A.M. Best Co. has affirmed the financial strength ratings of the subsidiaries of Cincinnati Financial Corporation.
The affirmations include A++ (Superior) for the property/casualty group of The Cincinnati Insurance Companies and A+ (Superior) for The Cincinnati Life Insurance Company (all of Fairfield, OH). Concurrently, although the debt to capital ratio has improved from 2002 due to realized capital gains, A.M. Best has downgraded the debt rating of Cincinnati Financial Corporation’s existing $420 million of 6.90 percent senior debentures to “aa-” from “aa” to bring it in line with A.M. Best’s notching guidelines. All rating outlooks are stable.
The affirmation of the financial strength rating of The Cincinnati Insurance Companies, the property/casualty group, reflects its superior risk-based capitalization, favorable operating results and long-standing independent agency distribution strategy. In addition, unlike the majority of the commercial lines sector, The Cincinnati Insurance Companies have annually reported favorable loss reserve development and appear to be reserving current accident years more conservatively, which lends considerable stability to the organization.
Partially offsetting these factors are The Cincinnati Insurance Companies’ high common stock leverage, elevated catastrophe leverage and payout of stockholder dividends, all of which have contributed to the decline in statutory surplus over the five year period. The largest factors for the five-year decline in statutory surplus are the adoption of NAIC Codification and the resulting deferred tax liabilities recorded for unrealized gains on equity investments.
The Cincinnati Insurance Companies’ statutory surplus is highly susceptible to fluctuations in equity market values as common stocks represent more than 100% of statutory surplus and to severe catastrophe losses given its concentration of business in the Midwest and earthquake exposure related to the New Madrid fault. This risk is somewhat mitigated by The Cincinnati Insurance Companies’ conservative underwriting leverage, solid liquidity and cash flows as well as the financial flexibility of its parent. Going forward, A.M. Best expects the companies to maintain superior risk-adjusted capitalization as favorable operating margins generate growth in statutory surplus reducing both common stock and catastrophe leverage.
In view of the concentration of the holding company’s assets in common stock equities, combined with those of the subsidiaries and the exposure of the market value fluctuations of those assets to changes in the stock market, A.M. Best has reconsidered its atypical one notch differential between Cincinnati Financial Corporation’s senior debt and the insurance subsidiaries issuer credit rating.
While the holding company maintains significant liquid assets that exceed its debt obligations, has demonstrated consistent earnings and good available cash flow coverage of fixed obligations, the debt rating downgrade reflects the concentration of assets and their correlation to the insurance subsidiaries exposure.
The rating affirmation of the life/health operation reflects its strategic position within Cincinnati Financial Corporation, its expanding geographical presence, utilization of full-time life insurance specialists embedded within the property/casualty based independent agency network, independent life agencies, consistently positive statutory operating performance and its strong level of risk-adjusted capitalization.
Partially offsetting these positives are the life company’s elevated exposure to common stocks and its impact on the company’s net income and asset valuation reserve, and lower operating profitability due to losses from accident and health lines of business and surplus strain due to acquisition costs of writing increased amounts of new business.
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