Fitch Ratings has assigned QBE Insurance Group Limited's (Issuer Default Rating (IDR), A-/Stable) regulatory compliant USD500 million Additional Tier 1 perpetual capital notes a rating of 'BBB-'.

The notes were issued on 12 May 2020.

The perpetual securities represent QBE's direct, unsecured and subordinated obligations, and rank senior only to ordinary shares of the company. The notes carry a fixed annual coupon rate of 5.85% until 12 May 2025. The interest rate will be reset every five years from 12 May 2025, and will be equal to the five-year US Treasury bond rate plus 5.513% per annum. The notes are callable on each reset date.

Key Rating Drivers

The Additional Tier 1 notes are rated three notches below QBE's IDR of 'A-': two notches for Fitch's assumption of 'Poor' recovery prospects in the event of default, given the level of subordination, and one notch for non-performance risk, which Fitch views as 'Moderate' under its criteria.

The notching for 'Poor' recoveries reflects our assumptions for deeply subordinated debt issued at a holding company as per our criteria; should the company be wound up, the issuer's payment obligations under the securities rank behind all senior and subordinated creditors but ahead of ordinary shares. The securities will rank equally among other Additional Tier 1 securities.

The notes would be written off in part or in full should the Australian Prudential Regulation Authority (APRA) deem that QBE would become non-viable without conversion or a public-sector capital injection. Fitch believes that APRA is unlikely to activate the non-viability trigger unless the event is sustained, leading to QBE's non-viability.

Interest payments are non-cumulative and management has the right to cancel payments, in whole but not in part, at its discretion. We therefore assess the risk of non-performance as 'Moderate' and we notch down another level from the IDR to reflect this discretion. We think management's discretion to cancel interest is the key feature driving the level of notching for non-performance risk. This assessment implies one extra notch than our treatment of QBE's Tier 2 instruments to reflect the higher non-performance risk.

The notes receive 100% equity credit in the calculation of Fitch's Prism Factor-Based Model, in line with our criteria. The notes are treated as 0% debt in the Fitch-calculated financial leverage ratio, given that the instruments are akin to deeply subordinated debt that has the key features of perpetual preferred securities, including permanence and deferrable coupons that are non-cumulative.

QBE's IDR reflects its 'Strong' capitalisation and leverage, 'Favourable' company profile and 'Strong' financial performance and earnings. The group's underwriting performance, which was volatile in the past five years, continued to improve in 2022 with QBE achieving underwriting profitability across all operating segments. Its Fitch Prism Model score has been at least 'Very Strong' in recent periods, and coverage of the regulatory prescribed capital amount (PCA) was high (end-2022: 1.79x). QBE's Fitch-calculated financial leverage ratio was 23% at end-2022 and is supportive of the ratings.

RATING SENSITIVITIES

The rating on the securities will move in tandem with QBE's IDR.

Factors that could, individually or collectively, lead to negative rating action/downgrade:

deterioration in the financial performance, with the combined ratio above 102%, for a sustained period;

PCA coverage staying below 1.5x and the Fitch Prism Model Score below the upper end of 'Strong' for a prolonged period;

The Fitch-calculated financial leverage ratio remaining above 30%;

A significant worsening in the company profile, evident from a loss of market share and franchise, may also lead to a downgrade.

Factors that could, individually or collectively, lead to positive rating action/upgrade:

material improvement in group financial fundamentals, with return on equity consistently above 10% and the combined ratio below 94%;

the Fitch-calculated financial leverage ratio below 23% and fixed-charge coverage ratio above 9x on a prolonged basis, while maintaining a Fitch Prism Model Score of 'Very Strong'.

Best/Worst Case Rating Scenario

International scale credit ratings of Financial Institutions and Covered Bond issuers have a best-case rating upgrade scenario (defined as the 99th percentile of rating transitions, measured in a positive direction) of three notches over a three-year rating horizon; and a worst-case rating downgrade scenario (defined as the 99th percentile of rating transitions, measured in a negative direction) of four notches over three years. The complete span of best- and worst-case scenario credit ratings for all rating categories ranges from 'AAA' to 'D'. Best- and worst-case scenario credit ratings are based on historical performance. For more information about the methodology used to determine sector-specific best- and worst-case scenario credit ratings, visit https://www.fitchratings.com/site/re/10111579

REFERENCES FOR SUBSTANTIALLY MATERIAL SOURCE CITED AS KEY DRIVER OF RATING

The principal sources of information used in the analysis are described in the Applicable Criteria.

ESG Considerations

Unless otherwise disclosed in this section, the highest level of ESG credit relevance is a score of '3'. This means ESG issues are credit-neutral or have only a minimal credit impact on the entity, either due to their nature or the way in which they are being managed by the entity. For more information on Fitch's ESG Relevance Scores, visit www.fitchratings.com/esg

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