Aegon Limited

Good day and welcome to the AGON Q1 2020 results conference call. Today's conference has been recorded. At this time, I would like to turn the conference over to Mr. Biedema. Please go ahead, sir.

Thank you. Good morning, everyone, and thank you for joining this conference call regarding AGON's first quarter 2020 update. We would appreciate it if you could take a moment to review our disclaimer on forward-looking statements, which you can find at the back of the presentation. Given the unprecedented impacts of the COVID-19 crisis, our CFO, Matt Ryder, will give you an update on our financial performance and capital position for the first quarter of 2020. At the end of the presentation, we will of course leave more than sufficient time for your questions. I now hand it over to Matt.

Thanks, Jan Willem, and good morning, everyone. Thank you all for your continued interest in AHON and for joining us on today's call. Due to the unprecedented situation caused by COVID-19, we consider it important to provide you with an update on our first quarter financials. Before we start with that, I would like to take the opportunity on the next slide to share with you our response to the pandemic, which has clearly changed the world as we know it. We are acutely aware of the disruption, fear, and pain that this outbreak has caused for so many, our employees, our customers, and for people in the communities in which we operate. Our number one priority is to protect the health, safety, and security of all our stakeholders. We are dealing with extraordinary circumstances, and I am pleased to say that our resilience, experience, and business continuity plans have enabled us to serve our customers at a high level. Our purpose to help our customers achieve a lifetime of financial security remains the same. We believe we are well positioned to manage through this difficult period. We have introduced a global framework to protect various solutions have been implemented. For example, call center staff can answer calls from home and we have enhanced our capabilities to digitally interact with customers. This has been done while abiding by the same high standards regarding cybersecurity to which we always hold ourselves. We're also working closely with our critical outsourcing partners to avoid disruption in our operations so that we can continue to serve our customers. We are offering information and guidance on, for example, travel and medical insurance to affected customers. For those customers facing overwhelming financial challenges, we're providing financial relief on a case-by-case basis. For example, we're offering flexibility on mortgage payments in the Netherlands and fee waivers on withdrawals from retirement plans in the United States. And last but not least, we are supporting the communities in which we operate, as we can only overcome this crisis together. We have donated medical supplies and food to the elderly and supplied protective gear to frontline healthcare workers. Furthermore, the Agon Transamerica Foundation made a donation to Direct Relief to support their ongoing relief efforts during this pandemic. With this, I'd like to now turn to the next slide. Today I'm going to talk about three topics, Agon's financial performance for the first quarter of 2020, our capital position, and the management actions we are taking to deal with the current uncertainty. The COVID-19 pandemic led to volatile financial markets and to even lower interest rates in all of Agon's markets, which resulted in negative impacts on underlying earnings. Adverse claims experience related to COVID-19 was limited in the first quarter. Life sales and net deposits were also largely unaffected in the first quarter, as lockdowns in many of our markets were only put in place in the second half of March. In the coming months, we expect those sales that depend on face-to-face contact to be impacted negatively. Furthermore, we will also likely see some of our customers tapping into their pension savings, enforced by the current circumstances. Our capital position remains solid and with a Group Solvency II ratio of 208% above the target range. Capital ratios of the US, the Netherlands, and UK operations are all above the bottom end of their respective target zones. Holding excess cash remains in our target range and we are maintaining more than adequate liquidity buffers. This together with several management actions that we have taken to protect the value of the balance sheet provides the stability that is so important in this crisis. At this time, it is difficult to provide an update on our medium-term targets due to the uncertainty around how the pandemic will play out and the continued economic impact that it will have. However, we believe that the effects of the COVID-19 crisis will have a material impact on our results in 2020, although the impact is uncertain at this stage. In light of the extraordinary circumstances, it is very unlikely that we will reach our annual 10% return on equity target in 2020. Let us turn to Agon's financial results for the first quarter on the following slide. On slide four, you see the group is reporting net income of €1.3 billion and underlying earnings before tax of €366 million. Underlying earnings in the UK, the Netherlands, asset management, and in our international businesses held up well. Asset management in particular benefited from performance fees from Agon's asset management joint venture in China. In the U.S., underlying earnings were negatively impacted by an intangible adjustment of 37 million euro as a result of significantly lower interest rates. We also observed adverse mortality concentrated in March with an impact of 62 million euro. This was mainly driven by higher frequency of large claims at older ages in the universal life and traditional life business, even after adjusting for normal seasonality. Long-term care benefited from increased claims terminations. The majority of claims terminations in long-term care and the mortality experience in life can't be attributed to the COVID-19 disease. Retirement plans earnings are under pressure from lower fees resulting from lower average asset balances. We also saw an adverse impact due to increased market volatility, for example, from transfers of assets from off-balance equity type to general account investments. Earnings in variable annuities were impacted by higher reserves as account values became less than the guarantees, primarily from the significant decline in interest rates and equity markets in March. Fair value items amounted to a gain of €1.4 billion, as losses in the U.S. were more than offset by gains in the Netherlands. In the U.S., our hedge programs worked well and were highly effective. The macro hedge protected Transamerica's RBC ratio and generated a better-than-expected result from put options as increased implied volatilities were reflected in option prices. The variable annuity dynamic hedge program and indexed universal life hedges were also highly effective. However, market volatility and unhedged risks led to negative impacts, as did the underperformance of alternative investments. In total, the U.S. reported €660 million of fair value losses. In the Netherlands, we saw a large positive contribution from the impact of credit spread widening on the valuation of our liabilities, which resulted in a benefit of €1.1 billion related to the liability adequacy test. In addition, the interest rate hedges performed well and contributed another €800 million. I now turn to slide five. The group solvency ratio increased to 208% during the first quarter and remains above the top end of the target range of 200%. This increase was primarily due to normalized capital generation and, on balance, the positive impact from market movements in the first quarter. The significant negative overall impacts from lower equity markets and lower interest rates in the U.S. were more than offset by the significant positive impact of the increased IOPA volatility adjustment on the solvency ratio of the Netherlands. We would like to also provide an estimate of the group solvency ratio per the end of April in light of the current market volatility. We estimate a group solvency ratio between 190 and 200 percent. The estimated decrease since since March is mainly driven by the impact of a lower IOPA VA. This more than offsets a higher RBC ratio in the U.S., resulting from credit spread tightening and higher equity markets. In the first quarter, normalized capital generation after holding and funding expenses amounted to 311 million euros. For the U.S., normalized capital generation suffered from adverse mortality results. Netherlands had strong capital generation supported by a realized gain on our Dutch mortgage servicing business from an intercompany sale. Let me now move back to solvency and discuss our main units. As slide 6 shows, all our main units are above the bottom end of their respective target ranges despite the significant market movements of the first quarter triggered by the COVID-19 pandemic. In the US, the RBC ratio decreased to 376%. Falling interest rates and equity markets were the primary drivers. Furthermore, 10 percentage points decrease of the RBC ratio resulted from widening credit spreads on unhedged credit risk in the variable annuity book. Another six percentage points decrease resulted from defaults in credit migration. The impact of these adverse market movements was amplified by the partial lack of a tax offset. The severity of the first quarter market movements led to inadmissibility of certain deferred tax assets in the U.S. The RBC ratio has strengthened since and is estimated to be between 390% and 400% at the end of April. This increase since the end of the first quarter is driven by a partial reversion of the impact from untargeted risks and higher equity markets. In the Netherlands, the Solvency II ratio improved markedly from 171% to 249%. This was mainly driven by the significant increase of the IOPA volatility adjustment during the quarter. Together with the positive impact from widening credit spreads on the own employee pension scheme, This more than offset the negative market impacts from widening credit spreads and mortgage spreads on asset values. A significant increase of the Solvency II ratio again demonstrates the sensitivity of our Dutch business to credit spreads. The record high level of IOPA VA, 46 basis points, has increased the ratio at the end of March. If we would apply an IOPA VA of, say, 15 basis points, This would lead to a ratio of 194% for the Dutch business for the end of March. The Group Solvency II ratio on that same basis would have been 187% instead of the reported 208%. In the UK, the Solvency II ratio increased to 160% per the end of the quarter. The increase was driven by normalized capital generation Market variance on balance also had a positive impact on the ratio. Negative impacts from lower interest rates and equity markets were more than offset by the positive impact of widening credit spreads on the valuation of the own employee pension scheme. Let me now take you to the next slide and zoom in on hedging and other management actions. We are taking several steps to protect the economic value of Agon's balance sheet in the current crisis, as outlined on slide 7. As already mentioned, the hedge programs have performed well. At the end of the first quarter, we have rebalanced the macro equity hedge in the U.S. to increase downside protection while controlling hedging costs. The macro equity hedge has now changed emphasis from tail projection toward a more linear protection. It still has a target to protect the RBC ratio decline. In case of a 25% downturn in the equity markets in the quarter, the decline in the RBC ratio is limited to 25%. The protection between an equity market downturn between 0% and 25% is now a bit more linear. We are satisfied with our current asset allocation and have therefore not taken any major actions to shift the allocation in recent weeks. However, we do capture the opportunities that this situation offers and our focus on our reinvestments on corporate bonds, new issuances to benefit from higher spreads. We focus reinvestments on higher credit, higher rated credit and in industry areas less affected by the COVID-19 crisis. We are monitoring crisis-affected asset classes closely. In the underwriting and pricing areas, we have repriced the variable annuity products as of May 1st, which leads to lower withdrawal rates and lower guarantees, and therefore leads to better economics. This was followed by the first new variable annuity product launch on TCS's banks platform. This product features principal protection and customers benefit from upside potential, which makes this product well-suited for the current markets. Furthermore, we have adjusted some specific underwriting requirements to further protect our balance sheet. For example, we currently restrict coverage for new policies for certain age groups, postpone coverages for customers with confirmed COVID-19 exposure in the US, and have adjusted underwriting criteria and travel and income protection in the Netherlands. Coverage that was in place prior to the COVID-19 outbreak will obviously be honored. Next to this, we have implemented several capital preservation measures. We're currently limiting project and discretionary spend as far as possible to preserve earnings and capital generation. At Transamerica, we are planning for the merger of two of our largest US legal entities, T-LIC and T-CLIC, in the second half of the year. This will further streamline our legal entity structure and improve the sufficiency of asset adequacy testing. We will further observe how the current situation develops over time and will take further measures that we deem appropriate. Let me now turn to slide eight to give you some more insight into our U.S. asset portfolio. On this slide, you see the asset allocation of the U.S. general account in comparison with industry data from 20 of our U.S. peers. In general, Agon's U.S. general account is a liquid, well-diversified investment portfolio. First of all, please note that we are currently holding significantly more cash in comparison to the industry as a whole, especially considering the COVID-19 pandemic impacts it's important to maintain strong liquidity positions across our operations. Akon US holds only a small equity position. About half of the position is common equity and the other half are convertibles and preferred stock. More than half of the commercial mortgage loan portfolio is invested in multifamily real estate loans, which are less affected by the current crisis. Another fifth of this portfolio is allocated to commercial real properties, which are skewed toward high-quality grocery-anchored centers. Overall, the loan-to-value ratio is below 70% for 99% of the portfolio, and there is no loan with an LTV ratio above 90%. The U.S. fixed-income portfolio is invested in government bonds, high-quality MBS and ABS securities, and about two-thirds in corporate bonds. CLOs only represent a small fraction of our investments. Let me give you some more detail on the fixed income and corporate bond portfolios on the next two slides. Slide 9 gives you a breakdown of the U.S. fixed income security portfolio by rating and by NAIC class. The NAIC class determines the capital charge for credit risk. securities are downgraded, this credit migration will increase required capital. As you can see that the portfolio is weighted toward investment grade bonds as only 7.5% have a below investment grade rating and less than 6% are allocated to the riskier NAIC classes which attract more heavier capital weightings. Of the BBB rated securities, only about 20% are rated BBB minus. Please note that the mortgage-backed securities are modeled individually by the NAIC and a class is assigned based on the expected loss according to these models. This is independent from the rating from rating agencies. Securities without an expected loss in the modeled scenarios are assigned Class 1. 97% of all mortgage-backed securities in our portfolio are included in Class 1. From this, you can deduce the impact of potential rating migrations on the RBC ratio. We provide two model calculations for hypothetical scenarios on the slide. For example, if 50% of the BBB-rated bonds would be downgraded by one notch and one NAIC class, you would expect an impact of about 12 percentage points on the RBC ratio. It is clear that certain industry sectors will be hit more severely in this crisis than others, To provide some insight, let me zoom in closer on the corporate bond portfolio on the next slide. Agon US holds a corporate bond portfolio of $37 billion. Of this, about 7% is in below investment grade bonds and about 10% are rated BBB minus. However, in this COVID-19 crisis, not all industry sectors and subsectors are being equally affected. On the right-hand side of the slide, we highlight our exposure to three industry sectors, which might see more severe impacts in the coming months. The transportation sector is suffering in the current situation, especially airlines. Our investments in the transportation sector focus on BBB and above-rated bonds, and our exposure to airlines is less than $200 million. In consumer cyclicals, our below-investment-grade exposure is limited, and 75% of our exposure is to automotive, retail, and consumer services. Our energy exposure is well diversified across the oil and gas industry. About half our exposure is to midstream, a part of the value chain that is more resilient to low oil prices. As with all sectors under stress from the current crisis, we are monitoring our exposures very closely. Currently, we have seen very little by way of impairments in our portfolio, but we are well aware that this is likely to change in the coming months. Let me conclude my presentation with the next and final slide. The COVID-19 pandemic brings about unprecedented disruption to our customers, employees, and the communities in which we operate. In this challenging situation, our focus is on maintaining a solid capital position and a strong balance sheet. With a group solvency ratio of 208% and the three main units above the bottom end of their respective target zones, we have a good starting position. Holding excess cash of 1.4 billion euro and ample liquidity in the units provide us the financial flexibility and strength to maneuver through this crisis. That said, it is very unlikely that we will meet the annual return on equity target of more than 10% this year, given that our first quarter return on equity was 7%. Nevertheless, our commitment to achieve the target once markets normalize is unchanged. Given the global macroeconomic uncertainties, it is currently too early to tell what the impact of COVID-19 pandemic will be on the other medium-term targets. Short-term normalized capital generation will be negatively impacted by adverse market movements and higher mortality rates, but will benefit from management actions and lower expected new business strain. We are committed to review opportunities for returning capital to our shareholders as soon as appropriate and will take a decision on the interim dividend in August. In the meantime, we will focus on securing the plan remittances to the group. Let me close by saying that I am pleased that our resilience, experience, and business continuity plans have enabled us to operate at a high level. This allows us to focus on taking the right management actions to position the company strongly as we emerge from the COVID-19 crisis to ensure the best possible outcome for our shareholders and customers. I am happy now to take your questions.