Ladies and gentlemen, welcome to the Zurich Insurance Group Health Year Results 2019 Conference Call. I'm Sandra, the Chorus Call operator. I would like to remind you that all participants will be in listen only mode and the conference is being recorded. The presentation will be followed by a Q and A session. The conference must not be recorded for publication or broadcast.
At this time, it's my pleasure to hand over to Mr. Richard Barden, Head of Investor Relations and Rating Agency Management. Please go ahead, sir.
Good morning, good afternoon, and welcome to Zurich Insurance Group's 1st Half 2019 Q and A Call. On the call today is our group CEO, Mario Greco and our group CFO, George Quinn. Before we start with your Q and A, Mario will make a few introductory remarks to the results. When we come to the Q and A, as always, we just ask you to keep to 2 questions in the first go round. And if we have time afterwards, we'll come
back for a second pass. Over to you, Mario.
Thank you, Richard. Good afternoon to all of you, and thank you very much for being on the call, especially since we are in the middle of August almost. Before we get into the Q and A, let me try to provide a few remarks about our performance and where we stand today. In 2016, as you remember, we set ourselves ambitious targets and we launched a new bold strategy. The first half results show that the strategy has delivered and that we're on track to exceed all of our targets.
Our BOP has reached the highest level in the past decade, and our BOP at ROE of 15% shows the significant value that we are creating for our shareholders. The performance of our Property and Casualty business has been very strong, with the business showing growth in gross premiums and improved underwriting performance with a still very low volatility. The strong improvement in the accident year combined ratio before natural catastrophes clearly shows that the actions that we have taken to change the mix of the business and to improve the quality of the portfolio were the right ones. This is especially the case in our commercial business, where discipline and focus has driven significant improvement in profitability in contrast to what many have reported. Looking forward, we see further opportunities to improve the results, and we see the current upturn in U.
S. Pricing as supportive of the future performance of our business. Our Life business has continued to perform well in the first half with underlying growth continuing and with headline results held back only by the strengthening of the U. S. Dollar.
The high quality of our life portfolio and our long term focus on protection and unit linked savings positions position us as well to manage the ongoing challenge caused by the low yield environment. Evolve Farmers, both our own business and the policyholder on the farmers exchanges have continued to grow successfully in the first half of the year. Particularly, the exchanges have continued to build successfully out their presence in the Eastern United States. And they also expanded Toggle, their innovative offering for millennials to over 20 new states. Our balance sheet remains extremely strong with our solvency above the top end of the target range despite the impact of falling yields and the absence of the dampening mechanisms available to peers reporting under Solvency II.
Over the first half of twenty nineteen, we continued to develop our strategy, and we strengthened our business through the addition of new partnerships and new and innovative product offerings across a wide range of our businesses. Our innovation has also gained external recognition. The group had won a number of awards over the first half of the year, and this is, of course, quite relevant for all of us. These results and these developments give me great confidence for the future of the group and our positioning for the next phase of our development, which I look forward to presenting to you later this year. Thank you for listening.
And now we're ready to take your Q and A, and George and I will respond to all your questions. Back to you.
We will now begin the question and answer session. The first question comes from John Hocking, Morgan Stanley. Please go ahead.
Good afternoon, everybody. Thank you for taking my question. I've got 2 questions, please. Could you comment on what you're seeing in terms of large loss trends? And if there's anything that's discernible in terms of an underlying pattern there is the first question.
And then secondly, in terms of the trends we're seeing in U. S. Pricing, are any of those sufficient yet to change your appetite for particular lines of business over and above others that you've been maybe some of the things you've been deemphasizing? Thank you.
So John, it's George. You probably remember last year that we resisted the temptation to get too deep into large loss topics because often we hear that as a reason why businesses haven't achieved the targets they've been given. I mean, I think the good news for us is we haven't had that commentary internally. I think, though, as we do break down the numbers, I mean, the outcomes that you see in the first half of this year aren't driven by an absence of large loss. And we see more of the improvement driven at the smaller end of the spectrum.
So we are still seeing large loss. In fact, if anything, slightly higher than our current expectation. On your other question on U. S. Pricing, maybe it's good to just mention what you where we see U.
S. Pricing so that we all get on the same page. I mean, if you remember the commentary from Q1, I talked about the fact that, I mean, overall, for North America, where I gave quite a bit of detail, we were slightly north of 2% so it's slightly north of 4% rather. Ex workers' comp, we were around 6 if that's a particular measure you like. Overall, things are stronger in Q2.
We see things getting quite close to 7% for all lines of business. So would that change your appetite? I mean, I think for us, it's I think it was actually rational about how we set targets. I mean, so for the business, where they see the right levels of return, they can write the business for sure. And I'm sure that this will take some business at the margins that previously we would not have written, and it will take it into places where we would rate it.
I think on portfolio, that for me is a different topic. I mean, we are trying to shape the portfolio. I think that topic will continue, but certainly the improved profitability in the market overall will increase the opportunity for us in commercial. Thanks very much.
The next question comes from Peter Eliot, Kepler Cheuvreux. Please go ahead.
Thank you very much. The first question is the obvious one, just revisiting that accident year combined ratio ex nat cat. I appreciate, George, you don't want to sort of go too deep or overanalyze the large losses. But I was wondering if you could just give us your view on sort of how much of that improvement is sustainable. And to the extent that it's come from sort of pricing improvements and portfolio actions, I mean, those have been ongoing.
Should we expect another similar improvement over the next 12 months? So it's far too bullish. Secondly, I was wondering if
you could just give us a
bit more clarity on granularity, sorry, on the 8% Z ECM increase from business profit. So I guess that's 2.5 points higher than the sort of net income contribution. So it would be great just to understand the contribution from new business and any other moving parts. Thank you very much.
Thank you. So on the first one, so sustainability. So maybe I'll do the very high level first and then I'll go into some of the factors that will drive what we see now or have given what we've seen now and will drive what we've seen in the future. So the obvious thing that you can isolate in the first half results is the impact of cat. We're about 0.7 points beneath where we would expect to be given where we price things, and we don't assume that that's a structural change.
So if you adjust for that, we would see the underlying closer to 96%. If you look at what do we expect for the future, so I mean, I'd love to be as optimistic as your the second part, your first comment implied. I think the I mean, clearly, there's a rate environment out there that's going to be that looks at that will continue to be very constructive. I mean, I mentioned earlier in response to John's question that we're seeing acceleration of rate into Q2. And just to be clear, inflation, loss cost inflation, Europe and U.
S. Were, I mean, they're playing most for us in the short term. We're not seeing any significant change. It's slightly higher in the U. S, but I'm talking 10 basis points.
So I mean, overall, that should start to the rate net of most cost inflation should also continue to feed into the results. But equally importantly for us, there's a whole shift taking place in terms of conditions, which I think is much harder to see, but actually, I mean, has the promise of something that will benefit us for a period that's longer than simply the typical 12 months that we all have the contractual relationship in any one of these individual policies. So I mean, you we see things like attachment points are moving up, line sizes are coming down, more business through wholesale channels where rate is probably even stronger. On commercial auto in the U. S, significant changes in deductibles with the continuation of the rate.
I mean, I could go on and on. There's a whole series of factors and features that I think are very helpful from a terms and conditions perspective. I mean, to be aware, there are other things we'll go the other way. So I mean, we have Crop in the second half. Crop is a higher loss ratio business.
This will certainly not be as positive a year for Crop as we had last year for the reasons I think you all know about from what you've seen in the first half. But I think I mean, I think you've heard from the guidance that we've given already that I mean, we've guided you all to expect something around 96, something combined for this year, given the performance in the first half, given the expectations we have the second, we expect to be a bit better than that. So something between 95% 96%. On the Z ECM topic, I mean, there's always a number of moving parts. So I mean, I guess you've seen the key features today.
So we've got business profit generation of 8. That's probably close to a couple of points higher than you would normally expect to see from us. Dividend accrual of 4. We knock off about 7 for the market movements, and that's mainly interest rate driven and then a bunch of smaller stuff that explained the rest. I mean, there are always differences between the reported IFRS profits and the impact that you see on the economic view.
Typically, more of those come from areas like Life, but the picture can be quite different in terms of, I mean, the almost immediate recognition of new business value versus the spreading forwards of profit under IFRS. But I mean, equally, some of the things that we do to reduce risk around some of the legacy parts of the portfolio, I mean that also has a positive impact. So I mean I can't give you a very scientific, very detailed explanation, but I mean broadly those are the main drivers.
Okay. Thanks very much.
The next question comes from Andrew Ritchie, Autonomous. Please go ahead.
Hi, there. A simple one I think hopefully to start with. The OnePath Life contribution, I think in the notes to the financial accounts, it says $29,000,000 pro form a for the first half U. S. Dollars.
That seems quite low versus the original expectation. Maybe you could just update us on what's going on there. I guess there's some noise in relation to 1Path. Are there any implications of some of the recent legislation that's been passed post the Royal Commission update, for example, I think protect your super legislation,
does that
have any impact on the outlook for 1 part? And the second question is, sorry to return to this topic of sort of loss trends. I guess you are, I think, actually the only global commercial lines insurer in the first half that's actually achieved an underlying attritional improvement year on year across the U. S. And Europe because everyone else has reflected issues of particularly social inflation rather than classical loss cost inflation to do with litigiousness, etcetera.
What additional work have you done in the first half in the U. S, in particular, on looking at issues of social inflation in general liability, commercial auto, professional lines, where there's been many of your peers just a real step change in claims trends? Thanks.
Yes. Thanks, Andrew. So the first one, so thank you. I was actually down in Sydney last week. I met with the team to go through the completion balance sheet and also to look at the planning for next year.
So maybe I'll start with the headline summary. At this stage, I mean, we anticipate an outcome for 2020 that's at or around the level that we indicated in the presentation that we published when we announced the OnePath deal back in December of 2017. And from memory, that was around US200 $1,000,000 So that's still our expectation today. Now of course, where we're starting from is a bit different, certainly from the position that was the position then. Certainly, the DI issues in the local market, I mean, we see it in our own book on the Zurich side.
The key thing here is, I think, when we talk about the strategic reasons for the OnePath transaction, we pointed to a number of market features and factors that we like. I won't get into all of them on this call. I think we've talked about the fact that we've acted in the past in Australia to address weaknesses or shortcomings and we continue to be confident that we can do the same in this portfolio and drive the outcome that we committed to when we announced the transaction. I mean, there's a whole bunch of issues. I mentioned DI, you mentioned Protect Your Super.
I mean Protect Your Super is absolutely a topic that will impact those that are more exposed to group. And I think as you probably remember from the you may remember from the December conversation of 18 months ago, OnePath is a bit less exposed on the group side of the market. Having said that Protection Super well also have some knock on impact on retail. We don't expect that to be so significant, but there is an impact as trustees get pushed to make sure that people don't have duplicate cover or are not in a forced purchase position, that will mainly impact group, but it will have some impact on retail. So for us, overall, the 1st 6 months of this year are not representative for a whole bunch of reasons.
We're still confident we can drive the level that we committed to. The only thing to watch is it will be a bit lumpy next year because we have to take some action around the portfolio. And of course, some of that benefit will flow once the action has taken place. So there'll be a tendency next year for that number to be a bit more back end loaded than front end. Loss trends.
So the I mean, it's I mean, I gave an answer to Peter some of the things that, I mean, we see from a market perspective taking place. I think our view, I think without being too arrogant is that these are not things that we started in the 1st 6 months, but we see maybe because of the general pressure on the market, there's more people following the changes that we've made. So I mean, we look carefully at the trends around losses. I don't see in the data that we have some of the things that you've heard and the commentary from the others. And I guess probably the main driver of that is that if you look at the last 3 years and you look for other ways in which we don't correlate with the market, Point of presence of growth is the obvious difference.
So you've seen us act relatively early in the cycle to deal with the challenges that we have. They started with some of the large loss topics that we talked about in 2015. Mario's push to get to reinvigorate underwriting and our willingness to give up market share where the returns just didn't justify the capital allocation. And I think one of the things that we're happiest about today is the fact that you can really see the benefits of that in the commercial performance. So I can't analyze for you in detail again why we're not seeing this step change in social inflation that other people point to.
By the way, I think we have seen it. The point is that since we shrunk the impact analysis is reduced and it doesn't make it as feasible as it goes for the others. But we have been shrinking now since 3 years ago. And so it's everything is much more manageable for us than probably it is for others to grow this because we see the same trends, but the impact is completely different.
Okay. That's great. Thank you very much.
The next question comes from James Schack, Citigroup. Please go ahead.
Hi, good afternoon, everybody. So my two questions. I just wanted to return to the point around the attritional loss ratio at H1. So it's ex the PYD and ex the nat cat. If I look at kind of previous half year periods, there doesn't appear to be any seasonality around that number.
I appreciate kind of second half of the year, there's more nat cats, but it seems to have been the case in the past and perhaps you've grown in crop a little bit more. So maybe that could be a little bit more of a drag this year. But I'm just trying to get a feel for really the 61.8 attritional in H1, even if that goes up
a little
bit in H2. Am I right in kind of interpreting that the improvement in rate and what you're experiencing on the claim side and the point you made about terms and conditions, then that is a pretty reasonable starting point from which we should expect it to continue to improve as we look forward. I guess as a kind of related point around the net earned premium growth that you talk about in presentation because you're guiding now towards a small reduction for full year. That was obviously down 5% at H1. So small reduction that to me implies that maybe we should be up a little bit in the second half of the year.
I'm not sure whether that's FX related or not. Clearly, that might have an impact on nutritional loss ratios that earns through as well. So any help on that would be great. Second question was around farmers.
The sort of tone of
what you're saying with pharmas is
sort of it seems to
be quite pleased with it. I look at the GWP growth, it's up 2% on a continuing basis, and that includes the Uber partnership. Policy count is actually down in H1 versus full year. And the Life and Business Value, which was kind of meant to be a big push around cross sell, APE and your business value was also down. So can you just shed a little bit of light on why you're sort of quite a little bit more positive than I am on Pharma's performance in the period, please?
Thank you.
Thanks, James. So first of all, on the attritional, so no seasonality. And I think that's true in terms of outcomes. I think there are some factors that I think if you think about it from a planning perspective or an ex ante perspective, you would expect some. And the 2 most obvious sources of it, you mentioned crop.
So certainly in the last couple of years, the second half of the year has been a major beneficiary of the fact, I think the last 3 years has been a major beneficiary of significantly better crop performance than planned. I think I talked about that earlier in the year, and I mentioned the fact that as we planned for this year, you're going to see about a 7 point change as we move back to a more normal crop outcome. I think crop will be slightly worse than that, given the challenges in the first half and the issues we're planting. I don't think it relates to be a big issue, but the benefit that we've had from crop, that one, that doesn't move well into emerge in the second half. I think the other thing is the presence of the for the peak nat cat scenarios in the second half, they do cause seasonality that maybe not for the reason you'd expect.
I mean, obviously, we have a lot of reinsurance that's running through to cap protection. I mean, the nature of that stuff is that if we have significant events, I mean, very significant events, we get recoveries. And if we have a more normal year, we don't get any. So I mean, the reinsurance approach would tend to slightly penalize the second half in most years. But if you need to offset those two things, I guess, the other things that you mentioned on the positive side of the spectrum.
So the improvement in rates, the terms of conditions, and I guess you called a reasonable starting point, that would be far more bullish than reasonable. On the premium side of things, that's mainly FX that you're picking up. So it's the headline number that is underlying view. Of course, the actual outcome will be determined by, I mean, how the market develops. So at this stage, even if volumes were to shift in the second half, you're not going to see a big impact on earnings anyway.
Farmers?
Farmers. So why are we pleased with it? So I think the so from a management company first, so the fee based part of the business, I think they're still continuing to do exactly what we expected them to do and exactly what I think we've generally guided all of you guys to expect. So we did expect to see a bit more rates run through this year. They've had a bit more cap on the exchange side.
We don't see a significant shift again on the combined. But I mean, if you compare the pharma's technical profitability today to, I mean, just 18 months, 2 years ago, it's completely different. We do want to see them grow the policy count. We do want to see them expand more. It's a topic of discussion between us and them and how we can support them to achieve that.
I mean, everyone on this call appreciates the value of farmers. And between us and the exchange, we're trying to manage this for the best outcome for both of us. If there's any hint of something that we would like to see improved, it would have been the thing that you commented on last. So on the Life side, there's evidently more work to be done there. The things that you pointed to that are strategic priorities for us around cross sell and the growth, we haven't seen it.
We're not getting up on it. We expect the team to deliver it, but we haven't seen it yet.
But let me add something on this. We started a while ago discussing with farmers and farmers management all these issues that you raised plus some others. Things have started to change. Management has been reinforced. Actions have been changed and taking actions on the agency structure, on the project investments, on the cost basis.
They're launching new products. We see these things. And so we're confident that by doing the right things, then the numbers will come through. I understand that you haven't seen yet the numbers as they should be, but we're confident that they will come and we see the actions before they drive the numbers right. It takes always a little lag to get that, especially when you have an agency model and you have a retail business.
Okay. That's very helpful. Thank you very much.
Thanks, Yi.
The next question comes from Kamran Hossain, RBC. Please go ahead.
Hi. Just one question for me. Basically, if price momentum continues in the U. S, how does that make you think about reinsurance purchasing and kind of the actions you've taken over the last few years? Will you still seek to kind of manage volatility?
Or if pricing improves considerably, will you then begin to kind of retain a little bit more firm business on your own balance sheet? Thank you.
Yes. Thanks, Cameron. So I'm going to be very careful what I say now. So I mean, obviously, we expect to see the price momentum continue. And in fact, I mean, we saw the price momentum start, I mean, before the beginning of this year.
And we made some changes already to the reinsurance program at the very start of the year, especially around the property side of things. If you look at the major programs we have in place, I mean, we have a cat program. We have no intention to change that. So don't think that's a price driven topic. That's a risk appetite issue.
And even if we saw this stuff become fantastically profitable, it's not the kind of risk that we necessarily think we are the best carrier of. The other two things which are probably the most significant is we have a very large core share on property. I mean, we've been clear with the market when we placed that that was a risk that we seem to like less than the market did at large. And on the day that things changed, we would definitely retain more of it. So we certainly have an option around that topic to retain more.
And then there's another large contract, which again is relatively recent. And I think most of you are aware, we have a very large liability quota share. That's more like the cat cover. So that was intended to be a long term commitment. It's about the shape of the portfolio that we have.
It's a capital allocation topic in the end, but more from a longer term perspective than a short one. And certainly, if I mean, if the market continues to support us in the way it has, I mean, we would not intend to make significant shifts there. But the property topic is certainly one that every I know that every time we come through the planning process and we start to approach the renewal, we have pretty intense internal conversations about what should be in that quota share. And this year, it will be no different.
That's very clear. Thanks, George.
The next question comes from Michael Huttner, JPMorgan. Please go ahead.
Thanks very much. I had
so on cash flow, and by the
way, well done, really well done. That's amazing what you achieved. On cash flow, so you for the first time in a while, you've given us a figure at
the half
year. So it implies that there was €1,700,000,000 in the first half. Can you just explain which of your large entities have still to pay or have paid to give us a feeling for any kind of seasonality here? And the second question, which is really a bit lightweight to the punches for that. Given where markets are today, so interest rates have dropped a little bit more.
And you seem to sorry, I changed my question. You kind of indicated that the business operating profit delivery in terms of solvency is 2 points ahead where you would normally expect it. And you alluded a little bit to where it came from. Can you say what it looks like for the second half? In other words, are there any changes in that in those kind of numbers we've seen or those trends we've seen in the first half?
Thank you.
Thanks, Michael. Maybe the first one first because that's the easiest one. Not anticipating any significant shifts. And I apologize, I meant to I think I said 1% to 2% or 2% to 1%. It's about 1% above what you would normally see is.
So there's no major model shift taking place currently. I don't see one planned. So no reason to expect anything other than the operating profit and the ability of the Life business to generate new business value will be the drivers of capital generation in the second half. On the cash flow, second thing, I will resist the temptation to start to flag the people who'll be helping us in the second half of the year. They already know who they are.
I mean, we've talked in the past about the fact that if you look at last year, I mean, you see this unusual between the life side and the P and C side, where P and C was a bit weaker, life is a bit stronger. I expect life to continue to be strong this year. Not only will we see the operating cash generation, but we're still continuing some of those balance sheet optimization topics that we covered back in February. And you'll see more of those in the second half very lightly. And the reason for giving the number today, which is unusual for us, was simply to underline how close we are to the overall goal, given that probably the conversation switches fairly soon to what does the next 3 years look like?
Before that, you have to decide on the dividend. The cash is a dividend. That's for me. That was the underlying question. So I think the top line is up to you.
The only thing to be careful is that the cash flow is extremely important, but cash has never been a constraint nor honestly a driver of the dividend here. It should be about earnings because that's what defines sustainability for us. But I mean, we have a whole system at the group, which is designed to make sure that we convert earnings into cash in a disciplined and ideally rapid manner. But that's not the key factor when it comes to that dividend decision that will get made in February of next year.
Absolutely. Super. Thank you so much and well done again.
The next question comes from Nick Holmes, Societe Generale. Please go ahead, sir.
Hi there. Thank you very much. Just a couple of questions. First one is, does the fall in bond yields make you more optimistic about P and C pricing? I'm very surprised nobody has mentioned it, to be honest, because surely that could be an important contributor to getting to a properly hard market.
And then the second question is just coming to the expense ratio. Still a bit high. Wondered if you could take us through your plans or remind us where you want to go on that? Thank you very much.
Thanks, Nick. Yes, it's an important question. I mean, if you look at the movement in the markets, even very recently, we're seeing levels that we haven't seen for some time. Other interesting, if you compare them to the levels that we based the current set of targets on, I think what you would have seen is, just a reminder, the current set of targets was struck based on yields around the middle of 2016. Europe is definitely lower for sure.
It's a bit less relevant for us in Europe, given the portfolio is typically a bit shorter duration in Europe. U. S. Actually is still a touch higher. Not sure that's going to be true by the end of the week, but it's certainly true very recently.
But of course, we have had a benefit in the intervening period from the fact that interest rates have risen. I think the point you make is important. I think it could well be true that this helps sustain the price trend that we see for longer. I think the only caution I would signal is that one of them is a given today, the other one we've yet to see. But I think it's certainly helpful and encouraging the market to underwrite in a very disciplined fashion.
Yes, sorry, and expenses.
Expenses. So, I mean, you'll hear a bit of what you probably heard from me before. You need to break apart the expense ratio. We've tried to do it in the investor presentation. I think you see the continuation of the fall in the what we refer to as the OUE, the other underwriting expense or overhead components.
So that's dropped about $13,700,000 down from $14,100,000 percent. That's partly offset by 2 factors. 1 is premium taxes, which, of course, we don't entirely control, but that impact is quite small. And then on the commission topic, I think the interesting thing you see on commission, I mean, it's slightly higher. And I think you've heard today and you may have read in the press release that we have some new relationships.
We have access to another significant group of clients this time in Europe actually as opposed to elsewhere. So the commission ratio or the commission ratio component, that's driven actually by changes in Europe in the 1st 6 months, whereas in the markets that have generally been driving up in more recent times, typically LatAm and Asia Pacific, their contribution is actually smaller. But there is a net increase and that's driven by more of that mass consumer business that is slightly more expensive to acquire, but is typically less volatile and more predictable. And certainly, it just helps the overall quality of our portfolio. So as you've heard before, it's a trade off we're happy to make and the focus of the expenses has to be in the OUE ratio and we expect to continue that focus in the second half of this year.
And thank you, George. Can you give us any sort of quantification of those numbers? I think OUE is meant to be around about 13 percent is your sort of unofficial target. Is that still correct? And moving the overall expense ratio down to sort of 31% over a period of time?
On the two things, so we're looking to bring it down towards 13%. If you look at where the peer group is, we think that's roughly where they are. I think if you look at what we're still to bring in the second half, I'm not going to get all the way from where we are to 13% in one step. But you'll certainly see a further move in the second half of the year. On the commission ratio, for the reasons I gave earlier, it's a bit tricky to be really hard and fast on the commission ratio.
I mean, all things being equal, if we had done none of the portfolio change that you've seen from us over the course of the last couple of years, we would have an overall expense ratio that would be in the high 20s. But we wouldn't have the outcomes that you see from an underwriting perspective. So the overall expense ratio, we probably should identify whether we get the opportunity to do more of this. And if we see it at the right levels of return, we would do more. But our focus is mainly on UE, and we are expected to bring that down further, but point out all the way 13 by the end of the year.
Okay. Thank you very much.
Very clear.
The next question comes from Vinit Malhotra, Mediobanca. Please go ahead.
Yes, good afternoon. Thank you. So Josh, one question on P&C, 1 on Life, please. On P&C, the at the Investor Day last year, we talked about the life the commercial business in North America targeting, I think it was 3 percentage of improvement from h y to 2021. But that was before this whole momentum or tailwind from the pricing and claims recession came in.
Would you say that they are likely to change something there? Are they trying to have a higher, better target? Or is that number already getting somewhere close given that we've seen a big change in commercial? So could you just comment on the commercial U. S?
Anything you can comment on? And second question on the Life side. So based on, give or take, EUR 100,000,000 lower guidance effect to pay for 2019 now versus previously guided. Is that and I understand from speaking to the IR team that's mostly FX related. But I mean, if I very specifically, the dollar was also, I mean, all over the place last year, for example.
Is there anything else on Life that we should note regarding this guidance and any commentary there? Thank you very much.
Thanks, Vinit. So it's a good point on the first one. So Kathleen and the team have slightly overachieved first of the targets that they set at the Investor Day. Remember that there's cat in that. So there's a I mean there is some benefit there, although most of the cat benefits, so to speak, actually comes in Europe.
Obviously, I won't get into what we'll do at Investor Day in November. We need to have a look again at how we performed in the first half of the year. We're in that process currently preparing the plans and the targets for the next 3 years. And we'll come forward with another set of ambitious goals for the group when we get to November. On the Life side, so you're right.
I mean, we I think the it's really important to appreciate that, I mean, we're happy with what we see in Life. We think the constant FX performance is pretty much where we expected it to be. So the headline guidance topic is entirely driven by foreign exchange. There's also a tough comparison to the prior year. And I mean, almost half of the one off that we saw last year occurred in the first half of the year.
If you remember the FX topic around Argentina, there are always positives and moving parts positive and negative moving parts in the business. But overall, we're happy with what we're seeing in life. There are always opportunities to improve and the team are focused on those, but the overall outcome is pretty much in line with plan.
Okay. Thanks very much.
The next question comes from Johnny Wu, Goldman Sachs. Please go ahead.
Yes, thank you very much. I guess it's good that the shape of the business has changed and it's been typified by the fact that 50% of your net earned premiums are now in specialty and property. I guess, does this trend continue to happen? Or do you see other opportunities in potentially merchant casualty in shifting the business back potentially? The second question just relates to your sensitivity to rates.
I've noticed that the sensitivity to a drop in 100 bp interest rates is very sensitive now as it was compared to the end of last year, where I think end of last year is about 3 percentage points and now it's about 14 percentage points. Is it because you're opening up the duration? Or what's going on with the sensitivity there? Thank you.
So on the first one, the I think it was in response to the question earlier around reach. I apologize, I forget who asked it. I made the comment that the some of the things we're doing are really about strategic view of the portfolio. I think portfolio mix is one of those things. So that's something a bit like almost at the asset allocation, you should expect to see that change relatively slowly in any given direction over time.
So I mean, we have priorities that we haven't yet achieved around some of the specialty lines, but I mean, our view is that the current market conditions are really quite difficult to support those. So if we see further price move, maybe you'll see a bit more specialty move into the portfolio. And the specialty for us also includes credit, and this doesn't feel at the right point in the cycle to really push credit. So I mean, think of this more of as a strategic view, there'll be some tactical movements, but the overall goals for the portfolio remain the ones that we laid out, I think at least a couple of years ago. Now on the sensitivities, I think, I need to go back and look because I don't recall a change of that magnitude.
I mean, there is a lack of linearity for obvious reasons. So as interest rates get compressed, you have a risk of developing higher sensitivities. But that scale change would surprise me. So we need to have a look and come back to you. Sorry, Johnny.
Okay. No worries. Thank you.
The next question comes from Farooq Hanif, Credit Suisse. Please go ahead.
Hi, everybody. Good afternoon. Just want to ask one of Vinit's questions in a slightly different way. So going back to the Investor Day, you talked about a potential convergence of your commercial combined ratio. I think you commented off of 99.5% commercial combined ratio in the U.
S. With big peers. Can you talk about the relative how you see your relative positioning and profitability in the U. S. Versus those peers and whether that closed gap is now sustainable and where it needs to be?
And then secondly, just a very quick question on CoverWallet. I see that you're very happy with it and you're going you're expanding into Switzerland. Can you just briefly tell us what the learning has been? I mean, has it given you access to new premium growth? Or has it been an expense ratio reduction in SME?
What is the learning? And how far could this go throughout your business? Thanks.
So thanks, Farooq. So on the convergence with peers in the U. A, I think you need to give us a bit more time to absorb what we've seen of the peer groups. Of course, one of them only reported last night. I mean, we did a lot of work ahead of the Investor Day.
So we want to repeat that exercise to get a sense of where we see ourselves relative to others. But I mean, for obvious reasons, we're really happy with the progress, which driven by commercial, driven by the U. S, it's a great combination. But I think we need a bit more time with the peer information before I can really draw any conclusion and depth from it.
Do you have a combined ratio for the commercial as opposed to alternative markets for 1H 2019?
For the U. S? Yes. We'll get one for you. We have it.
It's not a state secret.
We definitely have it.
Of course. Yes. Our team will come back to you. On CoverWallet, CoverWallet is pretty new in Switzerland. I can't say much there.
It's been running in Spain for a bit longer. It's still at a level where it's not so material to the group. I think most of us have seen what CoverWallet does, how it works. I mean, for me, I mean, having looked at it, I mean, what's impressive is the ability to package something for a buyer in a way that helps them make sure they protect themselves across all the different risks that they might have without them having to stitch that coverage together for themselves or to find an agent to do it for them. It's a fairly inexpensive system, as you can imagine.
Ease of use is really very high. And we have high hopes around Switzerland, where we're a bit underpenetrated on the SME side, and we think we have a very significant opportunity here, but too early really to draw too many conclusions. Yes.
Look, and in general, the SME opportunity is so big that you can pursue it only with one solution. So CoverWallet is very interesting because it allows us to contact the customers among the SMEs who are already connected online and they can be reached out of the web. But that's a portion of the huge, huge ocean of SME customers in Europe or in other continents. And so we're also using every other possible distribution mean to reach out to the SMEs. Switzerland has an SME program, which has been developing very nicely in H1.
In Cobreworld, it is part of it, but it's not a big program altogether.
Thank you very much.
Welcome.
The next question comes from William Hopkins, KBW. Please go ahead.
Hi, thank you very much. I'm back on those, that ECM sensitivities, please, George. Is there any way that you can give us a hint an idea of what the absolute interest rate is that you're plugging in around which the sensitivities are being shown. I appreciate that it's going to be fiendishly complicated and based on curves and that kind of thing. But in the back of my mind, there's going to come a point when showing 100 basis basis point reduction is implying that you've got significantly negative inputs across the curve, which at some point is going to sort of mean that your calculation is technically correct, but possibly economically kind of meaningless.
So I'm just trying to get a sense about what the absolute rate is, so what you would be at if you took it down 100 basis points? And then secondly, could you give us any kind of qualitative or quantitative updates on where your Solvency II ratio equivalent could have moved? Because again, the difficulty with both the ECM and the SST is that potentially exaggerating an awful lot of these market movements. So the divergence with
the hints you've given us in
the past could have moved on. Thank
you. So thanks, Will. So on the first one, I think maybe a topic that the IR team could cover in more detail with you after the call. On the issue of having significantly negative rates, I mean, obviously, on the asset side of things, we will have significantly negative inputs in some parts of the model already, especially if you look at Europe. But I appreciate there are other aspects of the model where you might well floor things because in the real world, you're not going to get maybe the same thing you'd see on the borrowing side on the asset side.
But I mean, please speak to Richard and the team afterwards and they can walk you through that in more depth. I don't have an update at the half year around Solvency II or the potential difference between where we are now from a ZECM or SST perspective and what you would have seen versus the peer group. If you look at us, and I think I mentioned in the early part of the call, there's about 7 points of market movement. We see that mainly as the longer interest rate in Europe and the impact that, that has on some of the very long liabilities we have on the Life side. Again, I don't know if to what extent we've seen that quite so much in the peer group.
There would be some impact from the ultimate forward rates in the Solvency II system that would certainly dampen that more than you would see for us. I think probably that delta on its own, I mean, maybe it's a few points. It's not so significant, I think, in the actual comparison. I think it's the starting point of the basic SST versus Solvency II framework. And I did talk about the delta.
I think back in the February call, maybe the May call, in the past, I mean, we've highlighted, I mean, differences of up to 50 points or more between SST and Solvency II. And we think they're still valid. And in fact, on the most recent data we've seen, it would be higher today. That's great. Thank you.
We have a follow-up question from Peter Eliot, Kepler Cheuvreux. Please go ahead.
Thank you very much for taking another one. Two more if I may. First of all, maybe just to carry on the Life topic. I mean, if I just look big picture down, then I mean, one thing I noticed was that the costs sort of seem to be increasing a bit on a like for like basis. And that's despite new business being down.
So it can't sort of really be attributed to the acquisition. So I was just wondering if you could sort of comment on that dynamic and if we might see any improvements going forward. The second thing was I was interested, you flagged IFRS 17 costs of €50,000,000 to €100,000,000 in H2. I'm just wondering if you could comment any further out or in terms of total costs or if you've done the sort of analysis and anything you might expect in the future? Thank you.
Yes. Thanks, Peter. So on the cost side of it, I mean, you've seen most of the benefit flow through the P and C side. I mean, there is some benefit that's been partly obscured because some of it gets shared with the policyholder, some of it falls to the shareholder. In the second half, I mean, I think if you look at it, certainly from an operating profit perspective, you will see the impact, for example, some of the integration what we're doing in Australia.
We do have a synergy goal there, and that will show up on a like for like basis with the Australian business in the starting point.
I mean,
otherwise, the main focus for us has really been on the P and C side and trying to drive most of the expense improvements through there. Although you have seen life improve certainly earlier in the time series. IFRS 17, so I'm glad we're only talking about costs and not the project itself. I think having said that, it's probably worth giving you a sense of where we are. So in fact, today is the 1st delivery day for our Tier 1 entities and our first practice run of IFRS 17.
So we're actually having the company's report up today as we speak. I don't know that the numbers will make too much sense in the first go around, but we have plenty of time to protect them over the course of the next year or 2. We haven't given a total cost number, but I mean, we're running, I mean, between 50 to 100, I mean pretty much every year this project runs currently, which is one of the reasons why we're keen to see the whole conversation come to an end and for the thing to get adopted so that we can start all start to understand it together and move on. It's extremely expensive. And unfortunately, while it does have benefits, I am not sure they will outweigh the costs.
Okay. Thanks a lot.
We have another follow-up question from Michael Huttner of JPMorgan. Please go ahead.
Fantastic. Thank you so much. On the in Farmers, you have a surplus ratio, which I think is better than your target, so 41%, an improvement of €200,000,000 over the year end of €5,700,000,000 What can you do with that money? How does it benefit you given that the growth is still relatively modest? Thank you.
Unfortunately, Michael, that's not our money. So that belongs to the exchange. So that's the surplus ratio. And then I guess The one thing I would point out is the exchange has been a big buyer of reinsurance. I mean the capital strength means that they can retain more of it.
But in essence, any benefits that flow from the management surplus really will accrue to the exchange and not really deserve it. Okay. Thank you very much, everybody, for dialing in. If you do have any further questions, please don't hesitate to call the Investor Relations team. We'd be happy to take any other questions that you might have.
Thank you very much, and goodbye.
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