Jefferies warns of cyclical downturns in life insurance sector; downgrades SBI Life

Mumbai: India’s life insurance sector, which this year has seen higher profits and business expansion by selling products that promise competitive guaranteed returns, could face reversals once the rate cycle begins to head north, making bank deposits relatively more attractive to savers.

Global brokerage Jefferies, which sounded cautious on the sector, also highlighted high valuations and downside margin risks for private life insurers. It downgraded SBI Life to ‘Underperform’, while maintaining an underperform on HDFC Life and ICICI Prudential stocks.

“Growth in the savings business is cyclical, and quick changes in product strategies (for HDFC Life and SBI Life) weaken channel stability,” Jefferies said.

Positive investment sentiment in the market for life insurers in the current fiscal has helped drive stocks by more than 50%. The gains have been aided by healthy margin expansion from an increasing mix of return guarantee products, it said.

SBI Life, HDFC Life and ICICI Prudential have seen their market caps rally 61%, 50%, and 40%, respectively, in the first eight months of the ongoing fiscal year. In the same period, the savings business for these companies has grown a combined 13.3 percentage points. However, once the interest cycles reverse, these companies may find it hard to maintain the margins.

“We believe that the sharp increase in this segment is an opportunistic play by life insurers at a time when bank deposit rates are low. Net returns offered to policyholders are ~4.0-5.5% in return guarantees and even less in annuities,” as per the report. “Thus, their attractiveness versus bank deposits is cyclical and may not sustain when rate cycle reverses.”

A guaranteed return product is an insurance on savings that promises a predetermined return on investment once the policy matures. In a period of negative interest rate cycle, these products have become popular low-risk investments.

The Value of New Business (VNB), a metric used to gauge the value of profits emerging from new businesses, rose by nearly 40% annually between FY17 and FY19. Jefferies forecasts these margins to significantly taper in the next five years even in the best-case scenario. “Even in the most optimistic Blue-Sky scenario, we expect ~20-25% VNB CAGR over FY19-25E, versus ~30-40% CAGR over FY17-19,” it said.


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