Declining yields pose risks to China's insurance sector

In late 2023, regulators eased some C-ROSS rules, prompting insurers to raise capital via perpetual bond issuance.

Chinese insurers have increasingly turned to domestic debt capital markets, particularly through capital supplementary bonds (CSBs), with a notable 240% increase in issuances in 2023. 

However, a recent AM Best report highlights that CSBs are not recognised as core capital under the C-ROSS Phase II solvency regime, leading to downward pressure on core solvency ratios, particularly among life insurers.

AM Best’s report, "Declining Investment Yields Pose Challenges to Meet Cost of Capital for China Insurers," notes that many insurers have applied for a three-year transition period, ending in 2024. 

In response, the regulator relaxed some C-ROSS requirements in late 2023, and insurers raised capital through issuing perpetual bonds, which contributed to the calculation of core solvency ratio, stabilising solvency levels in 2023.

Whilst Chinese insurers have benefited from low debt financing costs, prolonged negative spreads and declining investment yields pose challenges, especially for life insurers. 

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Future difficulties may arise in finding suitable investment opportunities for asset-liability matching, potentially reducing insurers' inclination to issue CSBs.

“Insurance perpetual bonds remain relatively new to onshore investors; however, the market for these bonds is expected to mature over the long term, supported by improving investor confidence and market depth,” James Chan, director of analytics at AM Best said in a media release. 

“We consider this credit-positive as it enriches insurers’ capital structure and enhances financial flexibility.” Chan added.

Although there has been an increase in debt issuance in recent years, financial leverage remains low for AM Best-rated companies. 

However, excessive financial leverage is viewed as credit-negative, as it weakens liquidity due to debt servicing obligations, especially if capital market conditions deteriorate.