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Greater Ratings Stability Is Ahead ForThe French Insurance Market, DespiteLingering Downside Risks

Primary Credit Analysts:

Gwenaelle Gibert, Paris (33) 1-4420-6693; [email protected]

Merryleas J Rousseau, Paris +33144206729; [email protected]

Secondary Contact:

Lotfi Elbarhdadi, Paris (33) 1-4420-6730; [email protected]

Research Contributors:

Rene Fuenfle, Paris (33) 144-207-323; [email protected]

Alice Peruzzotti, Paris (33) 1-4420-7321; [email protected]

Media Contact:

Michelle James, London +44 (0)20 7176 3274; [email protected]

Table Of Contents

Life Insurers Are Set To Emphasize Margin Preservation Amid Low Interest

Rates

P/C Insurers' Earnings Are Back On Track, But Could Suffer From

Competitiveness And Evolving Regulations

Related Criteria And Research

WWW.STANDARDANDPOORS.COM/RATINGSDIRECT NOVEMBER 12, 2013 1

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Greater Ratings Stability Is Ahead For The FrenchInsurance Market, Despite Lingering DownsideRisks

Standard & Poor's Rating Services believes that its ratings on the French insurance sector show prospects for greater

stability in the next two years than in 2011 and 2012. Low industry and country risk for both life and property/casualty

(P/C) in the French markets, which compares favorably with those in most other European markets, supports our view

about the sector's stability. It also shows good potential for stability in P/C underwriting earnings, underpinned by

good reserving, as well as in life insurance, due to the absence of high guaranteed rates and good earnings potential

from the non-savings business. In addition, the market boasts strong balance sheet liquidity, in our opinion.

Furthermore, capital adequacy has been improving with the pickup in earnings and in the investment markets over the

past year, which helped rebuild cushions relative to the ratings level.

The ratings on French insurers remain exposed to some downside risks, such as the sensitivity of capital adequacy to

investment market conditions, and a potential narrowing in earnings capacity due to stiff competition. Despite an

improvement during 2012, capital adequacy generally remains a ratings weakness and is subject to growing asset risks.

Furthermore, the market remains highly competitive, which is likely to constrain the potential for strong underwriting

margins, since interest rates remain low. Finally, a number of regulatory initiatives are likely to gradually reshape

investment practices, product offerings, and the competitive landscape for the life and P/C businesses, which could

weigh on earnings potential.

Overview

• The sector's ratings remain in the 'A' category (strong) on average, with the bulk of them carrying stable

outlooks.

• French insurers operate amid low industry and country risk, in our view, which provides good conditions for

the growth and stability of both the life and P/C markets.

• A flurry of regulatory changes is likely to alter the competitive landscape and change the way insurers invest

and the kinds of product they offer.

• Low interest rates are continuing to weigh on earnings and are testing the ability of insurers' to adapt crediting

policies and tailor new high-margin, low-risk products.

• In the mature P/C market, stable earnings amid low interest rates will depend on insurers' ability to strike a

balance between raising prices and safeguarding market share.

• The sector's capital adequacy is good and improving, but remains highly sensitive to investment markets.

We rate 15 French insurance groups, and a total of 36 rated entities (as of Nov. 12, 2013). Our scope of analysis covers

approximately 56% of the market's gross premiums written (GPW).

Despite a general downward trend over the past year, our ratings on French insurers remain in the 'A' category on

average, denoting what we deem as strong financial strength characteristics (see chart 1). Many ratings on the sector


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benefit from notches of uplift due to the support they receive from their large international parents.

Chart 1

As of the date of publication of this report, 73% of our ratings on French insurance entities carried stable outlooks (the

remainder carries negative outlooks) (see chart 2). In contrast, at the end of June 2012, when we last published our

report on the sector, stable outlooks represented only 32% of the total and 68% of the ratings had negative outlooks

and CreditWatch placements. The current distribution reflects our expectation of greater ratings stability over the next

two years.


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Greater Ratings Stability Is Ahead For The French Insurance Market, Despite Lingering Downside Risks

Chart 2

Since June 2012, we have raised the rating on one entity and lowered the rating on seven. In addition, we assigned five

new ratings and withdrew the ratings on two groups at their request (see tables 1 and 2).

Table 1

French Market Rating Actions, July 2012-November 2013

Group To From Date

(Rated entities

No.)

Caisse Centrale de Reassurance AA/Stable AA+/Negative Nov. 12, 2013 1

CGPA A-/Stable NR Nov. 8, 2013 1

Assurances Mutuelles de France A/Stable NR Nov. 7, 2013 1

MMA IARD S.A. A/Stable NR Nov. 7, 2013 1

Covea Risks A/Stable NR Nov. 7, 2013 1

Covea Fleet A/Stable NR Nov. 7, 2013 1

Generali France A-/Negative A/Negative July 12, 2013 2

La Mondiale BBB+/Stable BBB+/Negative June 6, 2013 1

MMA Assurances Mutuelles A/Stable A-/CreditWatch Developing April 26, 2013 1

La Societe Hospitaliere

d'Assurances Mutuelles

NR BBB/Negative April 4, 2013 1


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Table 1

French Market Rating Actions, July 2012-November 2013 (cont.)

Allianz France AA/Stable AA/Negative March 20,

2013

4

Euler Hermes AA-/Stable AA-/Negative March 20,

2013

1

Generali France A/Negative A/CreditWatch Negative Jan. 23, 2013 2

AXA France A+/Stable AA-/Negative Dec. 18, 2012 4

La Societe Hospitaliere

d'Assurances Mutuelles

BBB/Negative BBB/Stable Dec. 12, 2012 1

Groupama NR BB-/Negative Dec. 7, 2012 4

Chartis Europe NR A/Stable Dec. 6, 2012 1

AG2R BBB+/Stable A-/Negative Dec. 4, 2012 2

MMA Assurances Mutuelles A-/CreditWatch Developing A-/Stable Nov. 21, 2012 1

BNP Paribas Cardif A+/Negative AA-/Negative Oct. 25, 2012 3

April A-/Negative A-/Stable Sep. 24, 2012 1

Aviva France A+/Stable AA-/CreditWatch Negative Aug. 15,2012 2

La Mondiale BBB+/Negative A-/Negative Aug. 2, 2012 1

This list excludes public information or 'pi' ratings. NR--Not rated. Source: Standard & Poor's.

Table 2

Standard & Poor's Ratings On French Insurance Companies And Subsidiaries

Group

Insurer financial

strength rating Outlook

Entities rated

(No.) France-based rated entities

AG2R BBB+ Stable 2 AG2R Prévoyance, PRIMA*

Allianz France AA Stable 4 Allianz Vie, Allianz IARD, Allianz Global Corporate & Specialty*

(France), Allianz France (holding company; counterparty credit

rating A+/Stable/A-1)

Aviva France A+ Stable 2 Aviva Vie S.A.*, Aviva Assurances S.A.*

AXA France A+ Stable 4 AXA France Vie*, AXA France IARD*, AXA Corporate

Solutions Assurances*, AXA (holding company; counterparty

credit rating A-/Stable/A-2)

April A- Negative 1 Axéria Prévoyance

BNP Paribas Cardif A+ Negative 3 Cardif Assurance Vie*, Cardif-Assurances Risques Divers*, BNP

Paribas Cardif (holding company; counterparty credit rating:

A/Negative/--)

Caisse Centrale de

Reassurance

AA Stable 1 Caisse Centrale de Reassurance

CGPA A- Stable 1 CGPA

CNP Assurances A+ Negative 2 CNP Assurances , CNP Caution†

Euler Hermes AA- Stable 1 Euler Hermes SFAC

Generali France A- Negative 2 Generali Vie*, Generali IARD*

La Mondiale BBB+ Stable 1 La Mondiale

Covea A Stable 5 Assurances Mutuelles de France*, MMA Assurances

Mutuelles*, MMA IARD S.A.*, Covea Fleet*, Covea Risks*

Prévoir A- Stable 3 Prévoir Vie, Prévoir Risques Divers, Société Centrale Prévoir

(holding company; counterparty credit rating BBB/Stable)

SCOR A+ Stable 4 SCOR Global Life SE, SCOR Global P&C SE, SCOR SE,

Prévoyance Re†


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Table 2

Standard & Poor's Ratings On French Insurance Companies And Subsidiaries (cont.)

Note: This list excludes public information or 'pi' ratings. *Core group operating entity. †Guarantee provided by the parent. Source: Standard &

Poor's.

Life Insurers Are Set To Emphasize Margin Preservation Amid Low InterestRates

Industry and country risks are low for French life players, based on our insurance industry and country risk assessment

(IICRA) methodology. Our assessment means that the sector's overall dynamics are unlikely to negatively affect the

business profile of a well-established insurer, if it has diversified product lines. Factors weighing negatively on our

views about the sector are mostly related to the insurers' financial risk profiles and in particular to capital and earnings.

Among the factors putting a drag on earnings are low interest rates and intense competition that is squeezing

investment margins on savings products. These factors will continue, in our opinion, to test management's ability to

maintain good levels of earnings over the next few years.

Profit-sharing policies and product mix changes will likely drive our opinion about the business andfinancial profiles of life insurers

We believe that French insurers will continue to face a difficult trade-off between capturing volume and earnings

preservation. Since financial markets conditions worsened in 2008, credited rates have been steadily declining. Rates

credited to policyholders declined by 10-20 basis points (bps) in 2012 to about 3% on average, after a 20-30 bps

decrease in 2011 and a 30 bps decrease in 2010 (see table 3). We expect this downward trend to continue through

2015, mirroring investment declines in yields. The recent pickup in equity markets might encourage some insurers to

refrain from lowering their credited rates further. An aggressive crediting policy is likely to safeguard volumes in the

short term, but hamper margins in the long run, in our opinion, which could further weaken earnings potential.

Table 3

French Life Insurers' Competitive Position, Selected Indicators

For the 20 largest French life insurers, excluding reinsurers

(Bil. €) 2008 2009 2010 2011 2012

Gross premium written (GPW) 109,315 128,762* 127,627 112,557 108,245

Total life provisions 772,827 870,428* 881,091 944,022 959,110

Unit-linked reserves (% of life and savings reserves) 16.2 16.9 17.4 14.7 16.2

Outflows on average reserves (%, including lapses, death, and

contractual maturities)

8.0 8.5 8.0 9.0 9.2

Credited amounts on average reserves (%, guaranteed

contracts)

3.9 3.7 3.4 3.1 3.0

Net inflows (% reserves) 2.5 4.3 4.2 2.2 -0.2

*2009 data reflects the restatement of accounts of one large player. Source: Standard & Poor's.


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Chart 3

Life insurance has a leading role as a savings vehicle, and long-term growth prospects remain strongin light of growing pension needs

We view the long-term growth prospects of the market as strong, particularly because life insurance in France is

largely a savings vehicle that has many roles, from medium-term savings product, to pension instrument, and to a

wealth management tool. In addition, tax advantages, though gradually declining, continue to give insurance an edge

over other forms of savings. As a result, saving contracts in France comprise 76% of life reserves compared with only

8% in the U.K. and 20% in Switzerland. The large savings feature of French products often exposes life insurance to

competition from other forms of savings, such as bank savings accounts and "Livret A." Nevertheless, the low interest

rate on short-term savings accounts (currently 1.25%) currently lessens their competitive power.

Life players could face sizable lapse risk, particularly in a stress scenario of sharply rising interest rates, which could

exacerbate competition with short-term savings vehicles. However, our base case assumptions call for only a marginal

increase in lapse rates over the next two years. Lapses (including surrenders, maturities and death benefits) in 2012

remained in line with 2011 levels at 8.5% (versus 6.9% in 2010). They are most likely to increase as a result of greater

numbers of policyholders retiring and cashing out their contracts, a possibility we see in the high share of old policies

in insurers' portfolios. We expect an increase in lapse rates in 2013-2015 to remain limited to up to 1 percentage point

per year from last year's levels.


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Protection and health products are likely to gain in importance

Insurers are taking on a growing role as a provider of health and protection covers, in light of the declining state share

in such coverage (see chart 4). If adequately priced, the protection business generally can offer an alternative profit

sources amid low interest rates. However, French group term life, creditor term, and disability are facing stiff

competition by traditional players, bancassurers, protection institutions ("Institutions de Prévoyance"), and mutuals.

Furthermore, a change in French profit-sharing regulation has reduced the prospects for high margins on such product

lines, while the extension of the legal age of retirement further calls into question the profitability of group protection.

New French regulation (the "Accord National Interprofessionnel"), is not only likely to create growth opportunities, but

also increase competition and potentially lead to market consolidation.

Chart 4

The sector is facing many regulatory and tax changes

The taxation of life contracts has been steadily increasing over the past few years, but these products still have tax

advantages over other savings products. We expect in our base case assumptions that further reductions in tax

incentives relating to life policies will remain gradual over time.

Other noticeable regulatory changes have resulted from the government's aim for insurers to orient life insurance

inflows more toward investment in private-sector enterprises through equity stakes and lending, given that banks are


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reducing their lending, and the high cost of funding for small and midsize enterprises (SMEs). "Euro-Croissance" is an

example of future products that life insurers are developing in response to these regulatory changes, in order to favor

further investment in risky assets. In addition, since August 2013, insurers have been allowed by the regulator to invest

up to 5% of their investments in loan funds, in another measure to encourage SME funding. We expect the impact of

these measures to pose opportunities--and risks--to the sector. Investing in loans could help insurers turn around their

investment yields but would, if the amount of loans becomes material, weigh on liquidity and potentially risk-based

capital. On the other hand, Euro-Croissance would present higher risks for policyholders than traditional savings

products. Nevertheless, it would still expose the insurers to credit and volatility risks after eight years of contract.

All in all, we currently do not foresee any widespread ratings impact from these tax and regulatory measures. We

nevertheless view them among the main areas we will be monitoring in the sector, as insurers adapt their investment

and product offering to these changes.

P/C Insurers' Earnings Are Back On Track, But Could Suffer FromCompetitiveness And Evolving Regulations

We consider that French P/C players face low industry and country risks (as our IICRA indicates). This means that the

dynamics of the French P/C sector are unlikely to negatively affect the business profile of a well-established and

diversified P/C insurer. We observe that restored earnings followed more disciplined underwriting over the past three

years, continuously adequate reserving practices, and cost control efforts (see table 4). However, we believe that P/C

insurers will face a number of challenges over the next two years, including changes in regulation, continued low

yields, and unrelenting competition in several business lines, stoked by the increasingly visible presence of

bancassurers, and a defensive stance by mutuals and traditional players.

Table 4

French P/C Insurers' Competitive Position, Selected Indicators

For the 20 largest P/C French insurers, excluding reinsurers

(Bil. €) 2008 2009 2010 2011 2012

Return on equity (%) 8.7 7.6 8.1 5 7.8

GPW 44.8 45 46 47.9 49.4

Change in GPW (%) 2.5 0.4 2.2 4.1 3.1

Net combed ratio (%) 99.6 104.5 103.4 99.3 99.2

Net loss ratio (%) 76.1 80 79.6 75.8 75.8

Net expense ratio (%) 23.5 24.5 23.8 23.5 23.4

Gross loss reserves/GPW (%) 145 149 148 148 154

GPW--Gross premiums written. Source: Standard & Poor's.

We expect the sector's overall net combined ratio to remain lower than 100% in 2013 (see chart 5). We view a

potential for increase, however, in 2014 and 2015, to up to the 100%-102% range. We believe that the sector has

benefitted from price increases over the past three years. However, underwriting results in recent years also benefitted

from what we believe are shorter-term factors, such as lower claims frequency in motor, and the absence of

catastrophe claims. The market recorded two consecutive years of positive underwriting results in 2011 and 2012, with


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combined ratios averaging 99%, following two years of underwriting losses when the combined ratio was between

103% and 104%.

Chart 5

The sector's broad diversification by business line is a positive for underwriting earnings. In particular, lower claims

frequencies in motor mitigated growing frequencies in personal property. Furthermore, the overall growth of

commercial lines in 2012 overshadowed sharp declines in specific lines such as transport and construction, which

suffered more from the economic downturn. Consequently, we believe that insurers will continue differentiating price

increases by business line. Accordingly, lines such as personal property, where the combined ratio remains in excess of

100%, should continue seeing higher-than-average price increases.

The sector features sound P/C reserving, which underpins our view regarding operating performance. The ratio of

gross claims reserves to GPW stood at 154% in 2012. Nevertheless, reserving ratios vary widely among players.

Traditional players and mutual companies show the highest reserving ratios, while bancassurers appear to have lower

ratios. That's partly because bancassurers have less of a track record in writing long-tail lines, in our view.

Finally, we expect low interest rates to continue encouraging price discipline in the next two years. We expect

investment yields for P/C insurers to remain subdued over the same period following the declines witnessed over the


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past five years (2.2% in 2012 versus 4% in 2008).

P/C players are also facing important regulatory and tax changes

The French P/C sector is also bracing for a number of regulatory changes, which are likely to test its profitability and

could result in even stiffer competition:

• For bodily injury annuity claims starting in January 2013, insurers will directly pay for the costs arising from annuity

indexation, instead of a state fund.

• The possibility for policyholders to terminate, without any penalty or cost, their motor and property contracts at any

time (previously only at anniversary) after the first renewal date ("loi Hamon").

• An increase in the value-added tax to 10% from 7% on property renovation and construction, from Jan. 1, 2014.

We do not foresee immediate implications for the ratings from these changes, but we believe their potential effect on

profitability could vary in significance, depending on the degree of diversification of each player. Annuity indexation

could have a relatively large impact on the small players where motor represents the bulk of the portfolio. For the

sector as a whole, we estimate the overall hit to the combined ratio at 0.3 to 0.5 of a percentage point, which we

believe most players can absorb through price increases. However, small motor insurance players could incur

relatively higher costs. In such a highly competitive market, players applying higher-than-average price increases run

the risk of weakening market shares, which could ultimately foster the consolidation of small players.

The ability of policyholders to terminate contracts at any time instead of at anniversary could increase competitiveness

among players. We expect bancassurers and direct players to take advantage of this change to attract new clients. As a

result, players such as mutual and traditional players will likely develop defensive strategies to ward off a loss of

contracts. Insurers are also likely to further emphasize expense management, and enhance specialization of

distribution networks, to retain their competitiveness in personal lines.

Mutuals and tied agents remain the main distribution vehicles, but market dynamics are evolving

Although tied-agent networks and mutual insurers collect the bulk of P/C premiums, bancassurers continue to gain

market share. To counter such growth, the traditional players have developed direct insurance subsidiaries--such as

Avanssur (whose parent is AXA), Amaguiz (Groupama), and Eurofil (Aviva)--and are targeting different and new client

segments through them. Nevertheless, bancassurers should continue to benefit from the strong distribution power of

their parents. Consequently, the next two years are likely to witness continuing competition, which in turn could

further test underwriting discipline.

Capital adequacy is good overall, but remains vulnerable to investment market movements

Capital adequacy for the players we rate improved in the past year and we view it overall as adequate (that is, on

average, consistent with the 'BBB' assessment category, based on our risk-based capital adequacy criteria). For rated

insurers over the past year, we saw approximately 20% growth in our measure of capital, total adjusted capital or TAC.

However, at the same time, risk-based capital charges grew because of increased market and credit risks, which

contained the gain in capital adequacy. Credit risk and market risk combined accounted for 64% of total risk-based

capital charges at year-end 2012 (versus 63% in 2011). Furthermore, TAC sensitivity remains high in our view owing to

its general reliance on unrealized gains and the present value of future profits (see chart 6).


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Chart 6

A higher, but still sensitive, capital base

We believe that exposure to credit risk, whose share in risk-based capital increased by 2.4 percentage points in 2012, is

likely to increase further for French insurers. This is a reflection of rating downgrades in 2012, particularly on

sovereigns. Insurers seeking yield amid low interest rates, at the expense of higher-rated instruments, has also likely

played a role in rising credit risk. If the number of downgrades increases, which is not among our base case scenario

assumptions, the resulting rise in the cost of credit risk in capital could lead us to revise our opinions about capital

adequacy, and possibly lower the ratings for players showing low excess capital. More particularly, lower sovereign

ratings on the periphery of the eurozone could hurt the sector's capital and earnings. We estimate the exposure to such

assets at almost 6% of French insurers' technical provisions, although down from 2011.

Our assessment is that asset-liability management (ALM) risks are manageable overall. We estimate an average

duration gap across the sector of 1-2 years at the end of 2012. Furthermore, we do not expect ALM risks to weigh

further on capital, because insurers are seeking to further narrow their duration gaps ahead of Solvency II. Exposure to

equities represents 10% of investments on average (see chart 7). With the stock markets picking up, this exposure has

recently led to an increase in unrealized gains and better capital adequacy positions. However, this exposure remains

one of the most significant drains on capital owing to the capital consumption it incurs.


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Chart 7

Insurers are also exploring new asset classes, such as unsecured loans. We saw a number of insurers increasing or

intending to increase their asset allocations to corporate and infrastructure debt in 2012 and the first half of 2013. We

expect this asset class to become significant only for large players, but remain lower than 2%-3% of investments

through 2014. Small insurers will likely continue to prefer liquid, easily tradable investments. At these levels of

exposure, we do not expect this class to weigh materially on insurers' capital adequacy.

Earnings retention is likely to help insurers maintain capital adequacy in the adequate category. According to our base

case assumptions, however, we believe that it is unlikely that retained earnings alone would boost capital adequacy to

levels we consider as strong (consistent with the 'A' assessment category). In our view, a long-term improvement

would likely arise from the combination of improving investment markets, stronger underwriting profitability, and

management actions favoring bigger capital cushions, such as higher earnings retention, and contained credit and

market risks (see chart 8).


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Chart 8

Regulatory uncertainties are weighing on capital management

Uncertainty regarding future rules for capital adequacy is not helping French insurers develop effective capital

management strategies, in our view.

EIOPA's recent publication of recommendations for long-term guarantees brings implementation of Solvency II one

step closer, but there are still many hurdles to overcome. Furthermore, insurers might not have much time to adjust

before the rules take effect, which is now set for Jan. 1, 2016.

The new designation of Global Systematically Important Insurer (G-SII)--as determined by the global Financial

Stability Board--brings a further level of regulation to a number of players in the French market, including AXA,

Allianz, Aviva, and Generali. On the bank side, BNP Paribas, Groupe Crédit Agricole, HSBC, and Société Générale

have received the designation of Global Systematically Important Bank (G-SIB). Such designations mean that this new

level of regulation is likely to have an impact directly or indirectly on approximately 48% of the French life market and

35% of the P/C market.

Finally, Basel III regulation is likely to result in changes to the capital structures of French bancassurers, as banks'

capital management needs are likely to shape those of their bancassurance subsidiaries. This could lead to a lower

equity component in bancassurers' capital, with a higher share of hybrids and other forms of capital. One of the


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possible consequences of such capital policies could lead to greater room for competition from bancassurers in the

market.

Related Criteria And Research

• Insurance Industry And Country Risk Assessment: Property/Casualty Insurers Face Low Risk In France, Nov. 7,

2013

• Insurance Industry And Country Risk Assessment: Low Risk For France's Life Insurance Sector, Nov. 7, 2013

• Insurers: Rating Methodology, May 7, 2013

• Group Rating Methodology, May 7, 2013

• Methodology For Linking Short-Term And Long-Term Ratings For Corporate, Insurance, And Sovereign Issuers,

May 7, 2013

• Principles Of Credit Ratings, Feb. 16, 2011

Additional Contact:

Insurance Ratings Europe; [email protected]


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