The Outlook revision reflects Fitch's expectation that Aegon will maintain financial leverage and fixed charge cover below 30% and above 5x respectively through stronger underlying earnings and deleveraging.
Stronger net income
Aegon reported stronger net income of EUR735m and underlying earnings of EUR1bn in1H14, compared with EUR464m and EUR945m respectively in 1H13.
Fitch expects net income to remain volatile as it can be negatively impacted by losses on economic hedging, which is reported as a loss under IFRS. However, Aegon's credit-related investment losses have declined, with impairments falling consistently since peaking in 2008. Fitch expects Aegon to continue its shift to a higher quality credit portfolio with a reduction in the allocation to fairly risky structured assets.
Aegon's FLR as calculated by Fitch at 30 June 2014 improved to 30% (end-2013: 33%, based on the restated accounts), but worse than the agency's median guidelines for the rating level. However, Fitch expects that Aegon will manage financial leverage on a gross basis within its own public target range of 26%-30% as it retires EUR500m of senior debt in late 2014. As a result, Fitch expects FLR to be close to 30% at end-2014. In addition, fixed-charge cover (6x at end-2013) is expected to improve as Aegon repays debt.
Improved financial leverage
During 1H14, Aegon undertook some capital management actions, which included calling, instead of refinancing, USD550m of junior capital securities in March 2014 to offset the negative impact on financial leverage stemming from the implementation of new accounting methodologies. The company also redeemed USD1,050m hybrid debt in June 2014 and replaced these securities with EUR700m subordinated debt financed at a lower interest rate. This action improved financial leverage and fixed charge cover.
Fitch views Aegon's consolidated group capital position as very strong, as measured by all capital metrics. Its Prism Factor Based Model Score was "very strong" at end-2013 and commensurate with the current rating. The group's Insurance Group Directive (IGD) ratio declined to 212% in 2013 from 228% in 2012, a level which nonetheless remains strong and more than supportive of the 'AA' rating category. The ratio was stable at 211% in H114.
Aegon's total financing and commitments (TFC) ratio remains high compared with those of its similarly rated peers, indicating greater financial markets activity. The main drivers of Aegon's high TFC ratio are XXX and AXXX funding, securitizations to finance Aegon's mortgage portfolios in the Netherlands, securities lending, repurchase agreements and hybrids. However, Fitch views Aegon's exposure to institutional funding as well-managed.
Strategic direction
Although Aegon remains exposed to financial and credit market conditions, Fitch considers as positive for the rating the company's strategy since 2008 to shift its balance sheet towards variable annuities and away from fixed annuity and institutional spread-based business.
The ratings continue to be underpinned by Aegon's strong franchise and wide range of products and distribution channels as well as by the significant amount of cash held by the group at the holding company level. It is a leading player in its main markets - the US, the Netherlands and the UK - with top 10 positions in most of its chosen market segments. The ratings also reflect Aegon's measured risk appetite and its continuing focus on cost control.
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