Münchener Rückversicherungs-Gesellschaft Aktiengesellschaft in München (ETR:MUV2)

Earnings Call: Q4 2016

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Feb 7, 2017

Good day, and welcome to the Munich Re Preliminary Results conference call. Today's conference is being recorded. At this time, I'd like to turn the conference over to Mr. Becker-Hussong. Please go ahead, sir. Yeah. Thank you, Alison. Good afternoon, everyone. Welcome to Munich Re's call on the 2016 preliminary results and the outcome of the 2017 January renewals. Jörg Schneider, our CFO, will start with a short statement, and then we will go right into Q&A. Jörg, please go ahead. Thank you, Christian. Good afternoon, ladies and gentlemen. With a net profit of around EUR 2.6 billion, Munich Re is right in the middle of the initial EUR 2.3 billion-EUR 2.8 billion target range. We have largely been able to compensate for the costs of the strategic reorganization of ERGO. Thanks to a sound underlying performance and helped by a bit of good luck as well as FX gains, we posted a robust result without eroding our substance. We consider an ROE of 8.1% and a RoRAC of 10.9% to be quite pleasing. However, the challenging industry market conditions and prevailing low interest rates are having a visible impact on financial results in the industry. We will not be complacent about Munich Re's good 2016 result, and our strong balance sheets will help mitigate some of the underlying earnings pressure going forward. I am confident that during the next couple of years, we will more than replace lost income by further developing our business model with targeted, innovative client solutions. The Q4 result of around EUR 500 million was quite decent given a substantial major loss burden and thanks to positive FX effects. We refrained from using the strength of our balance sheets more actively. Our capitalization remains very robust according to all metrics and continues to provide the basis for high payouts. Local GAAP earnings improved substantially over the previous year. This was due to net negative non-recurring effects in 2015. In 2016, the underlying result was lower due to lower reserve releases and higher major losses. This was overcompensated by a lower contribution to the equalization reserve and a good investment result, including intragroup disposal gains. According to a preliminary calculation, the Solvency II ratio at the year-end 2016 amounts to about 260% without transitioners. In the fourth quarter, a favorable impact from higher interest rates and FX effects on own funds and SCR was partially offset by the effects of model updates, including modeling of negative interest rates. We want our shareholders to benefit from our good performance. The proposed dividend increase of 4% to EUR 8.60 per share further confirms our attractive and reliable dividend policy and our trust in Munich Re's sustainable earnings power. Just a few remarks on the investment result, which stayed at the same level as in the previous quarter. While the reinvestment rate was stable, regular income increased slightly in Q4 due to a one-off effect. Impairments on commodity investments, in particular gold, led to increased net write-downs. Net gains from disposals were somewhat higher. They declined in the reinsurance segments as we refrained from active harvesting. There were higher gains in ERGO's international business as well as in primary life and health. The gains in the latter segment were offset by losses on hedging derivatives due to booming equity markets and rising yields. For the full year 2016, given the low interest rates, we are quite pleased with an investment result of EUR 7.6 billion. Our prudent asset liability management and high degree of diversification once again proved beneficial. The ROI of 3.2% matches the return in 2015 as an improved derivative result and lower write-downs mainly offset attrition of the running yield. On a segmental basis, however, the reinsurance ROI declined a lot while it increased further in primary insurance. Let me give you the highlights by business segment. As expected, ERGO produced a slightly negative result for the full year 2016, mainly due to the restructuring charges and investments for its strategy program. For the Q4 standalone, net earnings were positive, helped by a high investment result in all segments. Furthermore, German life and health business benefited from a high technical result and positive tax effects. In Q4, the combined ratio of 100% in Germany was caused by higher major claims, an increased prudency in industrial liability reserves, and an elevated cost ratio due to investments in the context of the ERGO program. The combined ratio for the full year amounts to 97%, well below our 98% guidance, and this includes a one percentage point impact from investments in the strategy program that are immediately recognized as an expense. The combined ratio of our international non-life operations improved to 99% for the full year on the back of a better performance in major markets. In Q4, however, the ratio of 100.4% suffered, among other things, from reserve increases in Turkey. Furthermore, there were changes due to closing ERGO Belgium to new life business. Markus Rieß will present the key points of the future strategy of ERGO's international business at our analyst conference in March. Owing to a strong performance in Q4, Munich Health comfortably exceeded the full-year net profit guidance. This is due to good underwriting performance, including various technical effects and a high investment result, which benefits from the release of some prior years' conservatism. Munich Health fully met its ambition for 2016 with a combined ratio of 98.5%. As recently announced, we disbanded the business segment with effect from 1st of February. Turning to reinsurance. Starting with life, the very strong technical result of almost EUR 170 million far exceeds the normal quarterly run rate. As in the last quarter, the result benefits from technical one-off effects and favorable reserving adjustments. The contribution from North America and Europe was strong, but earnings from Asia were somewhat weaker compared with previous quarters. For the full year, at almost EUR 490 million, the technical result comfortably surpasses our ambition despite large single claims in the first quarter. Moving on to P&C reinsurance. The combined ratio was 101.9% for the fourth quarter. This was largely down to above-average major loss activity, and it was only partially compensated for by reserve releases accounting for 5.7 percentage points net of commission effects in Q4. The full-year basic loss net reserve releases were 5.5%. As an outcome of our annual reserve review, a higher release would have been possible, but we deliberately decided to maintain a high level of prudence in our reserve. I consider our reserving situation to be at least as strong as it was at year-end 2015. On a normalized basis, the combined ratio has continued to increase, amounting to 100% for the full year, according to our usual and somewhat simplified calculation method. On the one hand, this reflects price reductions experienced in the 2016 renewals. On the other hand, there were larger weather-related basic losses for which we give no credit when adjusting the ratio, as well as the usual noise from things like business mix effects. Therefore, we believe that our actual combined ratio is at a level which is more or less consistent with our guidance of 99% for 2016. In the current soft market, we have not given up our underwriting discipline. Our initial estimates are probably a bit conservative. Market conditions for the renewals of our reinsurance treaties at 1st of January 2017 were once again challenging, yet price erosion continued to slow. Terms and conditions were largely unchanged. Thanks to our active cycle and portfolio management, we limited portfolio price decreases to 0.5%. We withdrew from business that no longer met profit expectations, mainly large quota shares in China. We also expanded profitable business both by seizing new opportunities and strengthening existing client relationships. Overall, we posted a reduction in premium volume of almost 5%. The projected portfolio profitability is still above our cost of capital. Thank you, ladies and gentlemen, for listening. I am now happy to take your questions. Yeah. Thank you, Jörg. As mentioned, we go right into Q&A now. My usual request, please limit the number of your questions to a maximum of two per person. Thank you. Thank you, sir. If you would like to ask a question, please signal by pressing star one on your telephone keypad. If you're using a speakerphone, please make sure your mute function is turned off to allow your signal to reach our equipment. Again, press star one to ask a question. We'll pause for a moment to allow everyone an opportunity to signal. We'll take our first question from the line of Kamran Hossain from RBC Capital Markets. Please go ahead, sir. Hi. Afternoon, everyone. Two questions. First one's just on the HGB earnings. Last year, the equalization reserve cost, I think it was EUR 0.4 billion, from memory. What was the quantum of that decline when we think about HGB earnings for 2016? Then when we look to 2017, should that number turn positive next year? That's the first question. The second question, just on the reserve releases for the full year in P&C. Obviously, they've come in at 5.5%, which is higher than the 4% at the beginning of the year, but it's lower than the 6% that you mentioned at the Q1 statement. In terms of that half a percent difference, is that additional prudence that's going into next year, or will it be rolled over into 2017, or does it just sit there and buffer? Any thoughts around how you think about that would be really helpful. Thank you. Thank you, Kamran. First on HGB earnings, the contribution to the equalization reserve was more or less in line with last year's, a little bit lower. It will most probably turn positive next year, but that depends on the development of our losses, of our loss ratios. But the tendency is quite clear. For the various lines of business, we are close to the maximum. So there's not much more to contribute and to inject here in that reserve. So it will be a strong support for distributions going forward. Second reserve releases 5.5, lower than 6%, which we indicated during the year. Let me frankly admit that we got a bit nervous at the beginning of the year with a very weak first quarter. Then we said to ourselves and then to the public, it is highly unrealistic to expect us to miss our profit target for the year, while at the same time sitting on a very substantial, I would say estimation grounds. You can also call it buffers on the reserve. Therefore, we said it is unrealistic to assume that there will be a lower release than 6%. The year turned out to become much better. We had, as always, a wide estimation range in the course of the closing activities, and we stayed at the high end of what is digestible from an adequacy point of view with the reserve. Therefore, one could have released much more, but we didn't. Perhaps you can say because it was not necessary. But this is not a message of lower confidence in the reserve. We preserved the strength of our balance sheet. So if inflation spikes, for example, or if pressure from current underwriting prevails in future, then there is very strong basis from the reserve going forward. Fantastic. Thanks very much. Thank you, Kamran. Thanks. We'll take our next question from Mr. Andrew Ritchie from Autonomous. Please go ahead, sir. Oh, hi there. Two quick questions. ERGO was more or less break even or slightly loss-making in 2016. I think, please clarify, that's after EUR 300 million, roughly, net of restructuring charges and investment. The guidance, I think, was EUR 130 million of expected net profit for 2017. What is your confidence still in that kind of recovery? Can you give us any sort of vague update as to the progress so far of any of the restructuring and the investment programs? Just a revisit of the ERGO guidance, first question. Second question. In the renewals, there's quite a lot of big movement, obviously, of cancellation. I think you canceled 14% of the business and you grew new business 12%. What areas was that growth of new business in? Does this capture any bespoke business, bespoke transactions, or are you kind of treating that separately? I'm surprised you haven't commented a bit more on opportunities there in renewals. Thanks. Thank you, Andrew. With regard to ERGO. The restructuring charges for 2016, including what we call investments that are the expenses which go directly into the result, were on a net basis EUR 250 million, roughly. Our guidance for next year, EUR 130 million, remains unchanged. Progress is absolutely according to plan. We are lagging behind only for a couple of projects, but overall, we are very satisfied with the first results and with the first steps. The negotiations with the staff representatives have come to a successful result. Also, the combination of the sales forces went pretty well. New business is in line with our expectation, slightly above what we anticipated in the course of the strategy program. Things are going well, are going into the right direction. For the profit guidance, we do not have better indications now as to EUR 130 million, which we indicated in June last year. So there is about EUR 50 million less restructuring and investment than expected. Is that right? Overall, it is more or less in line. Yeah. Okay. That was quite close to what we indicated. Then new business. What we gave up is, for example, a major quota share treaty. This stands for a bulk of the reduction in volume, which we have had. As you know, these treaties are high volume, low margin. That means for our profitability, they have a lower impact. Where could we grow? Some new business in casualty U.S., some in property U.S., some other business in China also, and in the U.K. If I see the list of individual cases, it is a broad and highly diversified portfolio of new business. Sometimes only expansion of business with existing clients, sometimes new business opportunity with new clients. Overall, that is the reason why we are rather satisfied about the outcome of the renewal. Okay, thanks. If you find your question has been answered, you may remove yourself from the queue by pressing star two. We take our next question from Gillian Bordas from BNP Paribas. Please go ahead. Yes. Thanks for taking my questions. The first one is on the North American renewals and the pricing there. I am a bit surprised to see that you still have an erosion in terms of pricing, despite the fact that you had a couple of very large nat cat events there. Can you comment a little bit on the pricing trend in this geography? The second is in terms of investments and the fact that you still have a reinvestment yield, which is constant quarter on quarter. I would like to have your view on the fact that we are now evolving in an environment which apparently shows a little bit higher yields. Are you trying to catch a little bit of this, or yeah, if you have a little bit of view on that. Thanks. First, on the North American renewal. We see a further stabilization in casualty business there, and rates are mostly flat and with the positive impact from interest rates, the overall profitability is quite satisfying at the moment. With regard to property business, rates are slightly down according to what we see between 2% and 3%, I can say only, and the impact from Hurricane Matthew doesn't seem to have been very high. But we must see anyway the loss burden more on a global basis in our view. What we also see are agricultural business rates to increase. Moderate decreases for Latin America, for Canada and Australia. This is the picture what we see at the moment. But overall, a very diverse picture, with very limited changes between 2016 and 2017. Thank you. Okay, thanks. The investments? The second, the investment. We do not change our investment policy. That means moderate risks, highly diversified, based on economic matching of assets to liabilities. We can at the moment harvest some of the better yields, especially in the U.S. But it also depends on the duration of the portfolio, and we are currently in the course of slightly reducing the duration of the portfolio overall. So that means that all these effects level out each other somewhat. Okay, interesting. Thanks. Thank you. We'll take our next question from Jin Mai from Morgan Stanley. Please go ahead. Hi, good afternoon. Two questions. First is a follow-up on the reserve release question. Were there any areas where you had to strengthen reserves? Just given some of your commentary about a high level of prudence, but also potential for higher inflation. Going forward, is the 4% number still the right number to be thinking about? My second question is, Jörg, I think you were quoted in the media earlier with regards to M&A and exposure of ERGO internationally. Can you expand a bit on which segments, life P&C and geographies you're willing to consider and how large your appetite is there? Thank you. Thank you, Xin Mai. With regard to the reserve, there are no buckets of major reserve strengthening. So it's not the one big one or so. It's up and down here and there and overall a very favorable view with what we call actually reported losses versus expected reported losses, still with a very wide difference. With regard to M&A, there's nothing new, I would say. We would very much like to make a fantastic deal, but we do not see one out there. With regard to our growth ambitions, it's also about acquired growth. It can be in the primary insurance field internationally, still interesting for us, Eastern Europe and Southeast Asia. Markus Rieß will come back to that in the course of the analyst conference. But please do not expect any sensations here. It's a lot also about consolidation and concentration, and it's about developing what we have already, plus some additional acquisitions also to strengthen our position in markets where we have been already strong. What we would also very much like is to expand our specialty insurance activities written out of the reinsurance organization, what we call risk solutions, especially when we can acquire special know-how, which we can leverage on the broader Munich Re platform and which could fit ideally to the know-how of our group. This is what we are actively searching. But as you know, the markets are not easy because we think that the current prices for M&A, which we see in the auctions, do not adequately reflect the risks we are currently faced with, also from a global perspective. Okay. Thank you very much. Thank you, Xin Mai. We'll take our next question from Vinit Malhotra from Mediobanca. Yes, good afternoon. Thank you. Vinit from Mediobanca. Just two questions, please. One is on, Jörg, could you please update us on the state of the derivatives in the group, particularly as you mentioned as well, some writedowns on commodities and gold. In that context, the confidence in the reserves for the inflation, is that because you have assets hedging inflation, or is it just because the reserving assumptions are probably much higher than where we are now? If you could just clarify that question, please. A very quick question also on New Zealand earthquake. Was there any revision to the prior event in 2010 or 2011 in today's $250 million, or is it all from just this one event? Even if you could just comment also on, there were some changes at the EQC Act was being reviewed. Apologies, I haven't followed it that closely, but maybe you could just provide a quick update, please. Thank you. Yeah. Thank you, Vinit. First, derivative. We somewhat took down our derivative in the portfolio. The main reason was that our inflation sensitivity was remodeled, and the outcome was that our inflation sensitivity on the liability side is lower than originally anticipated, and we reacted to it by taking down the inflation derivatives. Therefore, they do no longer play a major role. There is some protection on the asset side, but not an enormous one. The confidence really comes from the fact that we are very highly reserved and that we could easily absorb also a higher loss inflation going forward. With regard to the New Zealand earthquake, our very high estimation for this loss is influenced by the prior earthquakes of 2010 and 2011, but only in the sense that we learned a lesson at that time because at that time, at the beginning, the losses were underestimated. Based on very high building standards we had there, some buildings were looking as if they were not damaged and turned out to be a total loss then later on. The building standards were brought up, and therefore we see a pretty high exposure in such a case of an earthquake, and that might have influenced our very high estimation here. Another reason is that a lot of that business has been written out of Australia, where we have a very strong market share. Typically in New Zealand, the clients have relatively low self-retention. All these factors bring up our own loss to this very high level, which is fully in line with our market share. I would like to underline here our local market share, not our worldwide market share. It can well be above our worldwide market share. So far with the New Zealand earthquake. Yes. Thank you very much. Thank you, Vinit. We will take our next question from Michael Huttner from JP Morgan. Yes, I had one question on deals. How much could you spend? I know you would not say, but maybe you could give the answer in terms of the leverage you could go to and where you are now. Then, on the HGB results, you did not answer. I think one of my colleagues said, "Oh, what were they?" You said, "No, they are fine." What was the number? Because you said significantly above EUR 3 billion. I just wondered whether you could give more clarity on that because clearly it influences our thinking on how much you can afford in distribution going forward as well. Thank you. Thank you, Michael. Your first question, was it about M&A? How much we can spend? Yeah, exactly. Yeah. Yes, of course. Well, it depends. We can finance a lot. We have a very low leverage, which we could increase. Our appetite for stretching it is somewhat limited. You are at 13%, aren't you? In the past, you were up to 17 or something. Even lower. Even lower. Okay. Even a bit lower. There's a very high capacity for additional raising of hybrid debt, for example. But we do not intend to do it at the moment. With regard to major M&A, nothing is in the pipeline at the moment, and we have not changed our approach to it. We very much look at the numbers and see whether it is really value creating and not only empire building. You can rest assured that the discipline prevails also in future. When there is a once-in-a-lifetime opportunity, we would do our best to move then. HGB, the result for 2016 is EUR 3.4 billion, so pretty high. Okay. So pretty high. Thank you. Thank you. Thank you, Michael. We will take our next question from Paris Hadjiantonis from Credit Suisse. Yes, good afternoon, and thanks for taking my questions. I have two today. Firstly, on life re, the technical result there is a lot better than your EUR 400 million guidance. I was wondering whether or not this is sustainable or if there are some kind of one-offs in that number. Secondly, we haven't really talked about the outlook for 2017. Maybe it's a bit early, but if you could give us maybe a kind of a directional guidance, versus your full year 2016 result. Thank you. Thank you, Paris. Life re, there are some one-offs in the number. Like always, we have huge reserve movements. We have reporting from clients, which changes our numbers and have an impact on our numbers for a quarter, which is in the double-digit range. Overall, I would say they compensate each other, and this was really a strong result. In spite of being dominated by one-offs, but one-offs in both directions. Going forward, I'm confident that this level is sustainable, but please do not rely on quarterly delivery of EUR 100 million. Because sometimes you have chances. You have chances to enter into new business, which might be negative short-term for IFRS P&L. Sometimes you can negotiate on recaptures with a client, which is from an economic point of view, attractive. From an P&L, IFRS point of view, perhaps a little bit burdening. Therefore, there will always be volatility, but the level of profits going forward should be in the ballpark range where it is now or even a bit higher, and we are very confident with regard to the value of new business going forward. For 2017, let me first say and confirm what we already told some of you, that if we adjust for many things, the 2016 results, for example, for the ERGO restructuring with minus EUR 250 or the too low reinsurance investment result on one hand, on the other hand, the lower major losses or the FX result, then we end up somewhere around EUR 2.4 billion. Going forward, what do we know for about 2017, that is a further decline in the running yield, let's say in the order of 20 basis points or so. Even a spike in interest rates wouldn't change it dramatically short term, because it takes time with our midterm to long duration before it really benefits the current interest earnings. We have a further slight negative impact from 2016 and 2017 renewal. Therefore, on a like for like basis, it should be below EUR 2.4 billion. Then we are sitting on a very strong balance sheet, which in the course of its run-off could have a positive impact. We will come up with a guideline for a guidance for 2017 in the course of the analyst conference, but I assume that we will not surprise you. Thank you very much. Very helpful. Thank you, Parit. We will take our next question from Thomas Bideau from Bernstein. Yeah, thank you. Good afternoon. First question is on the U.S. new government planning quite significant changes on border adjustment tax and intragroup reinsurance deductibility. My question is, if you could comment, please, on how serious those risks are and what you could do to mitigate that. The second question is regarding China. It is a bit of a contradictory picture. On the one hand, you basically say this is a big opportunity. On the other hand, you are losing business. There are four new Chinese local reinsurers being started up. So I wonder how you see the market share of Munich Re evolving in China. Thank you. Yeah, Thomas, difficult question. Let me start with the second one. China is a big opportunity because we have the phenomenon of under-insurance there. Yeah, so enormous exposure to nat cat events. When we compare the insurance density with that in other mature markets, then there is a lot of additional potential, in addition to the economic potential of a still strongly growing market. What we lost there, this is big quota shares with high numbers, high top-line numbers, but very low bottom line. Therefore, I would not be so worried about the most recent development in the renewal 2017. But it is a very competitive market. That is for sure. Yeah. So we are fighting. We have a strong presence on site. We have very good people there. We have the whole Munich Re know-how and capacity, but we have no gifts to grant there. Yeah, that means it will remain volatile from year to year. A very active underwriting policy is of utmost importance that we do not only go for growth there, and that will be the same in future. With regard to the new U.S. government and the various plans, Munich Re has a quite good position there because we have Munich Re America, and we have a couple of primary insurance companies, which you all know, which give us a very strong foot on the ground and also a lot of jobs on the ground, I would like to underline here. Deductibility for outgoing intragroup reinsurance is a matter we can observe, but we can channel that, or we can react by increasing our local retention here. In principle, we believe in a worldwide diversification of risk, which is important, and therefore we always protect our subsidiaries and even branch offices outside of our country by retrocession agreements, which more or less end up in Munich RE AG Munich in the end. But we have some leeway to optimize it. Since we are a U.S. reinsurer with a domicile there, we are also protected against any negative impact there. When tax rates will be reduced, we will benefit from this phenomenon. Lastly, I have to clarify what I said before about life re, the same level going forward. I wanted to refer, but I did not explicitly, to the EUR 400 million guidance and not the EUR 500 million, which we achieved in 2016. So the EUR 400 million remains a good guidance going forward. Sorry if I created here some irritation. Thomas, does it answer your question? Yeah, perfect, Georg. Thank you. Thank you. We'll take our next question from Anasuya Iyer from Jefferies. Hi. Thanks for taking my questions. My first question is just a follow-up on one of the other ones about ERGO. When you gave us the update, last June, rates in Germany were almost negative, I think. The 2016 guidance for profit was marginally net negative, assuming no change in rates. Since then, rates have worked in your favor. The net income has come in as per guidance. I'm just wondering whether in the future, this could change, if rates do continue to spike up. I appreciate, there's hedges and the duration is long, but any comment on this will be useful. On the same topic, is there a plan to give more details or targets on ERGO International? Because I think that was the plan before. My second question is just more generally on capital repatriation. Obviously, your German GAAP position is quite strong. But at the same time, you are saying that you could see a bottom of the market in terms of pricing. How do you think about those two factors when you think about capital repatriation? Thank you. Thank you, Anasuya. ERGO, last June, when we disclosed our restructuring program, as far as I remember, it was based on interest rates, which were higher than those in the fourth quarter and in the third quarter. We didn't correct it immediately downwards. Now we are more or less back where we were when the restructuring program was constructed and calculated. That means I wouldn't see a major positive between then and now from the increase in interest rates. But let me confirm on the other side that I feel a little bit relieved about this normalization of interest rates, which we experienced recently. That this crazy development below the zero line came to an end, and there is much more realism now in the numbers. The targets for international expansion. Let me predict, it will be a careful way. Careful way means first is consolidation, first is growth out of the existing, and in some cases, very strong entities abroad, and then it will be about further expansion also by acquisitions, by entering new markets. There could be an opportunity in the meantime, which we would like to pick up, but it will not be a dramatic and totally different program for the next one or two years. Then, repatriation of capital. If markets would drastically improve and underwriting margins would go up, I think that wouldn't change so much in the short term. Because we have a capitalization in the order of 260% economic solvency ratio compared to an, what we call optimal range between 175% to 220%. So there is still some room to grow before we are in the optimal range. We could increase our underwriting risks quite substantially, especially due to the fact that there's a very high diversification in place. That means that typically underwriting risks, if they are not all focused to the peak natural catastrophe risk, diversify pretty well in our portfolio. Therefore, there could be a lot of organic growth before we have to rethink our capital management policy. All right, great. Thank you. Thank you, Anasuya. We will take our next question from Vikram Gandhi from Société Générale. Hi there. I have just got one question, which is, why do you now model for the negative interest rates when yields seem to have at least stabilized in the positive territory? That is all. Because we have to. It is a good question, Vikram. We had to learn that negative interest rates are possible, and we had to more precisely model the impact in our internal steering here, which is also the basis for the regulatory world here. By the way, also, the German BaFin, our lead regulator, wouldn't have accepted that we ignore negative interest rates. Okay. If you look at the numbers right now, they might look unrealistic, but we feel much better having modeled them appropriately. Okay. That is clear. Just a follow-up, if I can. Any relief that you expect on the ZZR front? Not really. Two extreme scenarios I have in mind. One is continuation of the very low interest rates. That would mean an enormous strain from the ZZR, which we can fulfill by realizing our unrealized gains, especially on the fixed income side, in order to finance the ZZR requirements under local German GAAP. It could become very difficult for many companies to fulfill these requirements going forward. I do not know how the regulator and legislator will react to that. Second scenario, that is a very strong spike in interest rates, which would mean that the unrealized gains could immediately disappear. That means you would not have any tool to finance the contribution to the ZZR. The ZZR would react very slowly because it is based on a 10-year average interest rate of first-class bonds. In such a situation, I would trust that legislation and regulation would find tools to change the formulas here. Overall, we see the ZZR with mixed feelings. On one side, it is an enormous requirement, perhaps a bit exaggerated under the current circumstances. On the other hand, it has a benefit that it supports discipline on the market with regard to profit sharing with policyholders, because if you have no profit, then you cannot share anything. Therefore, it is also in the interest of shareholders. Okay. Thank you. Thanks for that. Thank you. We'll take our next question from Frank Kopfinger, from Deutsche Bank. Frank, are you there? Yeah. Hello, Frank. Can you hear me? Yes, we can hear you well. My first question is on the ERGO result. Can you provide some more color on the standalone Q4 effects in respect to impact from disposal gains, tax effects, and also if occurred, whether there were some movements on the reserve side, i.e., some runoffs, in P&C? My second question is on the restructuring in Belgium. On the EUR 300 million capital injection, could you comment on whether this had been done via equity injection or via hybrid capital? Also, whether there is a risk that you have to inject more in the future. Yeah. Thank you, Frank. First, ERGO Q4 result was plus EUR 70 million, roughly. In life and health, it was even EUR 95 million, so very high. It was based on a very high technical result. That has to do with an increase of the shareholder quota in the shareholder policyholder split for technical reasons, because the contribution to the policyholder funds to the RfB are kept with regard to their tax deductibility. Therefore, we had to optimize it from a tax position, a very technical effect. Second, we had very high gains from disposal in the investment result, and we had special effects from the distribution of income and expenses over the quarter. Q4 is dominated by one-off effect, also tax effects from tax audits. Therefore, that unfortunately cannot be extrapolated in future. In property casualty Germany, we had a lower level of large losses than in the last year. Also in the fourth quarter, it was pretty mild. We had a contribution to loss reserves for industrial liability insurance. This contribution was rather a real strengthening of the reserves instead of filling a hole. So the confidence level in primary insurance, is narrowing to that of reinsurance. Let me put it like this. In ERGO International, we had the losses in Belgium, substantial expenses for restructuring and debt impairments, which were to a large extent compensated by a very high investment result from disposal gains. We also had some reserve increases in Turkey, but on a much lower level than last year. Your second question on the restructuring in Belgium, the split between capital increase and subordinated loan. It was a capital increase in the order of EUR 280 million plus an EUR 80 million subordinated loan. Overall, EUR 360 million. Big amount, and we expect it to be enough to finance what is necessary on site. This is on one hand, also a reserve, which is similar to the German ZZR, called Knipperlichten Reserve. On the other hand, these were investments which have to do to the run-off status of the business. We are now confident that the company will show profits in the years to come instead of losses. Is that okay, Frank? Yeah. Thank you very much. Thank you. We'll take our next question from In-Yong Hwang from Goldman Sachs. Please go ahead. Oh, hello. Thank you for taking my question. I've got two. Firstly, on the renewals, a lot of your competitors have seen quite extraordinary levels of growth and what they call large transactions, structured reinsurance and so on. Is that part of the renewals disclosure that you made today? It looks like you're not as enthusiastic about those kind of transactions as your peers. Is there a reasoning behind that? That's my first question. Secondly, on the life insurance side, I think the 4Q result had a one-off reserve release from the U.S. Does that signal confidence in your reserves for some of the old age, U.S. mortality business that have been an issue for the last few years. Thank you. I start with the first question on the renewal, and here, especially the structured reinsurance. We do not have a separate disclosure, unlike our peer. The reason is that it's not too easy to separate that from the other parts of the business, as you can imagine, because more or less, or let's say, a large portion of our reinsurance business is dominated by optimization requirements, means tax accounting, regulatory stuff. Our tailormade business, for example, is in the order of one third of the overall business. We do not split it up in a way. The reason is because we offer it typically as part of an overall coverage for a client combined with traditional reinsurance elements. We are active here in all territories, in all geographies, especially in Europe, Caribbean, Australia, China, to a lower extent in the U.S. It is typically high premium, low margin business, and as I said, an integrated part of broader coverage programs. On your second question about reserve releases in the U.S., it was about life insurance, wasn't it? Exactly, yeah. Yeah. Okay. That was a release of claims reserved for model refinements in the area of inflation riders for disability and long-term care. Very specific line of business, and it was something which was overdue, I would say. This had a major impact. Very tactical and not to be extrapolated in future. Okay. Understood. Thank you, In Yong. We'll take our next question from Michael Haid from Commerzbank. Please go ahead. Thank you very much. Good afternoon. Just two questions. First on the reserve buffer and the prudency margin. I would like to better understand the drivers behind them. You mentioned that the reserve buffer has stayed fairly stable. You took out EUR 1.1 billion reserve releases. Does this mean that the initial reserving is also with basically putting in EUR 1.1 billion on new business? Or are there any other parts which I'm presumably missing? Second, you just mentioned large quota share business, which comes with a high volume, low margin, low profit. How much of this high volume, low margin business is included in the January 1 renewals? Is it fair to assume that on a per unit of risk basis you actually have grown? No, I can't confirm that we grew there, Michael. Thank you for the question. We cannot precisely say that on the unit of risk. That would be, how should I say, artificial precision. Roughly perhaps about 30%, 20%. 20% of the risks, perhaps something in that area. With regard to the reserve buffer, I've been in my current position now for 16 years, and it started in a pretty ugly situation with regard to the reserve, and then it got better. Perhaps we overdid the prudency somewhat, coming from the very bad experiences early on. Now we would very much like to keep the level of confidence where it has been during the last couple of years. The reason is that when it's bad, then it's extremely bad. That had been the experience of the past because the market in total sometimes underestimates the deterioration in the early phase of a worsening market. We want to be somewhat resilient against that phenomenon. Therefore, we insist on keeping the current level of confidence and of, one can also say, necessary buffers. It is as you describe it goes in and out. So we try to reserve new losses with some conservatism in the calculation and in the course of the run-off of the business, part of that gets released over time. That it is how it is ongoing, and we do not see a major difference between 2015 and 2016 with regard to our experience. So no deterioration. But we are not immune against underreporting from our clients. If that happens, then we have additional buffers, which we set up ourselves, therefore, we should be fine for a long while. Did you change any expectations regarding inflation? Or can you give us a sensitivity how inflation would change the buffer? Obviously, it would go down, but by how much? No. I am pretty sure that the low inflation was one of the drivers of the very comfortable industry position with regard to reserve. That means if the direction changes, then it will also have an impact on reserve. Reserves are not dominated by an impact of consumer price index, but rather of wage inflation. Wage is important and also medical inflation, because we are mainly talking about personal injury claims, and here the expenses for care are very important. Also the longevity expectation of the respective victims. These are the main drivers, and we have them under very tight control, but we do not sort out an inflation factor which we can give as a sensitivity for the whole portfolio. But we are on very safe ground. Okay, perfect. Thank you very much. Thank you, Michael. We will now take our final question from Mr. William Hawkins from KBW. Hi, Jörg. Thanks for letting me sneak in. You told Michael Huttner that the HGB result was EUR 3.4 billion. Can you just help me understand that? Because that is up significantly from EUR 2.6 billion in the previous year, I think. And you mentioned that the claims equalization reserve this year has not changed very much. And I know it is not the same, but the IFRS result is actually down quite a lot. So EUR 3.4 billion seems like a huge result, and I do not quite understand how you have got there. And then related to that, if the HGB result is strong, presumably your distributable reserves would have taken a big increase as well. Does that have any impact on capital management when we think about buybacks for the future and the rest of it? Or is this just one of those nice cushions that you are going to enjoy getting bigger? Thank you. Yeah, it's rather the latter. Let me start with the reason for the increase. Last year, we had to write down over EUR 1 billion on our ERGO share, and that was the main driver of the difference. The lower level of contribution to the equalization reserve, again, a very high investment result. Here, within the investment result, there's also two major gains from intra-group transactions. In one case, we shifted a diversified portfolio of bonds and shares from one location to the other for tactical reasons. In the second phase, we wanted to realize, again, actively, in order to be prepared for any tax changes which did not appear later on. Both had an enormous impact on the result, and therefore, this is not a sustainable HGB result. That is also the reason why we see with pleasure that our distributable earnings are now on a very high level. If I see the prognosis also for 2017, we again expect a high HGB result based on the fact that there will be a lower, if no requirement for the equalization reserve. That means also for the total of 2017, it remains the same. But I would not recommend to drastically change our distribution policy, because the impact of the low interest environment and of the lower rates on the reinsurance side find their way also in the HGB results. On the other hand, ERGO will, at a later stage, deliver dividends, but there is still some years to go. Therefore, I rather take it as a very nice block of distributable earnings in order to even more confirm our distribution policy, which we have followed during the last couple of years, but not to make a major step upwards. That's very clear. Thank you. Thank you, William. That concludes today's question and answer session. Mr. Becker-Hussong, I'd like to turn the conference back to you for any additional or closing remarks. Yeah, nothing to add from my side. Thanks to all of you for joining, and please don't hesitate to call us with further questions. Looking forward to seeing you soon. Thank you. Bye-bye. This concludes today's call. Thank you for your participation. You may now disconnect.

Data Source: Quartr Last updated: Feb 7, 2017

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