Daily briefing: Tuesday – Europe watches ratings

S&P’s announcement that it is considering downgrading the sovereign ratings of 15 eurozone countries will bring little cheer to insurers with eurozone government bond exposure.

The rating agency said it had put the 15 countries on credit watch with negative implications, which essentially means that there is a one in two chance of a downgrade in the next 90 days.

Some countries will be hit harder than others: the worst that can happen to Austria, Belgium, Finland, Germany, the Netherlands, and Luxembourg is a one-notch downgrade (for example, if their rating is AA it will be lowered to AA-). However, the rest could face a downgrade of up to two notches (for example from AA to A+).

Looking to the USA

Optimists may look to the USA. S&P’s downgrading of that country’s sovereign rating to AA+ from the most secure rating of AAA had no noticeable effect on bond investors’ appetite for US government paper.

Many of the eurozone economies will still have very secure ratings even after a downgrade, and while government bonds are now deemed less secure than they were, they are still seen as a relatively solid bet.

However, S&P’s announcement is a grim reminder of the trouble the eurozone is still in, and how far away a solution still is. One of the reasons the agency gave for its rating review is a lack of agreement among policy-makers about how to tackle the crisis.

Politicians are making the right noises – Germany’s Angela Merkel and France’s Nicolas Sarkozy, for example, have agreed on a proposal for new fiscal rules for the eurozone.

But it seems everyone else will not be satisfied until a solution has been settled on. Judging from its press release, S&P is waiting for the outcome of this week’s EU summit before making its decision.

Continued lack of confidence

This continued uncertainty and lack of confidence will not help the stock prices of eurozone debt exposed insurers.

One thing insurers can be cheerful about today is the expected improvement in 2011 motor results.

Accounting firm Ernst & Young has predicted that the 2011 combined ratio will be 20 points better than 2010’s dreadful 121% – a sign that all the hard work on raising rates and improving claims processes is paying off.

However, insurers shouldn’t get complacent. As E&Y points out, bodily injury claims inflation has not gone away, and insurers face increasing pressure from consumer groups and politicians to cut rates. Insurers may have won the battle but the war is far from over.