CHICAGO--(BUSINESS WIRE)--Fitch Ratings has affirmed the Issuer Default Rating (IDR) of American Equity Investment Life Holding Company (AEL) at 'BB+' and revised the Rating Outlook to Positive from Stable. Fitch has also affirmed the Insurer Financial Strength (IFS) ratings of AEL's insurance operating subsidiaries: American Equity Investment Life Insurance Company (AEILIC) and American Equity Investment Life Insurance Company of New York, at 'BBB+'. The Rating Outlooks on AEL's insurance operating subsidiaries are Stable. A full list of ratings follows at the end of this release.
KEY RATING DRIVERS
The affirmation of AEL's ratings reflects high credit quality within AEL's bond portfolio, continued good operating results, adequate risk-adjusted capitalization and the company's strong competitive position in the fixed indexed annuity market. The ratings also reflect AEL's high, albeit declining financial leverage, above-average exposure to interest rate risk and lack of diversification in earnings and distribution.
The revision of the holding company's Outlook to Positive from Stable reflects the significant progress achieved to reduce financial leverage and improve interest coverage metrics in recent years, and the expectation for further improvement in 2015. The current ratings assigned to AEL are one notch lower relative to standard notching from the insurance subsidiary ratings to reflect the holding company's relatively high financial leverage and modest interest coverage metrics based on Fitch's criteria.
AEL's financial leverage and interest coverage metrics have shown significant improvement in recent years. The company's financial leverage was approximately 32% at March 31, 2015, down from a high of 43% at year-end 2010. Likewise, GAAP interest coverage has improved to 7.0x in 2014 from 5.0x in 2012, and Fitch expects interest coverage to exceed 8.0x in 2015 on a combination of improved earnings and lower interest expense.
Fitch considers AEL's bond portfolio to be of above-average credit quality. At March 31, 2015, the company's investment portfolio was constructed primarily of investment-grade fixed income securities. A high level of liquidity in the company's bond portfolio is supported by an above-average allocation to publicly traded bonds. At year-end 2014, the company's surplus exposure to risky assets (which Fitch considers to be such investments as below investment-grade bonds, troubled real estate, unaffiliated common equity and other similar assets) was 61%, down from 67% year-end 2013, and significantly below the industry average. Fitch considers AEL's risky assets ratio to be somewhat overstated due to funds withheld reinsurance agreements.
Fitch views the NAIC risk-based capital (RBC) ratio of AEL's primary insurance subsidiary, AEILIC, as relatively stable over the past five years and adequate for the rating category. At Dec. 31, 2014, the company reported an RBC ratio of 372%, up from 344% at year-end 2013.
AEL's above-average interest rate risk reflects the company's focus on spread-based annuity products, particularly fixed indexed annuities. Despite the company's strong recent track record in maintaining its aggregate interest rate spread, the near-term concern is the ongoing low interest rate environment, which continues to challenge the life insurance and annuity sector's ability to maintain interest rate spreads.
From a longer-term perspective, as AEL's book of business matures, the occurrence of a rapid increase in interest rates could have an adverse effect on its financial position, as it could result in a sharp increase in surrenders while the value of its largely fixed-rate investments decline in market value. Positively, Fitch notes that AEL's book of business continues to exhibit strong protection in terms of significant surrender charges which help offset the cost to the company of early policy terminations.
AEL is headquartered in West Des Moines, Iowa and reported total GAAP assets of $45.4 billion and equity of $2.3 billion at March 31, 2015. AEILIC, the main operating subsidiary of AEL, is also headquartered in West Des Moines and had statutory total adjusted capital of $2.4 billion at March 31, 2015.
The ability of AEL to achieve a higher IFS rating is somewhat constrained by the company's limited diversity of earnings and cash flow given its heavy focus on fixed indexed annuities. This constraint could be overcome by the following:
--Enhanced capitalization with RBC above 350% on a sustained basis;
--Financial leverage below 25%;
--Continued stable or improved operating results and investment quality.
The key rating triggers that could result in a downgrade include:
--A reduction in capitalization with RBC below 300%;
--Sustained deterioration in operating results such that interest coverage is below 3x;
--Significant increase in lapse/surrender rates;
--Financial leverage above 50%.
The key rating triggers that could result in a narrowing of notching between the IDR of AEL and the IFS of AEILIC include:
--A sustainable decline in financial leverage below 30%;
--Sustained GAAP EBIT-based interest coverage above 8x.
FULL LIST OF RATING ACTIONS
Fitch has affirmed the following ratings and revised the Outlook to Positive from Stable:
American Equity Investment Life Holding Company
--IDR at 'BB+';
--3.500% senior convertible debentures due 2015 at 'BB';
--6.625% senior unsecured notes due 2021 at 'BB';
--Trust preferred securities at 'B+'.
Fitch has affirmed the following ratings with a Stable Outlook:
American Equity Investment Life Insurance Company
--IFS at 'BBB+'.
American Equity Investment Life Insurance Company of New York
--IFS at 'BBB+'.
Additional information is available on www.fitchratings.com
Exposure Draft: Insurance Notching Criteria (Proposed Methodology Changes) (pub. 12 May 2015)
Insurance Rating Methodology (pub. 04 Sep 2014)
Dodd-Frank Rating Information Disclosure Form