UK life sector conduct risks prompt negative outlook from Fitch

Fitch Ratings has issued a negative sector outlook for the UK life sector after concluding that mis-selling provisions booked by three firms demonstrated how regulatory scrutiny of historical conduct remains a threat to profitability.

Fitch says that, while high levels of capitalisation across the market should allow UK insurers to absorb compensation costs and fines without any major effect on their credit profiles, significant negative press coverage of future findings could lead to reputational damage and the risk of loss of business for affected insurers.

Once implemented, recent Financial Conduct Authority (FCA) proposals designed to establish an annuity comparator tool and increase the information provided to customers is expected to reduce insurers’ exposure to annuity mis-selling investigations.

However, Fitch says the regulator is likely to increase its focus on other business areas, such as the level of fees charged on savings products.

It’s noted that, in their 2016 annual results, Prudential and Standard Life announced provisions of £175 million related to the potential mis-selling of annuities.

This followed an FCA investigation into whether customers purchasing standard annuities were given sufficient information about their potential eligibility for an enhanced annuity.

Similarly, Phoenix announced a £25 million provision covering both the annuity sales review and another FCA thematic review into the fees charged to long-standing customers in the life insurance sector, affecting Abbey Life business acquired from Deutsche Bank.

Old Mutual meanwhile has also stated that it is working with the FCA on its review of the treatment of long-standing customers. However, Fitch says it has not made any explicit provision for any related costs.

The impact is reported to vary significantly across the affected companies, being more costly for Standard Life where the provision represents 24% of 2016 operating profits, compared to 4% for Prudential and 7% for Phoenix.

However, the impact on capital is seen as limited, with provisions being around 3% of Solvency II own funds for Standard Life and less than 1% for Prudential and Phoenix.

Moreover, both Prudential and Standard Life have indicated that they may ultimately be able to recoup some of the costs from reinsurance recoveries and Phoenix has stated that it has an indemnity agreement with Deutsche Bank, which will reportedly cover up to £175 million of costs related to the FCA’s review.

Fitch believes these arrangements could significantly reduce the ultimate financial impact on the firms.

Analysts previously estimated that compensation costs across the UK life insurance industry as a result of the annuity sales review could be in the region of £500 million. Given the reported provisions, it’s believed this estimate remains appropriate.

While the FCA has not made public a list of the companies that it has instructed to investigate potential mis-selling of annuities, Fitch says the absence of disclosures by other major UK life insurers in their 2016 results suggests any impact of the review on other firms may be small.

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