As the Conduct of Financial Institutions (COFI) Bill slowly grinds through South Africa’s law-making machinery, many have been wondering about the state of the country’s financial institutions. The good news is that the Financial Sector Conduct Authority (FSCA) has pre-empted our ponderings with a timely 94-page Financial Sector Outlook Study. The document, compiled by Genesis Analytics in partnership with the authority, sets out to review the local financial landscape. It analyses individual industries, including those regulated by FSCA, and reflects on some of the macroeconomic factors at play as we power through 2022.
Getting to grips with our financial world
The findings of the report are relevant to all stakeholders in the broader financial services sector and of specific interest to FAnews readers, who often work at the frontline of consumer and financial product interactions. Insurance brokers and financial advisers are, after all, expected to have an extensive understanding of all matters financial, from clients’ FNAs to household budgeting to product provider solvency assessments and on to the regulatory environment. This is no easy task… According to FSCA, South Africa “has a sophisticated and large financial sector with an asset-to-GDP ratio well above that of most emerging markets”. The bulk of these financial sector assets are tied up in the banking sector, followed by pension funds and insurers…
It is common knowledge that our country boasts a well-developed and well-run financial sector. For example, we feature prominently in the annual World Economic Forum (WEF) Global Competitiveness Report on the Pillar 9: Financial Systems measure. And in the 2019 International Monetary Fund (IMF) Article IV Staff Consultations our country was commended for having a highly developed and resilient financial sector. We will take these introductory remarks as early positives but refrain from popping the champagne corks just yet. Instead, let us delve a bit further into the FSCA report findings.
Much access, not so much money
The first plus point mentioned in the executive summary is that South Africa has made significant progress on the financial inclusion front. It was estimated that more than 81% of the country’s over-16s had access to bank services through formal bank accounts, though account usage remained low. According to the report: “The 2021 Finscope survey found that 40% of dormant accounts were held by individuals from low-income households and that within this segment, another 19% withdrew all funds as soon as they were deposited”. It should come as no surprise to the financially savvy that bank account utilisation is linked to financial means. And with more than 35% of the country’s jobseekers currently unemployed, these utilisation statistics are unlikely to improve soon.
Market concentration remains top-of-mind at both the FSCA and the Prudential Authority (PA). The regulators acknowledged newcomers such as Bank Zero, Discovery Bank and Tyme Bank to the banking sector, but lamented that the largest banks still held over 85% of the industry’s deposits. They offered a similar assessment of the life insurance sector, where the top five firms accounted for 82% of the industry’s total assets… The non-life sector is less concentrated, with around 73% of assets held by the 10 largest firms. This does not, however, mean that there are no dominant names insofar market share.
We know, for example, that a single non-life insurance, Santam, accounts for just over a quarter of the country’s annual gross written premium. This writer wonders whether concerns over market concentration are somewhat over-hyped given the many, many other challenges we face.
Digital adoption in full swing
Themes and trends are important when assessing the financial industry. The first theme mentioned in the Financial Sector Outlook 2022 report was that of digital adoption. “More customers [are] using banking apps and online banking platforms to perform transactions … banks have introduced banking apps, improved digital payment options and next-generation ATMs that allow customers to do a wider range of transactions, with the aim to reduce the dependency on bank branches,” it states. And there is plenty of evidence that digital platforms are dominating product distribution innovation in other sectors too.
The Covid-19 pandemic was singled out as a main driver for the increased uptake of digital financial services. On the flipside, this theme introduces additional risks to the banking and insurance construct including cybercrime and fraud: “The pandemic saw a large-scale move to remote working, accompanied by a rise in technical vulnerabilities related to network security and the uptake of digital banking channels by individuals … as a result, 2020 saw a sharp increase in digital fraud incidents relative to previous years”. Conventional fraudsters and cyber criminals are salivating as greater portions of financial services infrastructure migrate entirely into the digital world. And they should be, given there are trillions of rand at state.
The report suggests that South Africa’s financial institutions hold assets totalling 3.33 times the country’s GDP, or around ZAR18.5 trillion. Our rough calculation based on a GDP estimate for 2019 of ZAR5.6 trillion puts assets held by banks at ZAR6.7 trillion); by pension funds at ZAR3 trillion; and by insurers at ZAR3.8 trillion. It was quite interesting to see differences in sectoral asset values within the FSCA report, with the executive summary reflecting assets in the pension funds industry at a significantly higher ZAR4.6 trillion. There are many factors that could have contributed to such variances, which we will not delve into in this piece.
Insurers under the spotlight
Since we often report on life and non-life insurers, we thought to end this quick overview with some insurer-related facts and figures. According to the FSCA, insurers’ assets under management have been increasing at 4% CAGR between 2015 and 2020, reaching around ZAR3.36 trillion at the end of 2020. The impact of insurers on broader society reflects in the ZAR12.3 billion in insurance premium payments made each month, giving us a total insurer premium as percentage of GDP of 13.7%, among the highest in the world. South Africa is also said to account for 70% of Africa’s insurance premiums.
The impact of pandemic on the insurance sector came through in a comparison of claims ratios for 2019 and 2020. According to the FSCA, the claims ratio for primary life insurers increased from 94.4 in December 2019 to 102.2 in December 2020, with non-life insurers jumping from 62.5 in 2019 to 74.8 in 2020. The former statistic was due “the increase in the value of claims paid out in the life insurance industry, mainly driven by pay-outs for funeral cover policies”; and the latter resulted from “a rise in the number of business interruption claims processed in 2020 as a result of the Covid-19 national lockdowns”.
What happens next?
The “what happens next” question is skewed by two emerging global themes, namely climate change and cyber risk. “Financial institutions across the world are playing an increasingly critical role in environmental, social and governance (ESG) initiatives,” notes the report. “With the growing interest in sustainable financing, regulatory bodies in South Africa have been adapting the regulatory landscape to include the ESG standards in the financial sector”. This writer has frequently mentioned COP26 and ESG in his reporting of asset manager activities, and we can expect this theme to persist, informed by National Treasury’s Draft Green Finance Taxonomy paper.
As for cyber risks, many of the non-life insurers and insurance brokers we have spoken to recently point to this as the next potential black swan event. PS, we appreciate that if they already identify it as such, it cannot be. The bottom line is that the combination of crypto assets and digital adoption are introducing massive risks to all firms across all industries while non-life insurers stand alone in transferring the financial losses these risks may cause.
The regulators are also concerned with the increasing popularity of crypto trading, with daily crypto asset trading in South Africa exceeding USD145 million in January 2021. We conclude with an FSCA waring and promise: “Many South African investors have been attracted to the high publicised returns, however crypto assets remain highly volatile and inherently risky given their decentralised and disintermediate nature… In June 2021, The Intergovernmental Fintech Working Group, a collaboration of regulators including the FSCA, published a position paper on crypto assets and made the decision to regulate crypto assets to promote responsible innovation”. Enough said, crypto assets will soon become another component in South Africa’s financial institutions landscape.
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