Bancassurance: the catalyst to reaching critical mass in insurance sector development?

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1 Bancassurance: the catalyst to reaching critical mass in insurance sector development? Regional growth in the insurance sector has been adversely impacted by the fragmented market structures, absence of mandatory insurance in key areas and lack of skilled people. The inextricable link with the negative and the unforeseen, coupled with the traditional reluctance of the Muslim majority towards conventional insurance products that do not comply with Shariah rules, also make the job of insurance companies operating in the region that much harder. Insurance penetration is a mere 3-4 per cent across the region, with the UAE registering marginally higher penetration levels of 4-5 per cent. In comparison, the insurance sector in the developed economies of the west show a healthy 30 per cent, often exceeding 50 per cent in some of the Scandinavian economies for basic life insurance penetration. A study published by The World Bank in November 2010, attempted to identify the challenges and development agenda in the MENA insurance sector, drawing on extensive reports from a variety of sources including discussions with national insurance supervisors. Despite the high level of per capita income and the demographics in the region, the results pointed to a surprisingly low development in the insurance sector both for life and non-life premiums, as well as assets. The slow pace of development is surely a matter of concern because insurance is a crucial aspect of the financial services industry in any economy, and contributes positively to growth in the long term. It encourages investment and competition by reducing the impact of large losses through risk pooling, and raises the efficiency of the other segments of the financial system through contributing to effective risk management. One of the key recommendations proposed by the World Bank paper to accelerate the development of the insurance sector is regulating bancassurance the distribution of insurance products via banking networks. The study claims that Bancassurance has the potential to produce a quantum jump in the penetration of long term insurance markets in all MENA countries. Insurance companies often need great effort to convince clients not only of the importance of life and investment plans, but also of their own integrity and credibility. In contrast, banks, as repositories of financial deposits, have established a far higher ranking on the credibility index, leading insurance

2 companies to explore this channel to sell their products. Indeed the cornerstone of the bancassurance model is that people trust banks more than insurance companies. The bancassurance business model is inherently suited to cut short the time taken to generate trust in clients, because it operates in the mid space offering the comfort that a bank provides while clarifying to the customer that they are not buying a bank product. Over the last decade, bancassurance has evolved into a significant instrument for insurers, wealth management institutions and bankers worldwide. While insurance companies view it as a tool to increase market penetration, wealth management entities use it to wrap their core investment products and make the package more attractive. For banks, bancassurance has proved to be a great instrument to augment fee-based incomes, particularly in the wake of the current volatility in interest-based incomes. It fits in rather snugly, into the fee-based income model, because typically, banks act as distributors of insurance plans that are sold by insurance companies and not as issuers of the policy. The insurance products are therefore usually embedded along with the standard financial products offered by banks, such as personal loans or credit cards. The commission charged by the bank on the sale of an insurance policy is the resultant bancassurance revenue for the bank. It is important to note that the paperwork related to the insurance policy is drafted and finalised by the insurance company and not the bank. Perhaps the only exception to this rule is when a bank buys group insurance. The policies would be issued by the bank for instance, if a bank were to insure all its account holders. By taking on the role of distributor, banks are also able to abide by governmental regulations in most countries expressly forbidding them to sell insurance policies. These regulations have a two-fold purpose. On the one hand they protect customers from being compelled to consider investing in insurance products as a pre-condition to the availability or extension of credit. They also protect the banks from taking undue risk, which can ideally be taken only by an insurance company.

3 Substantial capitalisation is required to offset the potential risks associated with selling insurance, and the business model for insurance companies is typically designed to absorb such risks. The pricing of insurance products is based on mortality tables and ensures the solvency of insurance companies through guaranteeing adequate reserves. While banks can take on credit or market risk, they do not have the necessary capitalisation to take on life risk. Governmental regulations restricting banks from selling insurance are therefore designed to safeguard the interests of depositors and protect banks from risking their outstanding capital. Regional growth in bancassurance has been led mostly by multinational banks that are more focused on fee-based incomes. With fewer customers, smaller branch networks, limited deposit incomes and lower lending books, multinational banks were naturally the first to turn their focus on fee incomes. However, it is the local banks that are now driving the growth in bancassurance backed by larger customer databases and innovative products. Bancassurance products that appeal most to customers hail primarily from the life segment and could include basic life insurance, accident and health plans bundled with remittances or savings plans (bundle of insurance and investment). From the non-life segment, banks have begun to distribute some of the smaller ticket products including auto i auto insurance, property insurance connected to home loans, travel loans, secure wallet, bill protector, insurance of home contents, theft, key man insurance for SMEs or credit life insurance. Large ticket products from the non-life segment (which constitutes about 85 per cent of the total insurance sector) continue to remain the domain of insurance companies. The success of the bancassurance model is dependent on a variety of factors including the number of banks operational in the market, the development of the bancassurance channel, the stringency of the regulation and the development of the market itself. With greater economic growth and rise in GDP levels, the banking population of a country increases. More customers are inclined to take on insurance and there is resultant growth in bancassurance. According to industry estimates, about per cent of insurance sales worldwide can be attributed to bancassurance. This is just as true in the Middle East. In the UAE, which is home to 55 banks,

4 bancassurance is gradually becoming an important contributor to insurance revenues, with nearly 40 per cent of UAE s total insurance premiums in 2009 originating from bancassurance. Unfortunately, only a few countries in the MENA region have formally regulated bancassurance although this is increasingly becoming a priority in several countries. In the absence of specific rules, bank regulators in many of the regional economies have banned bundling of bank and insurance products, which is in line with emerging international best practice. Others have laid down principles, which are yet to be formalised. Streamlining the industry is crucial to growth and the time is right for regulators and development organisations to devise best practice rules for bancassurance that could be adapted to fit different countries in the region The development of the market also plays a significant role in deciding the future of bancassurance. Interestingly, there is no clear indication that the more developed a market the greater the penetration of bancassurance. An excellent example is India, where despite the large number of operational banks, the bancassurance market share is minimal and the Indian insurance sector continues to be dominated by the state-run Life Insurance Corporation (LIC). Any discussion on bancassurance would be incomplete without mention of the various sales techniques employed by banks and insurance companies. Typically, the specialised nature of insurance products - in particular savings plans that comprise of a bundle of investment and insurance - demand the services of trained and certified Independent Financial Advisors (IFAs) for effective sales. With regulation levels varying from country to country in the region, however, this may not always be the case. Often the direct sales force at a bank takes on the task of selling insurance plans, creating a very real danger of mis-selling. It is important for customers to read between the lines of any policy they buy, to clearly understand the commitments they are making and the long term nature of the results. Most plans are designed to ensure that the costs get paid in the first two or three years. The cash value builds up over time and policy holders only see returns in the latter half of the plan. The stronger regulations that exist in developed markets ensure that the sale of insurance products, through banks or otherwise, can only be conducted by trained IFAs.

5 The existing low penetration of insurance coupled with high per capita income has laid the foundations for an unusually strong platform to launch and grow the regional insurance industry into the future. The crucial question however, remains: Will Bancassurance be the catalyst to reaching critical mass in insurance sector development in the region? -ends-