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Bullish outlook for insurance next year [31-12-2012]  
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THE insurance industry is expected to see a high single-digit growth in premium income.

The bullish outlook is supported by growing affluence among the middle-income population and healthy consumer spending power; an underpenetrated market (compared with that of developed nations, the penetration rate is 4.5% to gross domestic product (GDP), according to the 2011 Economic Transformation Programme Annual Report) and innovative products through channels like bancassurance and agencies have enhanced the profits from life insurance.

We believe the industry's growth will continue to outpace GDP growth as the Government has pledged to increase insurance protection of the low-income household segments, which bodes well as the Asian region as countries are facing pressure to elevate their respective minimum wage. Should Malaysia follow on this this trend, it should be able to channel more disposable income to purchases of insurance policies.

The Government also recognises the need to safeguard savings, retirement funds and provide health protection for the people. As such, it aims to increase life insurance penetration from 2.8% currently to at least 4% of GDP, or 75% in terms of number of policies over population, by 2020.

The takaful segment is expected to continue registering a high double-digit growth of around 20% through 2014. Insurers increasingly identified takaful as a high-growth, profitable segment. The penetration rate of about 13% for family takaful (measured by number of life policies over population) is an indication of the latent potential for takaful versus conventional life insurance's 55%. That said, the takaful industry is still at an early stage of development, with growth expected to outpace the growth of conventional insurance, supported by the following:

● increasing awareness to diversify takaful from being a niche segment catering to Muslim communities;

● enhanced regulatory reforms to support takaful infrastructure

● identifying common grounds or workable solutions for issues faced by syariah committees and industry leaders;

● stronger participation and liquidity in sukuks and syariah-compliant instruments to support investment income; and

● strengthening takaful and retakaful capacity.

The risk-based capital (RBC) framework for Islamic banking and takaful, expected to be finalised soon, is not expected to significantly differ from the framework applied to conventional insurers, but will, nonetheless, enhance valuations in the takaful sector.

The surge in mergers and acquisitions (M&A) activities as a result of the industry's liberalisation has re-rated industry valuations. The weighted average price-per-book values arising from the transaction values were recorded at above 2.2 times, with the latest deals being the acquisition of ING's business by AIA, CIMB Aviva's stake sale, Pacific and Orient Bhd's divestment to Sanlam Emerging Markets Propriety Ltd and UMW Holdings Bhd's divestment of its insurance unit.

This is due to the ceiling for foreign ownership being raised from 49% to 70% since 2009, increased participation of foreign insurers with greater regional scale and access to capital, and attaining strategic fits to fulfill capital adequacy requirements of the RBC framework and changing regulatory requirements.

We believe the industry consolidation will progress as players are still aligning their operational efficiency to adapt to an increasingly competitive and free market. Any changes in the rules of the game, like Bank Negara's decision to take the cap off acquisition costs and commission rates, may further spur the industry's consolidation as the smaller insurance players may lack the capital and size to compete in a free market.

Therefore, we view the RBC framework for takaful and the Competition Act as key determinants of the direction of M&As in the insurance industry. The industry capital-adequacy ratio of 222.5% in 2011 was above the comfortable internal target capital level and supervisory capital-adequacy ratio of 130% each insurer is required to comply with.

We maintain our “neutral” call on the insurance sector given that it has been substantially re-rated due to M&A activities.

We like Syarikat Takaful Malaysia, we give it a “buy” call and fair value of RM8.02, for its long operating history and leading position in the takaful segment and attractive dividend yields.

We maintain our “neutral” call on LPI Capital, fair value of RM14.82 and Allianz Malaysia fair value of RM8.02 for its resilient underwriting strengths and solid financial performance.

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