Korean financial markets were recently shaken up when Heungkuk Life Insurance, a medium-sized player in the Korean insurance industry, announced on Nov. 1 that it would delay exercising a $500 million call option on Nov. 9 for its foreign-currency bonds — though ultimately the insurer reversed its decision on Nov. 7.
Heungkuk Life plans to repay the debt through its own capital and repo operations, a spokesperson said, and the exact amounts have yet to be decided – but if the insurer hadn’t taken that step , it would have been the first time since 2009 that a Korean financial institution failed to prepay foreign currency obligations.
These bonds callable in US dollars were a solution years ago for many insurers with a tight risk-based capital (RBC) margin, according to Andrew Shin, head of Korea investments at consultancy WTW, formerly known as the name of Willis Towers Watson.
Now the Korean credit market is going through a crisis, and while most people expected the bonds to be called, Heungkuk Life initially decided against it – a likely reason being that the US dollar is currently relatively more expensive and financing costs have increased. dramatically.
“The life insurer could have done a cost-benefit analysis of two options: exercise the purchase option rather than defer it; and came to the conclusion that it was cheaper to choose the latter option,” Shin said. Asian investor.
“However, after market confusion, the insurer finally decided to exercise it. Unfortunately, the market has not yet returned to normal, which has led to the current situation in the Korean insurance industry,” he explained.
MAKE THE LINE
Some major Korean insurance companies, including Hanwha Life and KDB Life, are expected to buy back $1 billion and $200 million, respectively, of hybrid securities next year.
Siew Wai Wan,
The current depreciation of the Korean won against the US dollar is not the only problem in the context of rising interest rates. Korean companies are typically challenged to weigh cost considerations as well as the feasibility of refinancing existing debt with the most expensive issue, according to Siew Wai Wan, senior director of insurance at Fitch Ratings.
“We believe there could be implications for the pricing of capital instruments in the future where the market has priced in the expectation that the instruments will be called. From a credit rating perspective , we don’t expect any change per se – rather we consider the characteristics of the instrument as well as the regulatory treatment when deciding on the rating or credit accorded to these instruments,” Wan said. Asian investor.
CHANGES TO RULES
Following the Heungkuk Life case and the general situation of Korean insurers, Korea’s financial regulator is seeking to temporarily ease regulations in the country’s insurance sector to prevent insurers from selling bonds and to stabilize the country’s money markets.
Financial authorities have eased regulations in the insurance sector as life insurers will face increasing pressure on capital next year, with the implementation of two new sets of rules: local accounting standards legal insurance K-ICS; and International Accounting Standards 17, IFRS17.
Many insurers have prepared for the coming change. However, many have also pointed out that there are other insurers facing a call deadline next year, such as Hanwha Life’s previously mentioned $1 billion hybrid securities.
“This could be a source of uncertainty if market rates and funding costs remain much higher. If it becomes more difficult to raise funds overseas, it will become a headwind for many insurers to obtain sufficient capital in terms of regulatory requirements,” Shin said.
As part of measures announced by the Financial Services Commission and the Financial Supervisory Service on November 3 after a meeting with life insurers, the rating of the liquidity index of insurance companies will be raised by a notch in their Risk Assessment and Enforcement System (RAAS) rating through the end of this year. An insurer with a second degree rating will be moved to the first degree, for example.
Conceptually, the situation should lead to limited material changes in how new regimes are to be implemented. Once implemented, the new regimes will require insurers to adopt mark-to-market valuation for assets and liabilities, said Fitch Ratings’ Wan.
“This is also one of the major differences that differentiates the K-ICS from the existing RBC regime. Fitch does not expect to see significant changes in the current investment profiles of most market participants. There might be some adjustments to their investment mixes to incorporate the latest risk loads under K-ICS, where possible and beneficial to insurers,” Wan said.
A DIFFICULT ENVIRONMENT
Regulators will also temporarily allow insurers to include assets with a maturity of more than three months, such as immediately cashable bonds, as liquidity assets. Currently, assets with a maturity of less than three months are considered cash. In response, insurance companies should refrain from selling bonds and cooperate with the government to stabilize money markets in their role as institutional investors, the financial authority urged.
Fitch Ratings believes that domestic fixed income instruments should remain the mainstay of Korean insurers’ investment mix, with some diversification into alternative investments such as beneficiary certificates.
Many Korean insurers, like other asset owners in the country, remain on the sidelines as there are many investment opportunities with much higher returns. For example, public entities such as KEPCO roll over their two- to three-year bonds at 5.99% per year, WTW’s Shin pointed out.
“This makes other investments, including foreign private market assets, less attractive, as the illiquidity premium and compensation for currency volatility etc. are no longer as attractive as they once were. While the funding costs of most insurance companies are now higher, the required rate of return would be adjusted upwards and the situation will become more complicated as the new K-ICS comes into effect next year” , said Shin.
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