The Irish Central Bank produces annual reports on different sectors of the insurance industry. While the data is published with a considerable lag – the latest numbers are for 2022 – it is useful to illustrate what the price of an insurance policy pays for.

Looking first at the highly competitive car insurance sector, we can see that there were €1.3bn in premiums earned by the sector in Ireland in 2022. Of that, €700m, around 55%, was paid out in claims. The balance of the premium amount was made up of expenses, commission, MIBI payments and reinsurance costs. Taking those expenses off left a profit of €157m – when investment income is included.

In the employers’ liability, public liability and commercial property insurance sector, which includes insurance written for farmers, the cash from insurance premiums was €1.2bn in 2022. There was €464m paid out in claims, equal to around 38% of premiums. This sector saw higher reinsurance expenses (reinsurance is where an insurer can offload some risk to another insurance company for a fee) and higher commission costs. There was still room left for a profit of €174m, including investment income.

In fact, the reports from the Central Bank show that profitability in the insurance sector has significantly increased over the last few years (see Figure 1).

Investment returns

On the previous page, we looked at the measures that have been taken to reduce costs to insurers from high claims and legal fees. This has clearly saved the industry money. There is another factor currently running in favour of the industry and that is the returns that can be made on investments.

By their nature, insurance companies tend to have large amounts of money which has to be kept in order to meet possible future risks. Regulators have minimum amounts of money insurers have to hold to make sure they meet future expenses. The main measure used is called the Solvency Capital Requirement (SCR).

The Solvency Capital Requirement under EU legislation states that insurers have to hold enough funds to have 99.5% confidence that the company could survive the most extreme expected losses over the course of a year. Every year the Irish Central Bank, as regulator, publishes data on each insurance company licensed to operate in the country showing the company’s assets and how much money is needed to kept aside to meet the SCR.

In reality, most insurers try to hold an SCR that is significantly higher than the threshold. FBD Insurance, for example, ended 2023 with an SCR equal to around 213% of the target level. This means that insurers have a lot of money to invest. At the end of 2023, FBD held €575m of corporate bonds, €281m of Government bonds and €161m in shares. Therefore, the movement in the value of these asset classes will have a real effect on the profitability of insurers, and by extension, on the price that the ordinary policy-holder has to pay to get insured.

If an insurer suffers significant losses on their asset portfolio, then they will have to charge more to their customers to make up the losses. As most insurers have relatively similar investment profiles, we can look at how financial markets are performing to get an idea of how these companies are performing on their investments.

Looking at Figure 2, we can see that the value of corporate bonds in general performed quite badly in 2022, before picking up again last year. In equities, there was also a good performance last year.

The drop in the value of corporate bonds was directly caused by the rapid rise in Central Bank interest rates during that year, and into early 2023. For years Central Bank interest rates were close to zero, so investors were willing to take lower interest rates from companies who borrowed in investment markets.

For example, a bond could be issued by a large company which paid interest rates at 3%. However, when Central Bank interest rates rose higher than that, the investors wanted better returns to purchase a corporate bond. A company that used to be able to pay 3%, would now have to pay 7% for its bonds.

This also has an effect on the value of bonds which are already trading in the market. If a company issued a five-year bond worth €1m, paying 3% in 2020, then that same bond may only be worth €900,000 at the end of 2022. This loss of value means that an investor buying it would be able to achieve the required 7% return over the lifetime of the bond, as it would still pay €30,000 every year, and they would get an extra €100,000 when the bond matures, as it would pay back at €1m.

In fact, again using FBD as an example here, we see that the insurer wrote down the value of its €590m corporate bond portfolio by almost €58m in 2022.

In 2023, expectations rose that central banks would start cutting rates, and so the opposite happened. Investors required lower returns, and so the value of corporate bonds could rise again – as we see in the chart. In 2023, FBD increased the value of its corporate bond portfolio by €27m.

In 2023, FBD paid an extra dividend to shareholders of €1/share, bringing total payments to shareholders for the year to €72m. CEO Tomás Ó Midheach stated that he would like to see that SCR closer to 175%, so there is an expectation that the insurer may return more capital to shareholders over the coming years.

For the ordinary policy holder on the street (or in the field), this may all sound very complicated, but the upshot of it all is that insurers operating in Ireland have had good investment returns lately and the regulatory environment for claims means that their costs there should be falling, both of which should improve their bottom line. Which also means that they should have more room to further reduce premiums from here without risking falling foul of any regulatory limits.