Commentary-china reinsurance market-15sep2015

DAGONG EUROPE - www.dagongeurope.com
Linas Grigaliunas
Director
Financial Institutions Analytical Team
linas.grigaliunas@dagongeurope.com
Carola Saldias
Senior Director
Financial Institutions Analytical Team
carola.saldias@dagongeurope.com
China’s Reinsurance
Market Overview
A Double-Edged Sword
15 September 2015
Commentary

Insurance
2
China’s Reinsurance Market Overview – A Double-Edged Sword 15 September 2015
© 2015 Dagong Europe Credit Rating. All rights reserved.
TABLE OF CONTENTS
1. SUMMARY – MAIN TRENDS
2. CHINA’S REINSURANCE MARKET OVERVIEW – KEY
CHARACTERISTICS
3. CHINA’S REINSURANCE MARKET PERFORMANCE
4. OPPORTUNITIES & CHALLENGES

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1. SUMMARY – MAIN TRENDS
 China’s reinsurance market is growing rapidly and we expect this to continue in the
next five years, at above the global reinsurance average, following the expansion
and development of the country’s primary insurance market.
 Overall, China’s reinsurance industry profitability is satisfactory, mainly driven by
investment income. We expect profitability to be challenged in the next few years by
increasing competition, reducing domestic interest rates and volatile domestic equity
markets.
 Competition is high and we expect it to further increase, as new players are entering
the market.
 We expect the regulatory environment and reforms to promote the reinsurance
industry’s growth, and the development of reinsurance products in the long run.
 In our view, due to implementation of China’s Risk-Oriented Solvency System (C-
ROSS) the capitalisation levels in the industry are likely to rise, due to higher
regulatory capital requirements and improved risk management.
 We expect a change in the mix of business lines reinsured and increased
sophistication and use of reinsurance protection at primary level.
 We also expect the number of domestic and mainland-based foreign reinsurers to
grow.
2. CHINA’S REINSURANCE MARKET OVERVIEW – KEY
CHARACTERISTICS
In transforming and challenging the global environment for reinsurers, China is emerging as
one of the most important reinsurance markets, due to its size and high growth potential. The
market is developing rapidly due to its recent history and fast expansion of the primary
insurance market. In 2013, China’s reinsurance industry wrote EUR 15.2Bn (RMB 123.8Bn)
in gross premium written (GPW) and accounted for about 2% of the global reinsurance
market1
. We estimate that in 2014 it was about EUR 19.5Bn (RMB 160Bn).
China’s reinsurance market can be viewed as inland and overseas. Inland business is written
by reinsurers’ mainland-based operations, usually through treaties on a proportional basis.
The overseas business is written by foreign-based reinsurers, it usually has a higher
proportion of facultative business, and must comply with higher regulatory requirements.
The reinsurance industry is highly regulated and protected, although less so than the primary
insurance market. Reinsurance underwriting capacity in the country is high and growing
further due to new, domestic players entering the market and increasing commitment from
foreign players. Competition is increasing as the majority of products are viewed and bought
as a commodity.
The majority of reinsurance business is written in the form of treaties and comes mainly from
Non-life, in particular Motor. Property, agriculture, engineering, marine, cargo and large
industrial risks make up most of the remaining business. The industry is immature and
underdeveloped with basic products, and the main exposure is to Motor, but its sophistication
level is growing, as illustrated by China Property and Casualty Reinsurance (China Re) for
the first time in the country’s history, issuing a USD 50Mn catastrophe bond, which provides
coverage on an indemnified basis for earthquakes in China.
1
CIRC
China is emerging as one of
the most important
reinsurance markets, due to
its size and high growth
potential

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In 2014 the market consisted of 8 players, of which the only domestic player was China Re
(excluding Taiping Reinsurance, which is Hong Kong-based but has operations in China). It
dominates the market with approx. 38% of the overall market share. China Re's market share
has been gradually reducing due to the opening up of the market to foreign players and the
competition. The market share of the seven foreign-funded reinsurers registered in mainland
China and about 200 foreign ones reached around 60% in 2014.
3. CHINA’S INSURANCE MARKET PERFORMANCE
Sourcing publicly available, accurate and consistent data for the Chinese reinsurance market
is challenging. Regulatory disclosure is very low, but new policies related to increased
reporting on reinsurance data indicate a positive trend. We base our analysis on information
provided by CIRC and companies’ financial statements where available.
Growth
Over the last 5 years the reinsurance market has grown by about 15% on average, roughly in
line with the primary market. However, the growth rates have been volatile. We estimate that
in 2014 reinsurance market premiums expanded by about 28%. This was largely driven by a
significant increase in the Life sector - more than x3 - deriving mainly from a significant
increase in Taiping Life Insurance’s premiums ceded. In our view this was a one-off event.
We expect reinsurance premiums to grow at an average of 10-15% over the next three years,
driven by primary-market development, increasing risk-awareness and more risk-based
solvency requirements than before.
Reinsurance use differs significantly among individual companies and also year by year. Most
commonly, ceded premiums in Non-life are about 10% and in Life about 1% of GPW. Due to
the highly concentrated primary market, a change in the reinsurance strategy of one of the
top players can significantly affect the industry statistics, as in the case of Taiping Life
increasing its premiums ceded and significantly driving up overall life reinsurance premiums.
In addition, the majority of the premiums ceded went to the group reinsurer Taiping
Reinsurance.
Ex. 1: Statistics on China’s reinsurance market gathered from primary insurer financial statements
(2013-14)
RMB Mn Domestic Life Domestic Non-life Foreign Life Foreign Non-life
2014 2013 2014 2013 2014 2013 2014 2013
Premiums ceded 40,399 9,307 77,532 73,443 5,745 4,081 5,007 3,758
Premiums ceded 4,935 1,140 9,472 8,995 702 500 612 460
Premiums ceded
growth
334.1% NA 5.6% NA 40.8% NA 33.2% NA
Reinsurance utilisation 3.9% 1.0% 12.3% 13.6% 7.8% 6.8% 25.4% 22.3%
Inwards reinsurance to
GPW
0.2% 0.1% 0.2% 0.2% 0.0% 0.0% 15.0% 13.9%
Inwards reinsurance
growth
142.4% NA 22.5% NA NA NA 25.8% NA
Sample size based on:
Top 10 largest
players, 81.7% of
the total Life GPW
Top 9 largest players,
83.7% of the total Non-
Life GPW
93% of the total
foreign-owned
Life GPW
89% of the total
foreign-owned
Non-life GPW
Source: Companies’ annual reports, Dagong Europe; NA: not available
Foreign primary Non-life insurers general cede almost twice as much premium as the
domestic players, at 25.4% of GPW. We expect that a material part of this will remain within
their global groups. In addition, foreign-owned insurers in China are active in writing inwards
reinsurance, which expanded by about 25% and accounted for 15% of their GPW in 2014.
The main domestic reinsurer, China Re, continues to grow, but at a slower pace than the
market due to its opening up to foreign players, and tougher competition. China Re’s Non-life
reinsurance premiums grew by 3.1% in 2014, and its Life business grew by 14.8% in 2013.
Over the last 5 years the
reinsurance market has
grown by an average of
about 15%, although the
growth rates have been
volatile

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Profitability
In our view, the overall profitability of the reinsurance industry is satisfactory and largely driven
by investment income. Underwriting profitability is low and volatile, affected by the highly
competitive environment. CIRC expects reinsurance companies to record profit of approx.
RMB 7.4Bn for 1H15, amounting to an increase of 89.49% compared with 1H14.
We estimate that Non-life reinsurers’ combined ratios (a measure of underwriting profitability:
a ratio below 100% indicates underwriting profit, above indicates a loss) are on average about
100%, indicating low profitability and high reliance on investment income. High domestic
interest rates compared with those in developed markets provide both cushioning and boost
profitability. We expect that a trend of reducing domestic interest rates and increased volatility
in domestic equity markets will put more pressure on investment income and overall
profitability.
According to our analysis, in general the most profitable reinsurance business is from the
foreign-owned primary insurers, and in general Non-life is more profitable than Life. We regard
the performance of China Re as a good proxy for the industry’s overall performance, and it is
broadly in line with the general trends in the primary insurers’ reinsurance-related expenses
and income.
Ex. 2: China Property & Casualty Re and China Life Re financial ratios (2011-14)
RMB Mn China Property & Casualty Reinsurance China Life Reinsurance
2014 2013 2012 2011 2013 2012 2011 2010
Gross premiums written
(GPW)
29,296 28,422 24,122 21,014 18,261 15,903 16,055 8,374
GPW in change 3.1% 17.8% 14.8% 35.9% 14.8% -1.0% 91.7% NA
Gross loss ratio* 55.7% 51.3% 48.1% 41.7% NA NA NA NA
Net loss ratio** 64.4% 60.3% 54.8% 43.8% NA NA NA NA
Gross combined ratio 90.9% 90.7% 90.3% 93.4% NA NA NA NA
Net combined ratio 100% 100% 97.4% 96.3% NA NA NA NA
Return on equity 11.8% 10.5% 13.5% 10.6% 12.2% 5.6% 2.9% 5.8%
Return on adjusted assets 3.9% 3.0% 3.7% 2.6% 1.7% 0.7% 0.4% 1.2%
Total shareholders’ equity
over net premiums written
(NPW)
51.5% 42.4% 43.9% 39.0% 48.0% 42.8% 30.7% 60.8%
Net income 1,759 1,252 1,404 841 948 361 133 283
Source: China Property & Casualty Reinsurance and China Life Reinsurance annual reports, Dagong Europe; NA: not
available; *Gross Loss Ratio = gross claims + movements in reserves) / Gross Premium Earned; **Net Loss Ratio =
(gross claims + movements in reserves - reinsurers’ share of claims - reinsurers’ share of changes in reserves) / Net
Premium Earned.
We expect reinsurers’ profitability to be challenged in the next few years by increasing
competition, while underwriting profitability is already low. We also expect investment income
to reduce due to the expected further decrease in domestic interest rates, as indicated by the
PBoC2
, and increased volatility in equity markets.
Capital
We see the industry capitalisation as strong and sufficient to absorb large-scale events. Our
view is based on assessment of the financials of the largest player in the market - China Re -
and the group consolidated financials of the major international reinsurers3
present in China.
However, capitalisation of small and medium-size foreign reinsurers might differ significantly.
In our view, the industry has a large capital base and good and improving risk management
expertise, in particular brought by leading global reinsurers. Although the final risk charges
and specific calibration of C-ROSS and its impact is yet to be seen, we do not expect it to
create significant challenges to the main reinsurers. However, we might see capital
strengthening from medium and smaller-size reinsurers. Sound capitalisation is one of the key
2
People’s Bank of China
3
Swiss Re, Munich Re, Hannover Re, Score, Lloyd’s
In general, the most
profitable reinsurance
business is from the foreign-
owned primary insurers, and
in general Non-life is more
profitable than Life

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characteristics of a strong reinsurance industry. As evidence of this, from market sources it
has been highlighted that China Re is planning a USD 2Bn capital increase through an IPO
on the Hong Kong Stock Exchange. It is not clear whether this is directly related to the
reinsurance business and the new solvency calculation for the primary insurance business,
or as positioning for future business growth. Either way, we see this as a sign that the
industry’s capital is strengthening.
However, we anticipate that reinsurers’ capitalisation could be challenged if profitability
deteriorates due to high competition, softening of underwriting conditions and deteriorated
investment income, or an increased number of high-severity loses, while at the same time
rapidly expanding exposure.
4. OPPORTUNITIES AND CHALLENGES
There are four significant factors that going forward we believe will drive China’s reinsurance
market growth and development: a) high market growth, b) the opening up and modernising
of the regulatory regime, c) a niche for market and product development, and d) the ‘China
going out’ policy. However, these factors are a double-edged sword as they present both
significant opportunities and challenges for local and foreign market players.
a. High market growth: Both primary insurance and reinsurance premiums have shown
impressive historic growth and we expect this to continue in the next five years. With its
large economy, population and geographic spread, China presents attractive growth
opportunities.
We believe that the industry will not be significantly affected by the slowing down of the
economy because of favorable industry fundamentals and high support from the policy
makers. The insurance industry is one of the few strategic industries that still has high
growth potential and high impact on GDP and the wider economy, also because of its
role as an institutional investor. In addition, the industry is playing an increasingly
important social role, as defined by Central Government supporting economic
development and social stability.
That said, the entry barriers to the reinsurance market are high with strong competition,
and dominance by China Re, with well-established ties to the major players in the primary
insurance market. In addition, we observe that operating and distribution costs are also
high and the country lacks a pool of highly skilled technical and sales personnel due to
the young age of the industry.
Despite these challenges, the industry remains attractive for new entrants. In 2015 a
number of new domestic players entered the market: these include Qianhai Reinsurance
Company with registered capital of RMB 3Bn, and Asia Pacific Reinsurance, with
registered capital of RMB 10Bn. PICC has also announced plans to establish a
reinsurance company. Going forward, we expect to see more new domestic players and
mainland-registered foreign reinsurers.
b. Opening up and modernising regulatory regime: The Chinese insurance regulator
has been slowly opening up the domestic insurance and reinsurance markets in the last
decade. In 2015 we have observed an increase in the pace and reach of the implemented
reforms encouraging market developments and allowing easier and faster market access
for foreign players. We see one of the most important regulatory changes in the
implementation of C-ROSS in 2016. We don’t expect its implementation to significantly
challenge the main reinsurers operating in mainland China directly, as they hold sufficient
capital buffers by international standards. But, indirect impact via the primary market is
more difficult to assess at this stage.
Four factors should drive
China’s reinsurance market
growth and development: a)
high market growth, b) the
opening up and modernising
of the regulatory regime, c) a
niche for market and product
development, and d) the
‘China going out’ policy

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Under C-ROSS, primary insurers in addition to asset charges will face different capital
charges for different business lines (lower for motor, higher for property engineering,
etc.), and lower capital charges for placing reinsurance with reinsurers registered in
China. Because of this, we expect to see changes in the mix of reinsured business lines
and eventually more sophisticated reinsurance protection strategies.
We also expect to see an increased number of foreign reinsurers with registered
operations in mainland China, as this will provide a competitive advantage. In addition,
we expect that there could be an increase in the use of reinsurance as a capital relief.
This would be across the market but in particular for medium/small-size companies with
weaker capitalization, or companies with higher exposure to business lines with high
capital charges, such as property, agriculture, marine and cargo. Despite recent
improvements, regulations tend to change frequently, remain complex and are cost
intensive for market participants.
c. Role in market and product development: China’s insurance and reinsurance markets
are immature and would benefit from foreign expertise and help to accelerate market
development. We believe that foreign reinsurers have a big role to play due to their global
and regional expertise and experience in product development, relationship and risk
management. We see the greatest potential for those with specialty lines, related to
natural disasters, health, agriculture property and engineering.
The knowledge and expertise of alternative capital markets and issuance of natural
catastrophe bonds could help develop a new niche, and better manage climate change
and impact from natural disasters in China, which has significant exposure to
earthquakes, floods and other such perils. The relevance of this niche is demonstrated
by China Re issuing its first catastrophe bond in 2015, raising USD 50Mn. Although it is
very small compared with such issuances in the US and Europe, there is significant
potential for growth.
However, meaningful progress in product development and acceptance requires
improved consumer risk awareness, increased sophistication of the primary insurance
market, and improved risk management. In addition, foreign and domestic cooperation in
overcoming cultural differences and setting up transparent, mutually satisfactory and
equal working relationships is equally important and challenging.
The reinsurance industry has played an important role in the Chinese economy by
absorbing large claims, such as the fire at the SK Wuxi plant in 2013, and the agricultural
losses in Heilongjiang province in 2012. The involvement of the reinsurance industry in
covering losses from the recent explosion in the port city of Tianjin is not yet clear.
Industry experts estimate possible primary exposure of up to USD 1.5Bn. We expect that
as a result of this, awareness and attention to more thorough risk management and
insurance/reinsurance protection will increase. This could create new opportunities for
reinsurers through increased risk underwriting or similar services.
d. China going out: Chinese insurance companies are following the broad ‘China going
out’ policy and are actively looking for partners and opportunities abroad, whether it is
premium expansion and risk diversification in the global reinsurance market, or
cooperation and acquisitions of foreign insurers and reinsurance companies. For foreign
insurers and reinsurers this provides opportunities for business development, strategic
partnerships or change of ownership. For the domestic players it helps to build global
franchises, diversify, and also provides technical expertise and specialist knowledge.
Over time, as the knowledge and size of China’s companies grows, they are likely to
become prominent competitors in the global reinsurance market.
In addition, in accordance with China’s economic growth-oriented policy, the country is
investing huge amounts in large infrastructure development projects, which will require

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insurance & reinsurance facilities with high technical expertise and large capacity. For
example, following the One Belt, One Road initiative, China has invested a total of approx.
USD 7Bn in 48 counties in various projects, which will require insurance. These various
strategic initiatives are expected to continue and boost demand for insurance and
reinsurance.
Under the current regulation, the acquisitions of foreign insurers do not count as a foreign
investment (limited by CIRC to 15% of total assets), therefore it is attractive for local
players to invest and expand while maintaining flexibility for tactical investments. We have
observed a significant increase in Chinese interest and acquisitions of foreign insurers
and reinsurers. Below are some of the major acquisitions of re/insurance companies by
Chinese investors in 2014-15:
 Fosun Group acquired Bermuda-based specialty insurer Ironshore Inc, Portuguese
insurer, Caixa Seguros, and US-based Meadowbrook Insurance Group.
 Anbang Group acquired Dutch insurer Vivat, South Korean Tongyang Life
Insurance, and Belgium-based Fidea Assurance.
 China Minsheng Investment Corp acquired Bermuda-based reinsurer Sirius
International Insurance Group.
 Peak Reinsurance, the Hong Kong-based reinsurer backed by Fosun International,
reached agreements to acquire a 50% stake in Nagico Holdings Limited, a leading
Caribbean insurance group.
We believe that the trend in Chinese companies acquiring foreign insurers and reinsurers
will continue in the next few years. However, we expect acquisitions to be in mid-high
single digits rather than double digits for the time being. This is mainly because of the
limited number of large domestic players with global ambitions and readily available large
excess capital, and the higher solvency capital requirements under the C-ROSS
framework, the exact impact of which is yet to be seen.
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