Key developments

• Pages: 10-18

1. KEY DEVELOPMENTS

Growing t rade tensio ns, political uncertaint y around Bre xit

and concerns over debt sustainability have led to a slow-

down in eco nomic growth in Europe. Inf‌lation in both the

Eurozone and th e EU remains subdued, while central banks

have become more cautious on rolling back non-conven-

tional monet ary policy stimulus in Euro pe and have put in-

terest r ate increases on hold until at least mid 2020.

Despite asho rt increase in volatility toward the end of 2018,

f‌inancial markets have recovered in the beginning of 2019

and valuations remain st retched in cert ain equity, bond and

real estate markets, indicating that market prices may not

fully ref‌lect underlying vulnerabilities. The r isk of a sudden

reassessment of risk premia therefore remains high, re-

f‌lecting po litical risks and debt concer ns in some European

countrie s, which could be exace rbated and reinfor ced during

aperiod of economic slowdown. Sharply increasing yields

could cause immediate losses in f‌ixed-income investment

port folios of insurer s and pension funds, with the overall bal-

ance sheet imp act depending on t he type of pr oducts and

the interac tion between r ising bond spre ads, risk-free rates

and po tential higher t han expecte d lapses. A sudden re pric-

ing of risk could also trigger furt her ‘f‌light to quality’ invest-

ment be haviour, putting additional p ressure on insurers and

pension funds in aected countries, while ahigh degree o f

interconnectedness could lead to spillovers from the bank-

ing sector. On the other hand, the prolonged low level of

interest r ates continues to pose signif‌icant challenges for life

insurers and pension funds, making it increasingly dicult

to generat e sucient investment returns to me et their lo ng-

term f‌inancial obligations . This could trigge r furt her p otential

search for yie ld behaviour by insurer s and pensions funds.

Equity markets have recovered afte r acorrectio n in the US

stock market in December, amid concerns of aglobal eco-

nomic slowdown. Despite increasing volatility and political

uncertainty, the overall impact of recent f‌inancial market

develo pments on European insur ers and p ension funds ha s

so far been limited. While the par tial correction in equity

prices and limited impact on the f‌inancial system is p ositive

from a f‌inancial stability perspective, the risk o f asudden

repricing cannot be ruled o ut.

Further more, climate-re lated risks co ntinue to deman d su-

pervisory attention, in particular for insurers. Climate-re-

lated losse s were again elevated by historical stand ards in

2018 and ext reme weather e vents are exp ected to b ecome

more frequent and severe due to climate change, putting

signif‌icant pressure on non-life insurers. Transition risks

could also signif‌icantly aect the investment portfolio of

life insurers and pension funds in case of adisorder ly transi-

tion to alo w-carbon econo my. In response to this, some in-

surers have be come more active in sustainable f‌inance, in-

creasingly taking actions against ‘brown’ industries in th eir

investment and underwriting strategies. Investments by

insurers in green bond s amounted to the highest amounts

ever recorded in 2018. A rapid increase in green bond is-

suance can also be observed re cently. However, challenges

in monitoring and mitigating climate-related risks in both

underwrit ing and investment act ivities still remain.

Finally, cyber threats have become more p rominent, mak-

ing insurers not only increasingly susceptible to cyber at-

tacks themselves, but also to potential ‘silent’ cyber risk

exposures in their underwr iting portfolios . Silent cyber ex-

posures r efers to instance s where cyber coverage is neith er

explicitly included nor excluded within an insurance p olicy.

The industry is moving towards actions to mitigate such

risks, but cor rectly pr icing and assessing expo sures to cyb er

risk remains challenging.

1.1. MARKET RISKS

The economic slowdown in the euro area and in the EU

in the second half of 2018 was more pronounced than

expected, amid increasing global and domestic uncer-

tainties. GDP growt h in 2018 was 1.8% and 1.9% in the euro

area and in the EU respectively, against a forecast of 2.1%

for both regions (Figure 1.1) This outcom e ref‌lects aweaker

global trade growth involving fur ther tensions be tween the

US and China, elevate d political uncer tainties (Figure 1 .2) as

well as other domestic factors , such as bottlenecks in t he

car industr y. The backdrop is also ref‌lected in the European

Commission’s Economic Sentiment Indicator (ESI), which

has been de creasing in recent mont hs (Figure 1.3).

Although projections show that the European e conomy is

expecte d to grow fo r the seventh year in arow in 2019 , the

pace of gro wth is slowing down comp ared to recent years.

The econo mic growth forecast s have been re vised down in

EUROPEAN INSURANCE AND OCCUPATIONAL PENSIONS AUTHORITY

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