Solvency Determinants of Conventional Life Insurers and Takaful Operators

Abstract

The business of insurance is based on the trust of its policyholders, who expect that their losses will be compensated should the need arise at any time. Thus, sound financial conditions constitute the most important criterion for insurance firms, as well as for takaful operators. Although the policyholder may be the most important source of insurer finance, or a debt holder from an economic point of view through premium payments, the policyholder is not well informed in assessing the financial strength or solvency of the life insurer. Various measures of the solvency of the insurer are used in the industry, such as margin of solvency (MOS), risk based capital (RBC), and claim paying ability (CPA) rating. Unfortunately, none of these can provide information to policyholders on the financial position of the insurer. This is because the MOS and RBC for each insurer is the company's and regulator's confidential information. However, for the CPA rating, it is limited to insurers who wish to be evaluated, and therefore the assessment is not comprehensive. Because of these shortcomings, this study provides a platform for policyholders to get an idea of the solvency of the insurers/takaful operators. Furthermore, this study identifies factors that affect the solvency of the insurers/takaful operators in Malaysia. Using random effects regression on panel data for 2003-2007, it is determined that investment income, total benefit paid to capital and surplus ratio, financial leverage, and liquidity are significantly related to solvency, in which the investment income has a positive relationship, while the other three have a negative relationship. From the results obtained, the policyholders/consumers can assess the insurers' financial strength through the solvency determinants of the insurers/takaful operators, even though the actual level of solvency is not known. To some extent, this information can help policyholders/consumers make smarter choices in choosing the insurers/takaful operators

Dynamic financial model of life insurance and family takaful companies in Malaysia

“…Total sample or number of observations for the panel data analysis is 85 observations; 55 and 30 for life insurance and family takaful, respectively. The general form of the empirical regression model for a panel data is in the following form, which is adopted from Yakob et al (2012), with some modification in order to suit this paper's econometric model.…”

“…On the other hand, Chen and Wong (2004) mentioned in their studies of determinants of financial health of Asian insurance companies (life and non-life) that, from the literature on capital structure, a firm's value will increase as leverage increase but up to an optimum point as leveraging beyond the optimum point signals high risk of insolvency and low value of the firm. In relation to this, Yakob et al (2012) found that financial leverage as measured by ratio of premium to surplus is negatively related to solvency of life insurance companies in Malaysia. Charumathi (2012) found leverage to be negatively related to profitability.…”

“…As for solvency, according to Yakob et al (2012), factors affecting solvency of the insurers and takaful operators in Malaysia are investment income, total benefit paid to capital and surplus ratio, financial leverage, and liquidity. The results showed positive relationship of investment income with solvency, and negative relationship for the other variables.…”

“…as firmspecific factors. Meanwhile, Akotey et al (2013) selected gross written premium, claims expenses on management, reinsurance, total debts, company size and Yakob et al (2012) included premium-to-surplus, reinsurance-to-premium, benefit-to-surplus, cash flow-to-liability, total benefit paid-to-premium, real estate-to-asset ratios, as well as investment income, to reflect firm-specific factors.…”

“…This will reduce the probability of rejecting the null hypothesis. In order to detect multicollinearity between the independent variables, Pearson's correlation coefficients test was used (Adams and Buckle, 2003;Yakob et al, 2012;Ismail, 2013). Since there was no variables detected to have correlation coefficients more than 0.8 or less than -0.8, as can be seen from Tables 6 and 7, the result indicated that multicollinearity problem was not exist in both takaful and insurance.…”