RPT-Fitch Affirms QBE Lenders' Mortgage Insurance at 'AA-'/Stable

Thu Jul 17, 2014 3:08am EDT

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July 17 (Reuters) - (The following statement was released by the rating agency)

Fitch Ratings has affirmed Australia-based QBE Lenders' Mortgage Insurance Limited's (QBELMI) Insurer Financial Strength (IFS) rating at 'AA-'. The Outlook is Stable.

KEY RATING DRIVERS

The affirmation of QBELMI's rating and Stable Outlook reflect the company's robust standalone credit profile, which is characterised by solid capital ratios, a major position in a market with high barriers to entry, a historically strong operating performance and conservative risk approach. The higher standalone rating compared to the main subsidiaries of its ultimate parent QBE Insurance Group (QBE; main subsidiaries' IFS 'A+'/Negative) is achieved due to the strength of the regulatory ring-fencing around QBELMI and limited financial reliance on the group as a whole.

The company is the second largest LMI by premium volume in Australia, and only one of two independent LMIs operating in the sector. In a tightly regulated environment, characterised by strong customer relationships that change infrequently, barriers to entry are high which Fitch believes will help underpin the company's competitive position and future profitability.

Capital ratios are solid and coverage of the regulatory prescribed capital amount (PCA) was 1.34x at end-2013 (end-2012: 1.20x). This has declined from a post-acquisition high of 1.65x (calculated under the old prudential capital standard) at end-2009 although, because of high regulatory PCAs, it remains at a level that Fitch considers consistent with a 'AA' rating category and sufficient to withstand a range of severe economic downturns.

A consistently strong operating performance and no debt assist QBELMI's financial flexibility and internally generated capital is able to support growth if required. A traditionally conservative underwriting approach tightened in response to the deteriorating economic environment in 2008 and as a result, the company's financial performance has been robust. In 2013 QBELMI's loss ratio was 26% and has averaged a low 18% over the five years to end-2013.

The company has adopted a low-risk approach in its investment portfolio and at end-2013, 97% of total investments were in cash and fixed-income securities (the remaining 3% QBELMI's investment in QBE Mortgage Insurance (Asia) Limited and Permanent LMI Pty Limited), 78% of which were rated 'AA-' or higher. As a result, the company had no exposure to 'riskier' assets such as non-investment grade bonds or equities.

QBELMI is a monoline insurer and is susceptible to a systemic downturn in the Australian housing market. However, there is geographic diversity in its Australian exposures which helps mitigate the potential adverse impact of a regional downturn. Historically, default rates have varied amongst states and regions due to the wide variation in economic stresses across Australia. Self-insurance and adverse selection remain a threat to the LMI business model, particularly as banks operating with internal capital models would gain limited capital relief by using LMI. However, the benefits of credit risk transfer, and the operational risk mitigation provided by QBELMI, continues to support business volumes and its relationships with lenders.

RATING SENSITIVITIES

Triggers for a downgrade: A very severe housing downturn, most likely due to a sharp rise in unemployment and other deteriorating macroeconomic conditions, would constitute the most serious threat to QBELMI's rating. However, Fitch considers this unlikely and is forecasting a relatively solid Australian economic performance over the coming years.

Consistent with its high rating, Fitch expects QBELMI to maintain strong standalone capital ratios, and if coverage of its PCA fell below 1.25x for a sustained period, this could result in a downgrade.

A downgrade of QBE's ratings could result in a downgrade of QBELMI's rating despite limited financial reliance on the group. Fitch would not typically rate a group member more than one to three notches above the group assessment.

Triggers for an upgrade: Fitch believes a ratings upgrade for QBELMI is unlikely in the near-term given the company's profile, which, as a monoline insurer, results in a narrow product focus. An upgrade of QBELMI's rating would require an upgrade of the group rating.

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