Fitch affirms Sterling's BBB+ rating

Fitch Ratings has affirmed Sterling Insurance Co Ltd's (SICL) and Sterling Life Ltd's (SLL) Insurer Financial Strength (IFS) ratings at 'BBB+'. The Outlooks are Stable. The companies are the underwriting members of the UK-based Sterling Insurance Group Limited (Sterling).

The affirmation reflects Sterling's supportive level of Fitch calculated risk-adjusted capitalisation, improved underwriting margins and strong investment income. These strengths continue to be offset by Sterling's limited scale and operating profile.

Key Rating Drivers 
Sterling's net income increased to GBP 4.5m in 2012 from GBP3.6m in 2011 underpinned by strong investment returns and profitable results in the life business. Fitch views Sterling's growth of administration income relating to the management of creditor insurance accounts as a marginal positive for the ratings. This income provides diversification and strengthens net income. The group does not assume any underwriting risk on these policies.

Non-life underwriting profitability declined in 2012, reflected in an increased Fitch calculated incurred loss ratio of 44.1% (2011: 39.0%) due to heavy flooding and a number of large fire claims. Coupled with the slight reduction in expenses, this resulted in a Fitch calculated combined ratio of 99.9% (2011: 96.0%), below the group's five-year average of 101%. Fitch expects continued improvements in underwriting margins following Sterling's on-going effort to discontinue unprofitable business.

Fitch regards Sterling's investment risk as acceptable for the ratings. The ratio of risky assets to equity of 38.7% at end-2012 (end-2011: 31.6%) was relatively high compared with peers but remains comfortably supportive of the rating.

Sterling is a niche UK insurance company that has established a recognisable franchise with a strong distribution network. However, it remains a small player in what is still a challenging market. Its lack of scale and heavy concentration to the UK make it more difficult for Sterling to control pricing, access external finance and absorb a potential fall in demand for its products. Fitch views Sterling's scale and operating profile as rating constraints.

Rating Sensitivities 
Fitch considers an upgrade unlikely in the near to medium term given the company's limited scale and operating profile. A significant deterioration in underwriting performance, poor investment results and/or more active capital management leading to a depletion of capital would also put downward pressure on the ratings. A Fitch-calculated combined ratio in excess of 105% over a sustained period of time or the introduction of further risk into the investment portfolio could lead to a downgrade.

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