J.P. Morgan: Dollar Fall May Hurt Europe's Insurers

J.P. Morgan commented that for the insurance sector, it has focused on "the translational impact" of currency on earnings. "For non-life companies, the impact comes through investment income since underwriting results are expected to be small–that is, combined ratios forecast to be around 100 percent," the firm noted.

One of the companies that could see its 2004 earnings erode is Swiss Reinsurance Company, with J.P. Morgan forecasting that the Zurich, Switzerland-based reinsurance giant could suffer a seven-percent drop in its net profit this year through its U.S. dollar exposure.

Swiss Re has a target of revenues being 2 percent greater than claims and expenses, which would be equivalent to a 98 percent combined ratio, J.P. Morgan noted.

The firm said the reinsurer's main earnings sensitivity is to changes in investment income. "Swiss Re's experience is that an 18 percent fall in the dollar versus the Swiss Franc leads to a 15 percent fall in investment income," according to the investment brokerage firm. "We have fed this through our model, and therefore cut our 2004 net profit forecast by seven percent."

Munich Re is another European reinsurer that could see its earnings take a hit, J.P. Morgan warned. The firm said it has lowered its 2004 earnings forecast for the Munich, Germany-based company by three percent.

J.P. Morgan said that 40 percent of Munich Re's non-life business is exposed to the effects of the U.S. dollar. However, since assets and liabilities are matched in local currency, the biggest impact would instead come from lower investment income. "We have cut our 2004 estimated net profit forecast by three percent," J.P. Morgan said.

The brokerage firm also forecast that the Hannover, Germany-based Hannover Re, whose investment income is estimated to be 20 percent U.S. dollar-denominated, is likely to see its earnings drop in 2004.

"We estimate from Hannover's 2003 third-quarter results that a 20 percent decline in the dollar leads to a 0.8 percent reduction in investment yield," the firm said. "When these factors are put through our model, we see a four percent reduction in our '04 earnings forecast and a three percent reduction in our '05 forecast."

Discerning the weakening U.S. dollar's effect for Converium Holding AG, however, gets a little more complicated, since the declining U.S. currency will have some positive, as well as adverse, effect on the company's earnings reports.

Since the Zug, Switzerland-based company largely reports in U.S. dollars, the falling dollar will have a positive impact on reported net earnings per se, as some 50 percent of earnings are in European currencies, J.P. Morgan said.

But on the down side, a mismatch in administrative expenses between the United States and Europe could add around 0.5 percent to the non-life combined ratio for each 20 percent drop in the value of the U.S. dollar.

The second adverse effect for Converium is the translation of U.S. dollar-reported earnings into Swiss Francs, because the Swiss currency itself has fallen against the Euro. J.P. Morgan said that because of these different and opposing factors, its Swiss Franc per-share earnings forecast for Converium has been cut by two percent for 2004, but its 2005 earnings forecast has jumped up by three percent.