While life premiums were hit hard between 2000-2003, property/casualty premiums have made a recovery, growing by an average of 5.5% between 1997 and 2004.

"What we saw in 2003 and 2004 was a significant improvement in earnings and capitalisation in most areas," says Karin Clemens. "2005 is likely to be at a similar level. But on the non-life side the private insurance industry has had to digest heavy losses from the summer floods back in August, which is estimated to cost the industry around SFr1.3bn." Most of the growth in property/casualty, according to Standard & Poor's, is down to a general hardening of rates, in particular in motor, general liability and property insurance lines for individuals.

"On the non-life side it will remain stable," agrees AM Best's Zboron. "The life market has stabilised over the past two years after significant problems resulting from the collapse of equity markets, low interest rates in Switzerland and high minimum guarantees. However the prospective profitability of group life business remains questionable as the high conversion rates combined with increased minimum guarantees limit profit potential." Following bear market losses a number of insurers exited from group life business, particularly from providing occupational pension plans. Many insurers now only offer individual life insurance products, although demand for these has declined as a result of the industry's low product diversification. Group life continues to pose challenges as a result of being highly political and extensively regulated.

Reinsurance

As global market players, Swiss reinsurers have an unlimited potential market and, as a result, there is plenty of competition and room for growth. Indeed, Glacier Re successfully entered the market in January 2005 and now sits comfortably with more established players like Swiss Re, Partner Re and Converium. "We are pleased to offer our clients a clean and unencumbered balance sheet," said Robbie Klaus, Glacier Re's CEO and chief underwriting officer, upon its launch. His reasons for choosing Switzerland as a domicile include its good and recognised regulatory regime, a favourable tax environment, good proximity to major markets and the fact competition within the Swiss marketplace - Swiss Re, Partner Re and Converium - attracts business.

Converium meanwhile is keen to regain its "A" rating following a disastrous year in 2004, which saw class action lawsuits, downgrades and a decision to put its US operations into run-off. A good performance in the second half of 2005 and a strong focus on European client relationships was insufficient to alleviate concerns about the potential for volatility in its reserves and AM Best and Standard & Poor's have affirmed the reinsurer's ratings at "B " and "BBB+" respectively, with a stable outlook. According to Standard & Poor's, "despite the financial difficulties of 2004, the group has maintained the support of key European cedents. The material use of a direct distribution model and strategic investments provide important sources of competitive strength, although this is partially offset by industry factors such as relatively low barriers to entry." The high hurricane activity in 2005 is unlikely to have a major impact on the reinsurer because of its reduced exposure in the US (see table above).

Swiss Re on the other hand is expecting a significant hit from hurricanes Katrina and Rita, and recently upped its expected loss from Hurricane Katrina to $1.2bn admitting it would be unlikely to reach its profit target. More recently, the company said it was expecting $750m in losses from Hurricanes Rita and Wilma. As a result, Standard & Poor's has placed it on creditwatch with negative implications. However, Swiss Re is not expecting any long-term damage to its financial strength and intends to use its equalisation reserves to absorb the bulk of its losses. But John Coomber, Swiss Re CEO, hopes rates will harden and insists, "price levels in the upcoming renewals must be adjusted to reflect (increasing natural catastrophes)". Locally, according to the reinsurer, there will be a substantial premium increase in the natural catastrophe business due to local flood losses in August.

Regulation, regulation, regulation

Solvency II - One of the biggest challenges currently affecting the Swiss market is an "increasingly dense fabric of regulations", as SIA's Bar describes it. In the past, Swiss regulators protected the insured through a combination of measures, including prudent reserving and minimum solvency requirements. But the billions in losses suffered by major Swiss insurers and reinsurers in 2002 surprised and alarmed the supervisory authorities (before then "bankruptcy" was not a word Swiss insurers were familiar with), and more stringent solvency regulations were called for.

The Swiss Insurance Supervisory Law was adopted by Swiss parliament in December 2004 and becomes effective on 1 January 2006. The law is aimed at "increasing the security of the market and providing incentives for companies to improve their risk management and corporate governance," explains Clemens. Meanwhile in 2003, the Federal Office of Private Insurance (FOPI) set out a new directive in terms of the Swiss Solvency Test, proposing a risk-based solvency standard, which is based on the actual risk run by insurers. The Swiss Solvency Test is expected to become effective in 2006 as part of the new Insurance Supervisory Law. "In terms of solvency," explains Zboron, "they really want to follow what the EU is proposing in introducing future Solvency II requirements in terms of minimum capitalisation, and they have been a little bit faster because they're a smaller market."

While Standard & Poor's views the new regulation as positive, Bar warns against measures that overly restrict the freedom of action of insurance providers. "Currently, we of the association and representatives of our member companies are seeking sensible, practical solutions in concert with the supervisory authorities."

EU Reinsurance Directive - As a non-EU country there has been speculation as to what extent Switzerland will implement the upcoming EU Reinsurance Directive. Under the directive, all EU member countries will adopt standardised supervisory rules and introduce level regulatory requirements for reinsurers operating across the continent. The objective is to eliminate barriers to trade, which includes phasing out collateral requirements. Zboron believes that, as has proved to be the case with Solvency II, the Swiss authorities will be keen to follow the EU's lead. "As a non-EU member Switzerland is not required to adopt the EU Reinsurance Directive. However, through bilateral treaties Switzerland has adopted most EU insurance directives (in particular minimum solvency requirements) and it is very likely they will follow a similar path on this issue as the EU market is very important for Swiss reinsurers."

According to Swiss Re, while it is difficult to judge whether Switzerland could be deemed attractive on account of not being an EU country and therefore not beholden to certain regulation, an arbitrage opportunity as far as regulation is concerned for Swiss-based reinsurers is highly unlikely. According to Joachim Frick, a partner at Baker & McKenzie Zurich, rules concerning reinsurance - contained within the draft ordinance for the new Swiss Insurance Supervisory Law - are in line with the requirements of the directive. Christian Felderer, general legal counsel and an executive vice president of Converium, explains that while the EU Directive, in isolation, is not being implemented in Switzerland "the concepts and the mutual recognition that is provided for in the EU Directive" is being tackled by the revisions in the supervisory law.

Through the Reinsurance Directive countries within the EU are required to phase out collateral requirements over the next three years. As far as Switzerland is concerned, Felderer believes this will become a necessary step for Swiss companies too. "There is of course the harmonisation between Switzerland and the EU," he explains. "So collateral requirements may be abolished for Swiss companies as well as a result of the reciprocity between the EU and Switzerland. This may not be the case for other non-EU countries."

- Helen Yates is deputy editor of Global Reinsurance.