G01 Financial Crises (Updated!)
Refine
Year of publication
Document Type
- Working Paper (15)
Language
- English (15)
Has Fulltext
- yes (15)
Is part of the Bibliography
- no (15)
Keywords
- Financial Stability (3)
- Systemic Risk (3)
- Financial Crisis (2)
- Insurance (2)
- Systematic Risk (2)
- credit risk (2)
- interest rate risk (2)
- life insurance (2)
- Amplification (1)
- Ansteckungsperiode (1)
Between 2016 and 2022, life insurers in several European countries experienced negative longterm interest rates, which put pressure on their business models. The aim of this paper is to empirically investigate the impact of negative interest rates on the stock performance of life insurers. To measure the sensitivities, I estimate the level, slope, and curvature of the yield curve using the Nelson-Siegel model and empirical proxies. Panel regressions show that the effect of changes in the level is up to three times greater in a negative interest rate environment than in a positive one. Thus, a 1ppt decline in long-term interest rates reduces the stock returns of European life insurers by up to 10ppt when interest rates are below 0%. I also show that the relationship between the level and the sensitivity to interest rates is convex, and that life insurers benefit from rising interest rates across all maturity types.
The loan impairment rules recently introduced by IFRS 9 require banks to estimate their future credit losses by using forward-looking information. We use supervisory loan-level data from Germany to investigate how banks apply their reporting discretion and adjust their lending upon the announcement of the new rules. Our identification strategy exploits a cut-off for the level of provisions at the investment grade threshold based on banks’ internal rating of a borrower. We find that banks required to adopt the new rules assign better internal ratings to exactly the same borrowers compared to banks that do not apply IFRS 9 around this cut-off. This pattern is consistent with a strategic use of the increased reporting discretion that is inherent to rules requiring forward-looking loss estimation. At the same time, banks also reduce their lending exposure to exactly those borrowers at the highest risk of experiencing a rating downgrade below the cutoff. These loans would be associated with additional provisions in future periods, both in the intensive and extensive margin. The lending change thus mitigates some of the negative effects of increased reporting opportunism on banks’ crisis resilience. However, when these firms with internal ratings around the investment grade cut-off obtain less external funding through banks, the introduction of IFRS 9 will likely also be associated with real economic effects
In times of crisis, insurance companies may invest into riskier assets to benefit from expected price recoveries. Using daily stock market data for 34 European insurers, I investigate how a stock market contraction, as experienced during the Covid-19 pandemic, affects insurers’ decision on the allocation of their corporate bond portfolio. I find that insurers shift their portfolio holdings pro-cyclically towards lower credit risk assets in the first month of the market contraction. As the crisis progresses, I find evidence for counter-cyclical investment behavior by insurers, which can neither be explained by credit rating downgrades of held bonds nor by hedging with CDS derivatives. The observed counter-cyclical investment behavior of insurers could be beneficial for the financial system in attenuating price declines, but excessive risk-taking by insurance companies over longer periods can also reinforce stress in the system.
In crisis times, insurance companies might feel the pressure to present an investment portfolio performance that is superior to the market, since investment portfolios back the claims of policyholders and serve as a signal for the claims’ safety. I investigate how a stock market crisis as experienced over the course of the Covid-19 pandemic influences insurance firms’ decisions on the allocation of their corporate bond portfolio. I find that insurers shift their portfolio holdings towards lower credit risk assets as financial market conditions tighten. This tendency seems to be restricted by the liquidity risk of high-yield assets, and the credit risk of lower-rated investment grade assets. Both effects lead to an increase in the fraction of less liquid assets during the crash and the recovery.
This paper investigates systemic risk in the insurance industry. We first analyze the systemic contribution of the insurance industry vis-à-vis other industries by applying 3 measures, namely the linear Granger causality test, conditional value at risk and marginal expected shortfall, on 3 groups, namely banks, insurers and non-financial companies listed in Europe over the last 14 years. We then analyze the determinants of the systemic risk contribution within the insurance industry by using balance sheet level data in a broader sample. Our evidence suggests that i) the insurance industry shows a persistent systemic relevance over time and plays a subordinate role in causing systemic risk compared to banks, and that ii) within the industry, those insurers which engage more in non-insurance-related activities tend to pose more systemic risk. In addition, we are among the first to provide empirical evidence on the role of diversification as potential determinant of systemic risk in the insurance industry. Finally, we confirm that size is also a significant driver of systemic risk, whereas price-to-book ratio and leverage display counterintuitive results.