Insurance. Munich Reinsurance Company. And Subsidiaries. Reinsurers / Germany. Full Rating Report. Key Rating Drivers. Rating Sensitivities

Transcription

1 Reinsurers / Germany And Subsidiaries Full Rating Report Ratings Insurer Financial Strength Rating Long-Term Foreign-Currency IDR AA AA Subordinated Debt (XS ) A+ All Other Subordinated Debt A Senior Unsecured Debt (Issued by AA Munich Reinsurance America Corporation) Outlooks Insurer Financial Strength Rating Long-Term Foreign-Currency IDR Financial Data 31 Dec 16 Stable Stable 31 Dec 15 Total assets (EURbn) Total equity (EURbn) Gross written premiums (EURbn) Net income (EURbn) P&C reinsurance combined ratio (%) Primary insurance (ERGO intl.) combined ratio (%) Key Rating Drivers Very Strong Business Profile: Fitch Ratings regards s (Munich Re) reinsurance operation as one of a select group that has the scale, diversity and financial strength to attract the highest-quality business that is placed in the global reinsurance market. This view is supported by strong and consistent property and casualty (P&C) reinsurance results and strong capitalisation. An offsetting factor is the mixed performance of the reinsurer s ERGO-branded primary insurance operations. ERGO Restructuring Reduces Profit: In June 2016, Munich Re s primary insurance group ERGO Group AG announced a restructuring programme, which will last until The restructuring will see ERGO update IT and reduce administration costs. The restructuring costs led to reduced profits in 2016 of EUR2.6 billion (2015: EUR3.1 billion). However, Munich Re expects the steps taken to boost net profits at ERGO and forecasts the segment to contribute EUR600 million to the annual result by 2021 at the latest. P&C Reinsurance Profitable: In 2016, the P&C reinsurance segment contributed EUR2 billion (2015: EUR2.9 billion) towards the overall profit of EUR2.6 billion (2015: EUR3.1 billion) The Fitch-calculated combined ratio worsened to 96% (end-2015: 90%) due to increased aggregate losses from natural catastrophes. Normalised for reserve variations and major losses, the combined ratio further deteriorated to 100% (2015: 98.7%), reflecting the continued underlying effects of a protracted soft market. Very Strong Capitalisation: Fitch regards Munich Re s capitalisation as measured by the agency s Prism factor based model (FBM) as Very Strong. Reporting its solvency margin under Solvency II, coverage remained well above the 220% top end of the reinsurer s target range at 267% at end Low Financial Leverage: Munich Re s debt leverage of 13% at end-2016 is low. The total financing and commitments ratio was steady at below 1.0x at end-2016, and is considered average by Fitch. Operating earnings excluding realised and unrealised gains generated very strong debt servicing capabilities, with fixed-charge coverage of 11x in 2016 (2015: 10x). Related Research European Reinsurance Dashboard 2016 Results (March 2017) European P&C Reinsurance Showing Resilience (March 2017) Global Reinsurers: 2017 Forecast and 2016 Results (May 2017) 2017 Outlook: Global Reinsurance (December 2016) Analysts Graham Coutts graham.coutts@fitchratings.com Catastrophe Risk Manageable: Munich Re makes only limited use of retrocession or other forms of risk mitigation, so its net losses are close to its gross losses. Fitch considers Munich Re s catastrophe risk as manageable, in the context of a highly diversified catastrophe portfolio by geography and also in light of the group s strong capital position. Rating Sensitivities Deterioration in Capitalisation/Financial Performance: The key rating triggers that could result in a downgrade include: a sustained material drop in the company s risk-adjusted capital position to below Very Strong, as measured by Prism FBM, a cross-cycle Fitch-calculated combined ratio of 97% or above, or net income return on equity consistently below 6%. Upgrade Unlikely: Munich Re has the joint-highest IFS rating among European (re)insurance groups and an upgrade is unlikely in the near term. Harish Gohil harish.gohil@fitchratings.com 10

2 Gross Premium by Segment, 2016 ERGO International 7.5% Munich Health 10.2% ERGO - Life 18.8% Source: Munich Re ERGO - P&C 6.5% Reinsurance - P&C 36.5% Reinsurance - Life 20.5% Business Profile Very Strong Business Profile Large, well-diversified portfolio ERGO restructuring reduces profitability Primary operations concentrated in Germany Multi-channel distribution Limited M&A activity Large, Well-Diversified Portfolio Fitch views Munich Re as one of a small group of global reinsurers with the scale and financial strength to attract the highest quality reinsurance business that is placed in the market. Measured by premium volume, Munich Re is the world s largest reinsurer, with reinsurance gross written premiums totalling EUR28 billion in The reinsurance segment, of which the P&C business is the largest within the group, is strengthened by an excellent franchise. Overall, Fitch considers the Munich Re group to have a leading global business profile and to be of large scale. Ratings Range Based on Business Profile IFS Rating AAA AA A BBB <BBB Very strong business profile Strong business profile Moderate business profile Weak business profile ERGO Restructuring Reduces Profitability In June 2016, Munich Re s primary insurance group ERGO Group AG announced a restructuring programme, which will last until Munich Re will invest about EUR1 billion (net) in improving ERGO s competitiveness and profitability, largely through modernising IT platforms. The programme targets a sustainable annual net profit of at least EUR600 million after 2021 including net cost savings of EUR280 million. In 2017, ERGO is also starting up an online only digital insurance company called Nexible. Primary Operations Concentrated in Germany Related Criteria Insurance Rating Methodology (April 2017) Although the group s reinsurance business is written globally, most of the primary business is concentrated in Germany. The group is aiming to increase the proportion of its international primary business, which has led to more geographical diversification in that segment in recent years. Ergo entered the Thai insurance market in 2016 through the acquisition of 40% of the shares in motor and property insurer Thaisri Insurance. ERGO also increased its footprint in the Indian and Greek markets. ERGO s biggest markets internationally include Poland, Austria and Belgium. 2

3 Multi-Channel Distribution The group s reinsurance business comes either through direct co-operation with primary insurers or via brokers. It also has strong partnerships with leading broker firms and receives business from large clients through captives or alternative risk-transfer initiatives. ERGO s strategy encompasses various distribution channels. In addition to its own sales network of 14,000 tied agents, ERGO has forged partnerships with a variety of brokers, has strong links with the UniCredit group for bancassurance distribution and manages its direct business by ERGO Direkt. Munich Reinsurance America Corporation is the principal vehicle through which the Munich Re group accepts risk in the US. It benefits from writing business through a US entity, which helps the group avoid being treated as an alien reinsurer in the US and therefore having to collateralise its reinsurance obligations. Limited M&A Activity Management s approach to takeovers is disciplined; the price and the strategic fit of the targets are emphasised in equal measure. Takeover targets tend to be small to medium-sized, and Fitch expects Munich Re to maintain this cautious stance towards M&A. Fitch views management s appetite towards asset risk as conservative, as the group aims to create value as a liability-driven (re)insurer. 3

4 Ownership Neutral to Rating Corporate Governance and Management Corporate governance and management are effective and neutral to the rating. Corporate governance is led by collaboration between the Supervisory Board and the Board of Management. A total of five Supervisory Board committees meet at regular intervals to raise and discuss important issues. In 2016, Munich Re was in compliance with all of the recommendations of the German Corporate Governance Code. Munich Re is a listed group, with the majority of its shares held by institutional investors (71.9% at end-2016) and private investors (18.5%). Shareholders are mainly European with 38.2% of share capital held in Germany, 11.4% in the UK and 22.9% in the rest of Europe. A significant proportion of the shares are also held in North America with 26.8%. Group Structure (Showing entities rated by Fitch) Munich-American Holding Corporation ERGO Group AG Munich Re America Corporation HSB Group Inc. ERGO Lebensversicherung AG Vorsorge Lebensversicherung AG Europaeische Reiseversicherung AG DKV Deutsche Krankenversicherung AG Munich Reinsurance America, Inc. The Hartford Steam Boiler Inspection and Insurance Company Wholly Owned Subsidiaries Source: Munich Re annual report, Fitch 4

5 Sovereign and Country-Related Constraints Fitch rates the sovereign obligations of Germany at AAA with a Stable Outlook, and the Country Ceiling is also AAA. Therefore, the ratings of German insurance organisations and other corporate issuers are not constrained by sovereign or macroeconomic risks. Industry Profile and Operating Environment Rate Declines Slow but Underwriting Remains Under Pressure Fitch expects the majority of reinsurers to report lower profitability in 2017 compared to 2016 results, driven by falling reinsurance prices and declining investment returns. This will make it more difficult for some companies to maintain underwriting and profitability credit metrics close to current levels. European reinsurers continued to report strong underwriting performance in 2016, driven by significant prior year reserve releases and lower-than-expected major losses. However, on a normalised basis, excluding the impact of these two factors, the combined ratio for major European reinsurers is almost 100%. In our view, this increases the sensitivity of future underwriting profitability to even a modest rise in major claims activity. Low investment yields represent an increasing risk to the reinsurance sector, with interest rates potentially set to remain at current low levels for a protracted period. The diminishing reinvestment rate achieved on reinsurers investment portfolios, many of which are of a duration of less than three years, will place a greater strain on earnings, coinciding with falling premium rates. Fitch views the ability for reinsurers to continue to generate positive prior-year reserve development as becoming increasingly important and more challenging, within the context of difficult market conditions. Reserves have been prudently managed across the sector in recent years, with most reinsurers demonstrating a positive track record of prior-year development. The 2017 reinsurance renewals confirmed that a price floor has yet to be reached. However, the pace of price reductions has slowed and portfolio rate reductions for the major European reinsurers have been kept to low single digits. As pricing continues to approach the cost of capital for many lines, price declines are likely to slow further, although there is not yet an indication of rate declines ending completely. Catastrophe bond issuance increased to record levels in the first half of Strong investor appetite means that market conditions are favourable for further issuance into 2018 as maturing issuances are replaced with larger issuances and new sponsors enter the market as part of their risk management strategy. Despite the increased issuance of catastrophe bonds, Fitch expects the main driver of alternative capital growth to be the collateralised reinsurance segment. Fitch expects ILS funds to compete strongly into 2018 and to offer expanded capacity at decreasing pricing margins. Fitch believes there could be further M&A activity across the global reinsurance sector in Deals could involve foreign entities looking for acquisitions as they seek to diversify and develop business outside of their home regions and core markets. We do not rule out one or more of the four major European reinsurers striking deals. Should this happen, we view smaller bolt-on purchases, that offer meaningful share in new markets or segments, as being more likely. Large transformational deals are unlikely given their already large scale and high level of diversification. Ratings Range Based on Industry Profile/Operating Environment IFS Rating Debt Non-life AAA AA AA A A BBB BBB BB <BBB <BB Reinsurance lines Composite 5

6 Peer Analysis Very Well-Diversified and Very Strong Business Profile The group of (re)insurance businesses that form the Munich Re group dilutes the effectiveness of some comparative ratios used to assess the reinsurer against its closest peers. Munich Re has sizeable primary operations, which accounted for 33% of the group s premiums written at end Munich Re s average reinsurance combined ratio between 2012 and 2016 was 92.3%, which is at the high end of the range among its natural peer group. This is partly explained by the greater level of proportional (generally lower margin), but less volatile business written compared with peers, which typically results in a higher combined ratio, all else being equal. Relative to multinational primary insurance groups, Munich Re s regulatory solvency and financial leverage ratios compare favourably. Profitability metrics have recovered since 2011, helped by a lower level of large natural catastrophe losses incurred by the reinsurance sector. Peer Analysis Net written premiums b Combined ratio (%) Combined ratio volatility (pp) e Shareholders equity (USDm) a IFS Rating d Five-year average c Five-year average Berkshire Hathaway AA+/Stable 46,910 42, , ,550 AA/Stable 52,202 53, ,163 33,327 Lloyd s of London AA /Negative 31,010 32, ,177 35,750 Swiss Re AA /Stable 33,570 30, ,634 33,517 Hannover Re AA /Stable 16,109 16, ,467 8,768 SCOR S.E. AA /Stable 13,873 13, ,009 6,879 PartnerRe Company Ltd A+/Stable 4,953 5, ,984 6,047 Combined ratio: Net losses and loss-adjustment expenses divided by net premiums earned plus underwriting expenses divided by net premiums earned. Shareholders equity is organisation-wide equity and therefore depends on the company's reporting practices; it may include equity that supports operations other than property/casualty reinsurance operations Financial statement figures for some European reinsurers have been translated into US dollars using year-end or 12-month average rates of exchange, as appropriate. This has led to some exchange-rate distortion between financial years a Foreign exchange rates used for NWP = full year average rate b NWP includes primary and reinsurance business c , non-life reinsurance business d Denotes operating company insurer financial strength rating e Standard deviation Source: Company annual reports, financial supplements, and SEC filings 6

7 Capitalisation and Leverage (EURbn) Fitch s expectation Group solvency (%) Capitalisation and leverage is expected to remain Gross leverage (x) very strong. Future capital management through Net leverage (x) share buy-back programmes will depend on the Net premiums written/equity (x) level of major losses. Net financial leverage (%) Total financing and commitments ratio (x) Very Strong Capitalisation and Leverage Very Strong Prism score Average total financing commitments ratio Solvency II SCR above target range Moderate financial leverage Very Strong Prism Score Munich Re scored Very Strong on Fitch s Prism FBM based on year-end 2016 results. Fitch believes that Munich Re s earnings support the capital position with growth in retained earnings increasing equity. Fitch does not foresee a material weakening of Munich Re s capital strength in the medium term, assuming a normal level of catastrophe activity. Average Total Financing Commitments Ratio Munich Re s TFC ratio was stable at 0.4x at end This value falls within the average range when considered in the broader context of the (re)insurance sector. Fitch recognises that a significant proportion of the ratio numerator consists of utilised letter-of-credit (LOC) facilities. The agency believes that in the remote circumstances that the LOC facilities become unavailable, Munich Re would have sufficient financial resources to maintain the business currently backed by the LOC facilities. TFC Range and Ratio Descriptions Qualitative TFC range (x) description 1.5 and over Well above average Above average Average Under 0.4 Below average Solvency II SCR Above Target Range Munich Re s coverage of the solvency capital requirement (SCR) under Solvency II reduced from 302% at 1 January 2016 to 267% at end-2016 as a result of a number of factors, including model changes and foreign exchange movements. However, coverage remains well above the 220% top end of the reinsurer s target range. We expect the company will manage this down over time. As part of this capital management strategy, in March 2017 Munich Re announced a share buy-back of up to 11 million shares for a maximum total purchase price of EUR1 billion. Moderate Financial Leverage Financial leverage fell to 13% at end-2016 (end-2015: 14%), which is moderate both in absolute terms and compared with peers. 7

8 Debt-Service Capabilities and Financial Flexibility (%) Fitch s expectation Fixed-charge coverage ratio a Fixed-charge coverage is expected to remain at or close to the current level across the rating horizon, assuming catastrophe losses do not exceed the long-term average. Debt-service capability is considered very strong. a Excluding realised and unrealised gains Holding Company Liquidity Munich Re AG is the group s holding company and main reinsurance operating company. In 2012, Munich Re refinanced subordinated debt callable in 2013 (which has since been called), and it has no refinancing requirements until Very Strong Coverage and Adequate Financial Flexibility Very Strong fixed-charge coverage Adequate financial flexibility Future share buy-backs dependent on major losses Very Strong Fixed-Charge Coverage Munich Re s five-year average fixed-charge coverage ratio excluding realised and unrealised gains and losses is very strong at 11x. As both a holding company and an operating company, in recent years, Munich Re has kept the level of hybrids and senior debt and the level of interest to be paid stable. Adequate Financial Flexibility The agency views Munich Re s frequently demonstrated ability to tap the capital markets as a positive rating factor. This applies to both debt and equity markets. Future Share Buy-Backs Dependent on Major Losses Fitch views the continued management of capital through share repurchase programmes as dependent on the level of major loss activity. The agency believes that programmes announced for the last four years reflect both the strength of Munich Re s balance sheet as well as the lower level of major losses incurred by the reinsurance sector. During 2016, Munich Re repurchased EUR1 billion of its own shares (2015: EUR1 billion). Since 2006, the reinsurer has returned EUR20 billion to its shareholders via share buybacks and dividends. The dividend yield was 4.8% for 2016 (2015: 4.5%), which is high but not out of line with peers. 8

9 Financial Performance and Earnings (%) Fitch s expectation Net income (EURm) 3,188 3,304 3,152 3,107 2,580 Fitch expects Munich Re s reinsurance combined Combined ratio P&C RI a ratio to remain close to its current level, subject to Combined ratio - primary - Germany catastrophe activity. Combined ratio primary Intl Fitch believes the RORAC target of 15% is Return on equity ambitious due to low interest rates. Change in net written premiums b a Fitch-calculated b Total Net Written Premiums Source: Munich Re Strong Underwriting Performance P&C Re: Main source of earnings Life Re business growing ERGO restructuring constrains short-term profitability RORAC target of 15% ambitious in current environment P&C Re: Main Source of Earnings The resilience of Munich Re s P&C reinsurance earnings in the current adverse market conditions is viewed as a key rating factor in the next 12 to 18 months. Earnings from the P&C reinsurance segment are set to remain the primary source of Munich Re s operating earnings, and currently account for over half of this metric. The 1 January 2017 renewals, when Munich Re renewed roughly half of its P&C book, resulted in a 4.9% decline in the renewed business premium to EUR8.5 billion, indicating a disciplined underwriting approach with cancelled contracts partly offset by new business opportunities. The overall price reduction of 0.5% on the renewed portfolio at 1 January 2017 (1 January 2016: 1%) shows a slowdown in the rate of price reductions and illustrates the diversity of the reinsurer s reinsurance portfolio, as well as its ability to maintain pricing discipline that its scale affords. Munich Re reported continued pressure on excess of loss business whilst proportional business remained resilient. A similar trend was seen throughout the April and June/July renewal seasons and Fitch expects pricing to continue to decline in the absence of significant catastrophe activity. Munich Re writes a greater amount of proportional business compared with peers, which tends to lead to a higher combined ratio. Proportional business is typically less volatile and therefore carries a lower profit margin. In 2016, Munich Re reported a combined ratio of 96% (2015: 90%) for the P&C reinsurance segment, helped by lower-than-expected large claims and reserve releases equivalent to around 6pp. This falls within the range that Fitch would expect for reinsurance companies at this rating level. The combined ratio, normalised for reserve variations and major losses, deteriorated to 100% in 2016, reflecting the effects of a protracted soft market. This is likely to increase the sensitivity of future underwriting profitability, to even a modest rise in major loss claims. Life Re Business Growing The 2016 technical result for the segment improved to EUR487 million (2015:EUR335 million). The company s expertise and reach allow it to access lines of business and treaty layers that smaller reinsurers do not have the capacity or opportunity to write. The growth of Munich Re s life reinsurance business is led by financial reinsurance, particularly in the Asia region. Fitch believes that it will be some time before organic growth delivers the scale necessary to provide genuine earnings diversification to significantly offset earnings volatility in the P&C reinsurance segment. Fitch views the increased contribution of life reinsurance to the group s earnings positively, as the segment s steady cash flows add stability to the more volatile property and casualty reinsurance results. 9

10 ERGO Restructuring Constrains Short-Term Profitability The restructuring of Munich Re s primary insurance businesses will constrain ERGO s contribution to net earnings significantly. For 2016, ERGO incurred a small net loss of EUR40 million and a combined ratio of 97%. In 2017, a net profit of EUR200 million-eur250 million is targeted, increasing to EUR530 million in After 2020, ERGO targets a sustainable contribution to Munich Re s results of EUR600 million or more. If the restructuring programme is executed successfully, ERGO s profitability would be much more in line with Munich Re s reinsurance operations. In recent years, ERGO s contribution to the group has fallen well below the group s average. Fitch regards ERGO s restructuring programme as ratings positive. A successful implementation would make ERGO a positive contributor to Munich Re s credit profile, while we have historically viewed ERGO as more of a ratings drag. RORAC Target of 15% Ambitious in Current Environment The group has a financial target of a return on risk-adjusted capital (RORAC) of 15%. It also monitors return on equity and the combined ratio, but considers them secondary to RORAC. Fitch regards positively the use of the RORAC target as a measure that reflects risk-adjusted performance. The target also closely matches Munich Re s internal value-based management, which it has identified as one of its key corporate governance tools. However, even in a year of normal catastrophe activity, Fitch would consider a RORAC of 15% hard to achieve due to low interest rates. In 2016, Munich Re achieved RORAC of 10.9%. 10

11 Investment and Asset Risk (%) Fitch s expectation Risky assets to equity Fitch expects Munich Re to stick to its Non-investment grade bonds to equity conservative strategy on investment risk. Unaffiliated equity investments to equity Equity exposure could slightly increase. Affiliated investments to equity Investment Portfolio, 2016 Misc. 6% Shares/ equity funds 6% Land & buildings 3% Limited Exposure to Risky Assets Low but increasing equity exposure Some credit risk exposure Good quality loan portfolio Low but Increasing Equity Exposure Loans 29% Source: Munich Re Loans Portfolio, 2016 Fixed-interest 56% Munich Re s investment portfolio largely consists of highly rated fixed-interest instruments and loans, making up 85% of total investments. The carrying amount of the group s equity portfolio marginally increased to EUR14.4 billion at end-2016 (end-2015: EUR12 billion), or 6.1% (5.2%) of total investments. Equity exposure after hedging decreased to 5.0% of total investments at end-2016 (end-2015: 4.8%). Affiliated and unaffiliated equities totalled 42% of shareholders funds (end-2015: 37%), which Fitch views as very strong. Policyholders/ mortgage 10% Banks/other 3% Gov./semi-gov. 41% Source: Munich Re Corporates 1% Pfandbriefe/CB 44% Some Credit Risk Exposure Credit quality is good, with 71% of fixed-income securities rated AA or AAA. Almost twothirds (63%) of the fixed-income portfolio is invested in government bonds of high credit quality. Munich Re is exposed to some credit risk in its corporate bond portfolio (11% of the fixedincome portfolio), with 11% of securities rated below investment grade. Within the bank portfolio (3% of the fixed-income portfolio), the portion of subordinated bonds and loss-bearing bonds is limited at 18%. Good Quality Loan Portfolio The investment portfolio contained sizeable loans totalling EUR67bn at end-2016 (2015: EUR66bn). The agency views this exposure as manageable given the diversity offered by the wider investment portfolio. The exposure is mitigated by the quality of the loans, with 86% being rated either AAA or AA, and a further 10% being secured against mortgages. 11

12 Asset/Liability and Liquidity Management (%) Fitch s expectation Liquid assets to policyholder liabilities Fitch expects the duration gap between assets and liabilities to remain close to its current level of 0.1 years. Exposure to Interest Rate and Currency Movements Despite Sophisticated Asset-Liability Management Very strong liquidity in investment portfolio Limited duration gap Receiver swaptions mitigate interest-rate exposure IFRS equity exposed to currency movements Very Strong Liquidity in Investment Portfolio Fitch regards liquidity in Munich Re s investment portfolio as very strong. Of the group s EUR236bn investment portfolio, 56% is fixed-income securities. At end-2016, Munich Re held 3% of its investments in real estate and 29% in loans, which are relatively illiquid. Munich Re has sufficient investment-grade bonds and cash to cover its technical reserves despite the large loan portfolio. The Fitch-calculated liquid asset to policyholder liabilities ratio was 72% for 2016 (2015: 70%). Limited Duration Gap Fitch views positively the work undertaken by Munich Re to reduce the duration gap of assets and liabilities at group level. At year-end 2016, the duration of assets and liabilities at group level had been matched with asset duration of eight years and liabilities of 8.1 years. Within its reinsurance operations, the duration of Munich Re s assets (5.9 years) remains longer than that of its liabilities (4.6 years). However, in the primary operations, the reverse is true, which offsets the duration gap from the group perspective. Receiver Swaptions Mitigate Interest-Rate Exposure ERGO has derivatives in place to protect the life operations against reinvestment risk in a sustained low interest rate environment. As interest rates fall, the value of these receiver swaptions rises and offsets the increased economic value of the liabilities caused by interestrate falls, providing additional protection against further declines in interest rates. Fitch sees this transaction as tangible evidence of strong risk management and views positively the potential relief that such transactions can provide. In times of rising interest rates, the receiver swaptions will negatively affect the life operation s IFRS profitability. In addition to the hedge against low interest rates, ERGO has also acquired structured products that provide a hedge against rapidly increasing interest rates. IFRS Equity Exposed to Currency Movements Munich Re applies economic steering principles that aim to limit currency risk, including extensive matching of assets and liabilities. Although the company runs a largely neutral economic currency position, under IFRS a stronger US dollar and weaker euro tends to benefit shareholders equity and can also benefit the profit and loss account. 12

13 Reserve Adequacy (%) Fitch s expectation Loss reserves/cy incurred losses Fitch expects Munich Re to maintain its Change in loss reserve/earned premium ratio prudent reserving standards, which should One year development/py equity continue the trend of positive prior year One year development/py loss reserves development. Prudent Reserving Approach Consistently favourable reserve development Neutral growth, positive experience Asbestos and environmental liabilities in line with peers Consistently Favourable Reserve Development Fitch maintains a favourable view of Munich Re s reserving approach, which has been undertaken consistently and has led to many successive years of positive development. Neutral Growth, Positive Experience Over a three- and five-year period, Fitch assesses loss reserve growth as Neutral, indicating that reserve growth has been in line with underwriting exposures. Munich Re s reserve adequacy is viewed as Positive, indicating that reserves are towards the higher end of the best estimate range. Asbestos and Environmental Liabilities in Line With Peers Fitch regards asbestos liability as an important area of uncertainty in relation to reserves and believes that this source of risk could limit future earnings. Munich Re s asbestos and environmental three-year survival ratios were 11.3x (end-2015: 13.1x) and 20x (17.7x), respectively, at end The asbestos survival ratio is towards the lower end of the range for the industry, whilst the environmental ratio is closer to the average. Munich Re s survival ratio for asbestos risks has been stable in recent years and Fitch would expect any reported reserve deterioration to be substantially lower in future years. 13

14 Reinsurance, Risk Management and Catastrophe Risk (%) Fitch's expectation NWP/GWP Fitch expects Munich Re's prudent risk management and conservative reinsurance purchasing to continue. Reinsurance, Risk Management and Catastrophe Risk Material but Manageable Exposure to Catastrophe Risk Catastrophe exposure high but manageable Limited use of retrocession and other risk mitigation Prudent risk management Catastrophe Exposure High but Manageable For its peak exposures, some of Munich Re s losses are covered by retrocession and catastrophe bonds, resulting in net exposure of EUR4.4 billion (2015: EUR3.9 billion) for a return period of 200 years for Atlantic Hurricane and EUR2.3 billion (2015: EUR2.3 billion) for European Storm. The increase in net exposures was mainly driven by a slight reduction in the external reinsurance cover and depreciation of the euro against the US dollar. During the last major year for global catastrophe activity, 2011, Munich Re was more exposed to the Asia-Pacific catastrophe events than some of its peers, although the losses were not out of line with the company s market share in the regions. As Munich Re uses limited retrocession coverage or other forms of risk mitigation, this left net losses close to gross losses. The group generates most of its profits from its P&C reinsurance operations, benefitting from solid margins within its catastrophe book. Overall pricing outcomes at recent renewals were largely stable. Limited Use of Retrocession and Other Risk Mitigation Munich Re uses limited retrocession coverage or other forms of risk mitigation, leaving net losses relatively close to gross losses. It acts as an opportunistic purchaser of retrocession capacity focussing on economic efficiency. The group also uses derivatives and risk swaps as tools to dampen volatility in earnings. Since end-2006, Munich Re has become more active in supplementing its retrocession programme through the use of alternative capital market solutions. The use of such alternative instruments acts as a diversification within the group s risk management programme. Overall, Munich Re s tail risk is manageable due to its highly geographically diversified catastrophe portfolio and strong capital position. Fitch regards the current retrocessional programme as effective. The security of the retrocessionaires remains strong. Prudent Risk Management Munich Re s risk management function is advanced and has proved effective in monitoring and mitigating investment risk as worldwide economic conditions have deteriorated. Risk management has taken a central role within the organisation, and Fitch expects further progress in enterprise risk management to aid in the identification, quantification and control of risks. Fitch views Munich Re s cycle management and peak exposure management as effective, and will follow the rate developments in Munich Re s new business. 14

15 Key Non-Insurance Operations/Exposure (EURm) Fitch s expectation Asset-management operating result Fitch expects Munich Re to focus on insurance and Funds under management a 11,500 12,900 13,900 14,100 15,200 reinsurance business as its core competency. a Third-party investment Non-Insurance Operations of Small Scale Limited Third-Party Asset Management MEAG MUNICH ERGO Asset Management GmbH (MEAG) is the asset manager of Munich Re. In addition to its asset management function for the group, MEAG offers its expertise to private and institutional clients. Given its limited scale, Fitch views the third-party asset management business as being neutral to Munich Re s ratings. 15

16 Appendix: Other Ratings Considerations Complete Ratings List (Core Entities) IFS: AA Munich Reinsurance America Corporation IDR: AA Munich Reinsurance America, Inc. IFS: AA Hartford Steam Boiler Inspection and Insurance Company IFS: AA ERGO Group AG IDR: AA DKV Deutsche Krankenversicherung AG IFS: AA VORSORGE Lebensversicherung AG IFS: AA Europaeische Reiseversicherung AG IFS: AA Below is a summary of additional ratings considerations of a technical nature that are part of Fitch s ratings criteria. Group IFS Rating Approach The entities listed to the left are considered Core entities under Fitch s group rating methodology. The operating entities share the same IFS Ratings based on Fitch s evaluation of the strength of the group as a whole. Notching For notching purposes, the regulatory environment of Germany is assessed by Fitch as being Effective, and classified as following a Group Solvency approach. Notching Summary Holding company Not applicable (as the top company is also the main operating company of the group). IFS Ratings A baseline recovery assumption of Good applies to the IFS Ratings, and standard notching was used from the IFS anchor rating to the operating company IDRs. Debt Outstanding senior unsecured debt issued by Munich Reinsurance America Corporation (MRAC) has been rated using a baseline recovery assumption of Average. Based on standard notching, the rating is therefore aligned with the IDR of MRAC. Hybrids For the subordinated debt issue with ISIN number XS , a baseline recovery assumption of Below Average and a non-performance risk assessment of Minimal was used. Notching of -1 was applied relative to the IDR, which was based on -1 for recovery and 0 for non-performance risk. For all remaining outstanding subordinated note issues, a baseline recovery assumption of Below Average and a non-performance risk assessment of Moderate was used. Notching of -2 was applied relative to the IDR, which was based on -1 for recovery and -1 for non-performance risk. Short-Term Ratings Not applicable. 16

17 Hybrids Equity/Debt Treatment Fitch regards this subordinated debt as 100% capital within its capital adequacy ratio and as 100% debt within its financial leverage ratio calculation. Outstanding Hybrid Issues Hybrid Amount CAR Fitch (%) CAR reg. override (%) FLR debt (%) XS EUR1,000m XS GBP300m XS EUR900m XS GBP450m Exceptions to Criteria/Ratings Limitations None. 17

18 The ratings above were solicited and assigned or maintained at the request of the rated entity/issuer or a related third party. Any exceptions follow below. ALL FITCH CREDIT RATINGS ARE SUBJECT TO CERTAIN LIMITATIONS AND DISCLAIMERS. PLEASE READ THESE LIMITATIONS AND DISCLAIMERS BY FOLLOWING THIS LINK: IN ADDITION, RATING DEFINITIONS AND THE TERMS OF USE OF SUCH RATINGS ARE AVAILABLE ON THE AGENCY'S PUBLIC WEB SITE AT PUBLISHED RATINGS, CRITERIA, AND METHODOLOGIES ARE AVAILABLE FROM THIS SITE AT ALL TIMES. FITCH'S CODE OF CONDUCT, CONFIDENTIALITY, CONFLICTS OF INTEREST, AFFILIATE FIREWALL, COMPLIANCE, AND OTHER RELEVANT POLICIES AND PROCEDURES ARE ALSO AVAILABLE FROM THE CODE OF CONDUCT SECTION OF THIS SITE. FITCH MAY HAVE PROVIDED ANOTHER PERMISSIBLE SERVICE TO THE RATED ENTITY OR ITS RELATED THIRD PARTIES. DETAILS OF THIS SERVICE FOR RATINGS FOR WHICH THE LEAD ANALYST IS BASED IN AN EU-REGISTERED ENTITY CAN BE FOUND ON THE ENTITY SUMMARY PAGE FOR THIS ISSUER ON THE FITCH WEBSITE. Copyright 2017 by Fitch Ratings, Inc., Fitch Ratings Ltd. and its subsidiaries. 33 Whitehall Street, NY, NY Telephone: , (212) Fax: (212) Reproduction or retransmission in whole or in part is prohibited except by permission. All rights reserved. In issuing and maintaining its ratings and in making other reports (including forecast information), Fitch relies on factual information it receives from issuers and underwriters and from other sources Fitch believes to be credible. Fitch conducts a reasonable investigation of the factual information relied upon by it in accordance with its ratings methodology, and obtains reasonable verification of that information from independent sources, to the extent such sources are available for a given security or in a given jurisdiction. The manner of Fitch s factual investigation and the scope of the third-party verification it obtains will vary depending on the nature of the rated security and its issuer, the requirements and practices in the jurisdiction in which the rated security is offered and sold and/or the issuer is located, the availability and nature of relevant public information, access to the management of the issuer and its advisers, the availability of pre-existing third-party verifications such as audit reports, agreed-upon procedures letters, appraisals, actuarial reports, engineering reports, legal opinions and other reports provided by third parties, the availability of independent and competent thirdparty verification sources with respect to the particular security or in the particular jurisdiction of the issuer, and a variety of other factors. Users of Fitch s ratings and reports should understand that neither an enhanced factual investigation nor any third-party verification can ensure that all of the information Fitch relies on in connection with a rating or a report will be accurate and complete. Ultimately, the issuer and its advisers are responsible for the accuracy of the information they provide to Fitch and to the market in offering documents and other reports. In issuing its ratings and its reports, Fitch must rely on the work of experts, including independent auditors with respect to financial statements and attorneys with respect to legal and tax matters. Further, ratings and forecasts of financial and other information are inherently forward-looking and embody assumptions and predictions about future events that by their nature cannot be verified as facts. As a result, despite any verification of current facts, ratings and forecasts can be affected by future events or conditions that were not anticipated at the time a rating or forecast was issued or affirmed. The information in this report is provided as is without any representation or warranty of any kind, and Fitch does not represent or warrant that the report or any of its contents will meet any of the requirements of a recipient of the report. A Fitch rating is an opinion as to the creditworthiness of a security. This opinion and reports made by Fitch are based on established criteria and methodologies that Fitch is continuously evaluating and updating. Therefore, ratings and reports are the collective work product of Fitch and no individual, or group of individuals, is solely responsible for a rating or a report. The rating does not address the risk of loss due to risks other than credit risk, unless such risk is specifically mentioned. Fitch is not engaged in the offer or sale of any security. All Fitch reports have shared authorship. Individuals identified in a Fitch report were involved in, but are not solely responsible for, the opinions stated therein. The individuals are named for contact purposes only. A report providing a Fitch rating is neither a prospectus nor a substitute for the information assembled, verified and presented to investors by the issuer and its agents in connection with the sale of the securities. Ratings may be changed or withdrawn at any time for any reason in the sole discretion of Fitch. Fitch does not provide investment advice of any sort. Ratings are not a recommendation to buy, sell, or hold any security. Ratings do not comment on the adequacy of market price, the suitability of any security for a particular investor, or the tax-exempt nature or taxability of payments made in respect to any security. Fitch receives fees from issuers, insurers, guarantors, other obligors, and underwriters for rating securities. Such fees generally vary from US$1,000 to US$750,000 (or the applicable currency equivalent) per issue. In certain cases, Fitch will rate all or a number of issues issued by a particular issuer, or insured or guaranteed by a particular insurer or guarantor, for a single annual fee. Such fees are expected to vary from US$10,000 to US$1,500,000 (or the applicable currency equivalent). The assignment, publication, or dissemination of a rating by Fitch shall not constitute a consent by Fitch to use its name as an expert in connection with any registration statement filed under the United States securities laws, the Financial Services and Markets Act of 2000 of the United Kingdom, or the securities laws of any particular jurisdiction. Due to the relative efficiency of electronic publishing and distribution, Fitch research may be available to electronic subscribers up to three days earlier than to print subscribers. For Australia, New Zealand, Taiwan and South Korea only: Fitch Australia Pty Ltd holds an Australian financial services license (AFS license no ) which authorizes it to provide credit ratings to wholesale clients only. Credit ratings information published by Fitch is not intended to be used by persons who are retail clients within the meaning of the Corporations Act