Full Text: Moody’s revises rating outlook for Australian mortgage insurers to negative

Below is the press release issued by Moody’s in conjunction with the down grade of Australia’s mortgage insurers.

Sydney, December 20, 2011 — Moody’s Investors Service has revised to negative, from stable, the outlook for the insurance financial strength ratings (IFSR) of QBE Lenders’ Mortgage Insurance Limited (QMI, IFSR Aa3), Westpac Lenders Mortgage Insurance Limited (WLMI, IFSR Aa3) and Genworth Financial Mortgage Indemnity Limited (Genworth Indemnity, IFSR A2). Genworth Indemnity is a run-off subsidiary of Genworth Financial Mortgage Insurance Pty Limited (Genworth Australia, IFSR A1). The outlook for the IFSR of Genworth Australia remains negative.

RATINGS RATIONALE

The revised outlooks follow the publication on December 12, 2011 of a report outlining Moody’s negative outlook for the Australian lenders’ mortgage insurance industry (LMI) and reflect the rating agency’s concerns regarding the companies’ exposure to tail-end outcomes in the Australian housing market.

"Although the financial metrics of rated LMIs suggest these firms are well-positioned for the comparatively stable conditions we expect for the Australian housing market in the near term, we believe there are meaningful uncertainties about tail-end scenarios over the mid-term which place downward pressure on the LMIs’ credit profiles", says Ilya Serov, Moody’s lead analyst for the Australian mortgage insurance sector.

While Moody’s views the probability of a severe housing crisis to be low, a greater degree of caution with regard to the future performance of Australian mortgage portfolios is warranted. In particular, a number of risk factors have been either increasing in intensity over the recent past, or remain elevated:

– The broad macroeconomic environment is mixed with the positive impact of the ongoing commodities boom tempered by the effects of deleveraging by both the private and public sectors. Certain industries and geographic regions are under significant pressure. As a result, default and delinquency rates in the mortgage market are likely to be variable regionally and increase on average over the next decade.

– Elevated house prices and mortgage debt levels are a key vulnerability for the Australian LMI industry. The sensitivity of the mortgage insurers’ portfolios to a serious economic downturn is yet to be tested at current house prices and levels of indebtedness.

– The rated LMIs reported increases in loss ratios during the 2008-09 downturn, rising from, on average, sub-10% in 2005 to close to 50% in 2008. The ratios widened even though the economic downturn in Australia was relatively mild, which indicates the high sensitivity of the credit profiles of the LMIs to the housing market.

– Australian LMIs remain capitalized at a level above regulatory requirements. However on December 12, 2011, Moody’s released a request for comment, outlining its proposal for changes to the default rate and house price stress rate assumptions underpinning its residential mortgage-backed securities (RMBS) and LMI analysis, as well as changes to the methodology used in Moody’s collateral analysis model. The revised assumptions under Moody’s "Severe Stress" scenario suggest materially lower capital cushions for LMIs than those incorporated into the existing ratings.

Taken together, these factors expose Australian mortgage insurance companies to adverse developments in the Australian housing market.

Moody’s also noted that, mitigating its concerns, the companies maintain a conservative underwriting profile, with low documentation products accounting for only a minor proportion of their insurance-in-force. The companies have no exposure to sub-prime loans. In addition, the rated LMIs have undertaken significant efforts in improving the amount and quality of available capital through ongoing capital generation from profits, one-off injections and/or improvement in reinsurance arrangements.

– Prior to 2009, Genworth Australia had all its reinsurance covers with related parties, but external treaties were introduced in 2009 and 2010 to reduce the concentration risks inherent in that structure.

– WLMI was given a capital injection of AUD 300 million from Westpac to support the novation of the St.George Insurance Australia Limited’s portfolio, obtained by WLMI as part of the merger between Westpac Banking Corporation and St.George Bank Limited. In addition, WLMI has quota-share reinsurance arrangements with a panel of external reinsurance providers for standard loans with a loan-to-value ratio between 80% and 90% and non-standard loans with a loan-to-value ratio between 60% and 80%. These arrangements cede 60% of WLMI’s risk-in-force to the reinsurers.

– QMI has an excess-of-loss arrangement put in place with Equator Reinsurance Limited (Equator Re), QBE Insurance Group’s captive reinsurer.

Moody’s also noted that Genworth Indemnity has been in run-off since 2003 and is now capitalized at levels substantially above regulatory requirements or its peers.

Moody’s outlooks address potential rating pressures over the next 12-18 months.

Greater detail regarding Moody’s views on the Australian mortgage insurance industry can be found in reports titled "Australian Mortgage Insurance: Negative Outlook" and "Moody’s Australian Mortgage Insurance Industry Scorecard". They can be found on www.moodys.com.