Skip to main content
SpringerLink
Log in

Investor sentiment and insurers’ financial stability: do sovereign ratings matter?

  • Published:
The Geneva Papers on Risk and Insurance - Issues and Practice Aims and scope Submit manuscript

Abstract

This paper examines the nexus between investor sentiment and the insurers’ financial stability and, in addition, the moderating role of negative market conditions on the aforementioned relationship. Using a sample from the property–casualty insurance sector of the developed markets, our findings are twofold. First, we find that investors exhibit rational buying behaviour, and lower investor sentiment does not affect property–casualty insurers’ financial soundness. Second, our findings reveal that the financial market condition does not much alter the investors’ sentiment and financial stability relationship. We interpret our findings from the theoretical perspectives of the q-theory of investment and investor buying behaviour theories. Our findings are robust to the alternative estimation techniques, sensitivity and endogeneity analysis.

This is a preview of subscription content, log in via an institution to check access.

Access this article

Log in via an institution

Price excludes VAT (USA)
Tax calculation will be finalised during checkout.

Instant access to the full article PDF.

Institutional subscriptions

Similar content being viewed by others

Notes

  1. Numerous measures of investor sentiment developed by different financial institutions are available in the public domain. Please refer to Illing and Aaron (2012) for a brief survey of these measures.

  2. Capital means policy holder surplus in Z-score.

  3. An index that calculates the investor’s confidence or risk appetite by analysing the actual levels of risk taken by institutional investors of 45 economies around the world. If the investors around the world are becoming attracted to equities (riskier asset) then their risk appetite is rising, causing an upward shift in the State Street Investor Confidence Index or vice versa. We will use regional State Street Investor Confidence Index (hereafter as ICIR) as proxy for investor sentiment in Australia, Canada, the U.S. and U.K. For instance, ICIR EU as proxy for the U.K, ICIR North America as proxy for Canada and the U.S., and ICIR Asia–Pacific for Australia.

  4. Credit Suisse Global Risk Appetite Index (hereafter CSGRAI) compares risk-adjusted return across the wide spectrum of securities offered worldwide. During a higher investor sentiment period the returns on risky investment will be higher, the CSGRAI will be positive and report ‘euphoria’. On the contrary, when investor sentiment is low, the returns on risk-free (or less risky) assets will be high, then CSGRAI will be negative and report ‘panic’.

  5. The Wald test attains the same conclusion that our instruments are not weak. Because the test statistic exceeds the critical value in the Wald test, we reject the null hypothesis of weak instruments.

  6. Note that the relationship is positive for 2SLS estimation. This could be due to contemporaneous investor sentiment and IV. We further estimated our models using FGLS and lagged variables for robustness (see Huang et al. 2015, for details).

  7. See Froot et al. (2001); Froot and Teo (2008) for details on institutional investor portfolio flows and investment styles.

References

  • Acharya, V., I. Drechsler, and P. Schnabl. 2014. A pyrrhic victory? Bank bailouts and sovereign credit risk. The Journal of Finance 69 (6): 2689–2739.

    Google Scholar 

  • Almeida, H., I. Cunha, M.A. Ferreira, and F. Restrepo. 2017. The real effects of credit ratings: The sovereign ceiling channel. The Journal of Finance 72 (1): 249–290.

    Google Scholar 

  • Altuntas, M., and J. Rauch. 2017. Concentration and financial stability in the property-liability insurance sector: Global evidence. The Journal of Risk Finance 18 (3): 284–302.

    Google Scholar 

  • Arellano, M., and S. Bond. 1991. Some tests of specification for panel data: Monte Carlo evidence and an application to employment equations. The Review of Economic Studies 58 (2): 277–297.

    Google Scholar 

  • Baker, M., and J. Wurgler. 2007. Investor sentiment in the stock market. The Journal of Economic Perspectives 21 (2): 129–157.

    Google Scholar 

  • Barberis, N., and A. Shleifer. 2003. Style investing. Journal of Financial Economics 68 (2): 161–199.

    Google Scholar 

  • Basse, T. 2014. Searching for the EMU core member countries. European Journal of Political Economy 34: S32–S39.

    Google Scholar 

  • Borensztein, E., K. Cowan, and P. Valenzuela. 2013. Sovereign ceilings ‘lite’? The impact of sovereign ratings on corporate ratings. Journal of Banking & Finance 37 (11): 4014–4024.

    Google Scholar 

  • Born, P.H., and B. Klimaszewski-Blettner. 2013. Should I stay or should I go? The impact of natural disasters and regulation on U.S. property insurers’ supply decisions. The Journal of Risk and Insurance 80 (1): 1–36.

    Google Scholar 

  • Brooks, R., R.W. Faff, D. Hillier, and J. Hillier. 2004. The national market impact of sovereign rating changes. Journal of Banking & Finance 28 (1): 233–250.

    Google Scholar 

  • Brunnermeier, M., T. Eisenbach, and Y. Sannikov. 2012. Macroeconomics with financial frictions: A survey. In Advances in Economics and Econometrics Tenth World Congress of the Econometric Society, ed. D. Acemoglu, M. Arellano, and E. Dekel. Cambridge: Cambridge University Press.

    Google Scholar 

  • Campa, J.M., and S. Kedia. 2002. Explaining the diversification discount. The Journal of Finance 57 (4): 1731–1762.

    Google Scholar 

  • Campello, M., E. Giambona, J.R. Graham, and C.R. Harvey. 2011. Liquidity management and corporate investment during a financial crisis. The Review of Financial Studies 24 (6): 1944–1979.

    Google Scholar 

  • Campello, M., J.R. Graham, and C.R. Harvey. 2010. The real effects of financial constraints: Evidence from a financial crisis. Journal of Financial Economics 97 (3): 470–487.

    Google Scholar 

  • Carson, J.M., and R.E. Hoyt. 1995. Life insurer financial distress: Classification models and empirical evidence. The Journal of Risk and Insurance 62 (4): 764–775.

    Google Scholar 

  • Cole, C.R., and K.A. McCullough. 2006. A reexamination of the corporate demand for reinsurance. The Journal of Risk and Insurance 73 (1): 169–192.

    Google Scholar 

  • Cummins, J.D., and G.P. Nini. 2002. Optimal capital utilization by financial firms: Evidence from the property–liability insurance industry. Journal of Financial Services Research 21: 15–53.

    Google Scholar 

  • Daniel, K., and S. Titman. 2006. Market reactions to tangible and intangible information. The Journal of Finance 61 (4): 1605–1643.

    Google Scholar 

  • De Long, J.B., A. Shleifer, L.H. Summers, and R.J. Waldmann. 1990. Noise trader risk in financial markets. Journal of Political Economy 98 (4): 703–738.

    Google Scholar 

  • Demirgüç-Kunt, A., E. Detragiache, and T. Tressel. 2008. Banking on the principles: Compliance with Basel core principles and bank soundness. Journal of Financial Intermediation 17 (4): 511–542.

    Google Scholar 

  • Durbin, E. and D. T. Ng. 1999. Uncovering country risk in emerging market bond prices. International Finance Discussion Paper Number 639, Board of Governors of the Federal Reserve System.

  • Durbin, E., and D. Ng. 2005. The sovereign ceiling and emerging market corporate bond spread. Journal of International Money and Finance 24 (4): 631–649.

    Google Scholar 

  • Elango, B., Y.-L. Ma, and N. Pope. 2008. An investigation into the diversification–performance relationship in the U.S. property–liability insurance industry. The Journal of Risk and Insurance 75 (3): 567–591.

    Google Scholar 

  • Ferri, G., L.-G. Liu, and G. Majnoni. 2001. The role of rating agency assessments in less developed countries: Impact of the proposed BASEL guidelines. Journal of Banking & Finance 25 (1): 115–148.

    Google Scholar 

  • Froot, K., P.G.J. O’Connell, and M.S. Seasholes. 2001. The portfolio flows of international investors. Journal of Financial Economics 59 (2): 151–193.

    Google Scholar 

  • Froot, K.A., and P.G.J. O’Connell. 2003. The Risk Tolerance of International Investors. National Bureau of Economic Research Working Paper No. 10157.

  • Froot, K.A., and M. Teo. 2008. Style investing and institutional investors. Journal of Financial and Quantitative Analysis 43 (4): 883–906.

    Google Scholar 

  • Garven, J.R., and J. Lamm-Tennant. 2003. The demand for reinsurance: Theory and empirical tests. Insurance and Risk Management 7 (3): 217–238.

    Google Scholar 

  • Gruppe, M., and C. Lange. 2014. Spain and the European sovereign debt crisis. European Journal of Political Economy 34: S3–S8.

    Google Scholar 

  • Heckman, J.J. 1979. Sample selection bias as a specification error. Econometrica 47 (1): 153–161.

    Google Scholar 

  • Hirshleifer, D., and D. Jiang. 2010. A financing-based misvaluation factor and the cross-section of expected returns. The Review of Financial Studies 23 (9): 3401–3436.

    Google Scholar 

  • Huang, D., F. Jiang, J. Tu, and G. Zhou. 2015. Investor sentiment aligned: A powerful predictor of stock returns. The Review of Financial Studies 28 (3): 791–837.

    Google Scholar 

  • Huang, Y.-L., and C.-H. Shen. 2014. The sovereign effect on bank credit ratings. Journal of Financial Services Research 47 (3): 341–379.

    Google Scholar 

  • Illing, M., and M. Aaron. 2012. A brief survey of risk appetite indexes. Financial System Review. Bank of Canada. https://www.bankofcanada.ca/wp-content/uploads/2012/01/fsr-0605-illing.pdf.

  • Ivashina, V., and D. Scharfstein. 2010. Bank lending during the financial crisis of 2008. Journal of Financial Economics 97 (3): 319–338.

    Google Scholar 

  • Kisgen, D.J. 2009. Do firms target credit ratings or leverage levels? Journal of Financial and Quantitative Analysis 44 (6): 1323–1344.

    Google Scholar 

  • Klimavičienė, A. 2011. Sovereign credit rating announcements and Baltic stock markets. Organizations and Markets in Emerging Economies 2 (1): 51–62.

    Google Scholar 

  • Kyle, A.S. 1985. Continuous auctions and insider trading. Econometrica 53 (6): 1315–1336.

    Google Scholar 

  • Lee, K.-H., H. Sapriza, and Y. Wu. 2016. Sovereign debt ratings and stock liquidity around the world. Journal of Banking and Finance 73: 99–112.

    Google Scholar 

  • Liebenberg, A.P., and D.W. Sommer. 2008. Effects of corporate diversification: Evidence from the property–liability insurance industry. The Journal of Risk and Insurance 75 (4): 893–919.

    Google Scholar 

  • Ludwig, A. 2014. Credit risk-free sovereign bonds under Solvency II: A cointegration analysis with consistently estimated structural breaks. Applied Financial Economics 24 (12): 811–823.

    Google Scholar 

  • Martell, R. 2005. The effect of sovereign credit rating changes on emerging stock markets, SSRN Scholarly Paper. Rochester, NY: Social Science Research Network.

    Google Scholar 

  • Mateev, M. 2014. The effect of sovereign credit rating announcements on emerging bond and stock markets: New evidences. Oxford Journal: An International Journal of Business & Economics. 7 (1): 28–41.

    Google Scholar 

  • McLean, R.D., and M. Zhao. 2014. The business cycle, investor sentiment, and costly external finance. The Journal of Finance 69 (3): 1377–1409.

    Google Scholar 

  • Michaelides, A., A. Milidonis, G. Nishiotis, and P. Papakyriacou. 2012. Sovereign debt rating changes and the stock market. CEPR Discussion Paper No. DP8743.

  • Moro, B. 2014. Lessons from the European economic and financial great crisis: A survey. European Journal of Political Economy 34: S9–S24.

    Google Scholar 

  • Petersen, M.A. 2009. Estimating standard errors in finance panel data sets: Comparing approaches. The Review of Financial Studies 22 (1): 435–480.

    Google Scholar 

  • Pukthuanthong-Le, K., F.A. Elayan, and L.C. Rose. 2007. Equity and debt market responses to sovereign credit ratings announcement. Global Finance Journal. 18 (1): 47–83.

    Google Scholar 

  • Rauch, J., M.A. Weiss, and S. Wende. 2015. Default risk and contagion in the US financial sector: An empirical analysis of the commercial and investment banking, and insurance sectors. Google Scholar.

  • Riaz, Y., C.T. Shehzad, and Z. Umar. 2019. Pro-cyclical effect of sovereign rating changes on stock returns: A fact or factoid? Applied Economics 51 (15): 1588–1601.

    Google Scholar 

  • Shahab, Y., C.G. Ntim, Y. Chengang, F. Ullah, and S. Fosu. 2018. Environmental policy, environmental performance, and financial distress in China: Do top management team characteristics matter? Business Strategy and the Environment. 27 (8): 1635–1652.

    Google Scholar 

  • Shahab, Y., C.G. Ntim, and F. Ullah. 2019. The brighter side of being socially responsible: CSR ratings and financial distress among Chinese state and non-state owned firms. Applied Economics Letters 26 (3): 180–186.

    Google Scholar 

  • Shim, J. 2011. Mergers & acquisitions, diversification and performance in the property–liability insurance industry. The Journal of Financial Services Research. 39 (3): 119–144.

    Google Scholar 

  • Shim, J. 2015. An investigation of market concentration and financial stability in property–liability insurance industry. The Journal of Risk and Insurance 84 (2): 567–597.

    Google Scholar 

  • Sinkey Jr., J.F., and R.C. Nash. 1993. Assessing the riskiness and profitability of credit-card banks. Journal of Financial Services Research 7 (2): 127–150.

    Google Scholar 

  • Stiroh, K.J. 2004. Diversification in banking: Is noninterest income the answer? Journal of Money, Credit, and Banking 36 (5): 853–882.

    Google Scholar 

  • Subaşı, F.Ö. 2008. The effect of sovereign rating changes on stock returns and exchange rates. International Research Journal of Finance and Economics 20: 46–54.

    Google Scholar 

  • Tobin, J. 1969. A general equilibrium approach to monetary theory. Journal of Money, Credit, and Banking 1 (1): 15–29.

    Google Scholar 

  • Turk-Ariss, R. 2010. On the implications of market power in banking: Evidence from developing countries. Journal of Banking & Finance 34 (4): 765–775.

    Google Scholar 

  • White, H. 1980. A heteroskedasticity-consistent covariance matrix estimator and a direct test for heteroskedasticity. Econometrica 48 (4): 817–838.

    Google Scholar 

  • Williams, G., R. Alsakka, and O. ap Gwilym. 2013. The impact of sovereign rating actions on bank ratings in emerging markets. Journal of Banking & Finance 37 (2): 563–577.

    Google Scholar 

  • Wilmot, J., P. Mielczarski, and J. Sweeney. 2004. Global Risk Appetite Index. In Credit Suisse First Boston: Global Strategy Research: Market Focus. (occasional publication available only by subscription). (February).

  • Yaari, M.E. 1965. Uncertain lifetime, life insurance, and the theory of the consumer. The Review of Economic Studies 32 (2): 137–150.

    Google Scholar 

  • Yoshikawa, H. 1980. On the “q” theory of investment. The American Economic Review 70 (4): 739–743.

    Google Scholar 

Download references

Author information

Authors and Affiliations

  1. Business School, Shanghai Jian Qiao University, Shanghai, China

    Danish Ahmed

  2. School of Accounting, Xijing University, Xi’an, Shaanxi, China

    Yasir Shahab & Farid Ullah

  3. Business School, University of International Business and Economics (UIBE), Beijing, China

    Zhiwei Ye

Authors
  1. Danish Ahmed
    View author publications

    You can also search for this author in PubMed Google Scholar

  2. Yasir Shahab
    View author publications

    You can also search for this author in PubMed Google Scholar

  3. Farid Ullah
    View author publications

    You can also search for this author in PubMed Google Scholar

  4. Zhiwei Ye
    View author publications

    You can also search for this author in PubMed Google Scholar

Corresponding author

Correspondence to Danish Ahmed.

Additional information

Publisher's Note

Springer Nature remains neutral with regard to jurisdictional claims in published maps and institutional affiliations.

Rights and permissions

Reprints and permissions

About this article

Check for updates. Verify currency and authenticity via CrossMark

Cite this article

Ahmed, D., Shahab, Y., Ullah, F. et al. Investor sentiment and insurers’ financial stability: do sovereign ratings matter?. Geneva Pap Risk Insur Issues Pract 45, 281–312 (2020). https://doi.org/10.1057/s41288-020-00160-z

Download citation

  • Received:

  • Accepted:

  • Published:

  • Issue Date:

  • DOI: https://doi.org/10.1057/s41288-020-00160-z

Keywords

Search

Navigation