Generali expects IFRS 17 to make P&C results more volatile
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Italian insurer Generali has predicted the operating result of its property and casualty business will be more volatile with the introduction of IFRS 17. It also explained how its assets are backing its liabilities to ensure smooth alignment between IFRS 9 and 17.
Chief financial officer Cristiano Borean said P&C results will be more volatile because IFRS 17 will make P&C operating results more sensitive to interest rates due to discounting.
“This means that the longer the duration of the P&C business, the higher the sensitivity to changes in interest rates,” he told investors during a presentation yesterday.
But Borean said he was “relatively relaxed” about the situation, noting that Generali’s P&C exposure is mostly short tail, hence less sensitive to interest rate changes.
Borean also said the insurer’s clients are mostly retail customers and small medium enterprises, thus volatility can be prevented from this business. However, he acknowledged that volatility is more likely to come from its corporate and commercial business.
He argued the company overall had low exposure to natural catastrophes thanks to the group’s reinsurance strategy and finally, that the firm’s business composition between life and P&C was balanced and “this will contain the volatility from the latter”.
Accounting for investments
Insurers are required to apply IFRS 9 for their investments while IFRS 17 applies to their insurance activities. IFRS 9, the standard for financial instruments, came into force in 2018 for other sectors but insurers are allowed to delay adoption to 2023 to align with IFRS 17 and avoid accounting mismatches, subject to eligibility.
Like many insurers, Generali will apply IFRS 9 next month. It replaces IAS 39 and specifies how an entity should classify and measure financial assets.
Under IFRS 9, assets are classified either as:
· Amortised cost
· Fair value through other comprehensive income
· Fair value through profit or loss
Within the firm’s general account, 70% of the assets will be booked at fair value through other comprehensive income.
The vast majority of Generali’s fixed income portfolio, as well as equities that are not backing insurance business under the variable fee approach (mandatory measurement approach for insurance contracts with participating features such as unit-link policies), are classified at fair value through other comprehensive income.
“Clearly, the choice here was driven by a desire to reduce earnings sensitivities to market factors,” Borean said.
Some 23% of assets will book at fair value through profit or loss, but of those, Borean said 85% of the investment are related to VFA portfolios. Therefore, he stressed that volatility within the firm’s P&L will be contained.
“The mark-to-market volatility will not directly impact the P&L as it will be absorbed by the changes in the CSM.”
ECL budget
IFRS 9 exists partially in response to the 2008 financial crisis, as companies such as banks and lenders were not able to recognise an impairment loss. This has led to an introduction of the expected credit loss model to the standard, which requires companies to predict when losses are going to arise in the future.
Generali said general account asset managers have received an ECL budget for the past three years.
Borean did not disclose the budget but said: “The idea was to define a glide path for the credit portfolio to get to 2022 with a desired ECL impact.”
He added the move has also had the “benefit of timing as we entered 2022” – a year during which Generali said credit spreads widened significantly – with a “high quality credit portfolio”.
“We should look at IFRS 9 in alignment with IFRS 17 because IFRS 17 makes discipline asset and liability matching even more important than previously,” said the CFO.
What’s the difference between the three measurement models in IFRS 9?
According to the International Accounting Standards Board, a financial asset is measured at amortised cost if both of the following conditions are met:
· the asset is held within a business model whose objective is to hold assets in order to collect contractual cash flows; and
· the contractual terms of the financial asset give rise on specified dates to cash flows that are solely payments of principal and interest on the principal amount outstanding.
Financial assets are classified and measured at fair value through other comprehensive income if they are held in a business model whose objective is achieved by both collecting contractual cash flows and selling financial assets.
Any financial assets that are not held at amortised cost or fair value through other comprehensive income are measured at fair value through profit or loss.
How do you match your assets to your liabilities to avoid accounting mismatches?
