Fitch Ratings says in a newly published report, that the proposed new Solvency II regulation for European insurance companies in respect of their exposure to securitisations could disincentivise insurance companies from investing in highly rated and historically strongly performing securitisations.
Fitch says that the new measures, set to come into force at the beginning of 2014, could lead to disproportionately high capital charges, and in the process, restrict funding opportunities for European banks.
The proposed capital charges for securitisations are a multiple of both existing charges and those for other asset classes such as covered bonds and corporate bonds, so insurers using the standard formula will be incentivised to invest in these asset classes in preference to securitisations.
The proposed capital charges are also a multiple of the proposed Basel III capital charges for banks, largely because they are reflective of the volatility of credit spreads rather than probability of default. Under the new rules insurers, who typically would seek to hold long dated assets to match their long dated liabilities, would be incentivised to buy shorter dated assets with lower market price volatility.
"The difference between the approaches under Basel III and Solvency II could create an imbalance of investment incentives between banks and insurance companies," says said the report's author, Krishnan Ramadurai, managing director in Fitch's Credit Policy Group. "It would appear counterintuitive to force insurers to mark to market assets that they seek to hold to maturity. Furthermore, the calibration of market volatility for all securitisation exposures is against a small, highly stressed asset class that no longer exists in the market. It effectively ignores more significant and stable asset classes such as European RMBS."
The report also highlights anomalies such as the small differentiation in capital charges from 'AAA' to 'BBB' and also question the extent of the preferential treatment given to other securities such as covered bonds (even where these are backed by the same assets as would typically back a securitisation). In addition, while Solvency II allows the use of internal models in determining capital charges, it is unclear whether insurers who take advantage of this option will be allowed by their local regulators to do so if they show results which are a fraction of the standard formula.
"The investor base for European securitisations has been severely diminished since the onset of the global credit crisis," says Ian Linnell, Fitch's Global Head of Credit Ratings. "However, over the past 18 months or so there has been a gradual return of 'real' investors to the securitisation market. Insurers and pension funds are an important part of that investor base. If Solvency II is implemented in its current form and if, as is expected, similar regulation for pension funds follows, the recovery of the market could be put in jeopardy, with negative implications for the supply of credit and ultimately the recovery of the European economy."
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