Refocusing on protection
For insurance companies, the margins for
protection products, such as life and health
insurance, are much higher and more sustainable
than the margins for savings products
(see Fig. 3).
This is because protection products require less
capital and insurers only need to cover insurance
risks. In doing so, all investment gains will flow
to the insurer’s shareholder fund, rather than to
policyholders.
Shifting to protection products, thus, can
improve the industry’s profitability and solvency.
The challenge is that protection products are
difficult to sell in a culture where policyholders
thirst for a guaranteed return that savings
products offer.
Since the regulatory changes, the solvency and
the long-term outlook of China’s insurance sector
have improved. Moody’s reported that the sector had a solvency ratio of more than 200% at the
end of 2017, which is more than double the
regulator’s requirement11.
Life insurers, in particular, have benefited
most; their core solvency ratio stood at 214%, up
significantly from 204% in the previous year.
Traditional insurers – which have more exposure
to protection-based insurance – are gradually
regaining the market share, which they had lost to
the ‘platform insurers’ between 2013 and 2016
(see Fig. 4).
All these developments lead us to believe that
the tighter regulations are beneficial. They should
help alleviate the competition among insurers to
fight for premium growth, and more importantly,
maintain a favourable landscape for the life
insurance sector.
This apparently positive regulatory revamp,
coupled with the booming demand for
insurance protection, should be positive for
insurance companies.
An underappreciated opportunity
Shares of the traditional Chinese insurers, however,
have fallen sharply following the lower premium
growth mostly stemming from the lower-margin
policies. In 2018, major Chinese insurance shares
(H-shares)13 lost 26.4% on average, lagging the
broader MSCI China index, which fell by 18.9%14.
The underperformance saw the price-toembedded
value15 (P/EV) of these traditional
Chinese insurers fall to an extremely attractive
valuation level by the end of 2018, down more
than one standard deviation below their five-year
average (see Fig. 5).
Although not as cheap as they were at last
December’s low, their market valuations remain
within an ‘attractive’ range.
In contrast to some of their Asian peers,
Chinese insurers are generally trading at a discount
to their embedded value, leaving a bigger margin
of safety for investors.
Together with the 13.9% of return-onembedded
value (ROEV) for 201917, the current
discount to EV also suggests that investors have
yet to recognise the potential contribution of the
higher-margin new businesses18 arising from the
restoration of market share.
Valuations aside, insurance companies are
typically more isolated from the China’s counter-cyclical
policies.
Therefore, the industry appears to be a more
direct beneficiary of the country’s demographics.