Return on assets was also high at 6.9 percent compared with a peer group of 4.3 percent.

But the insurer had high exposure to equities of 38 percent of book value of assets.

"SLIC's somewhat aggressive investment strategy, as evidenced by large equity exposures, remains a rating concern due to associated profit volatility on some of these assets," Fitch Ratings said.

Due to its 99.9 percent state ownership it had also taken strategic stakes in line with state policy.

The firm had 102 billion rupees in assets, accounting from 39 percent of sector total, making it the largest insurance fund in Sri Lanka.

Fitch Affirms Sri Lanka Insurance at 'AA(lka)'/Stable

Fitch Ratings-Colombo/Mumbai/Singapore-21 May 2012: Fitch Ratings Lanka has affirmed Sri Lanka Insurance Corporation Limited's (SLIC) National Insurer Financial Strength Rating and National Long-Term rating at 'AA(lka)'. The Outlook is Stable.

SLIC's ratings reflect its strong franchise and sound capitalisation levels, supported by ongoing high profitability and capital retention. Regulatory solvency ratios for life and non-life insurance segments improved to 11.55x and 2.21x, respectively, at end-December 2011 from 7.73x and 2.11x in 2010, and compare well with peers. However, Fitch notes that SLIC's risk-based capitalisation is weakened by its high equity exposure due to the associated market volatility.

The ratings also reflect Fitch's expectation of support from the Government of Sri Lanka, given its 99.9% ownership in SLIC and the company's strategic importance as the largest state-owned insurer. However, the agency notes that timeliness of support could be limited given the state's own fiscal limitations. Fitch further notes that SLIC has undertaken key strategic investments in line with government policy in the past.

SLIC's somewhat aggressive investment strategy, as evidenced by large equity exposures, remains a rating concern due to associated profit volatility on some of these assets. Equity investments (excluding unit trust investments) accounted for 38% of book value assets in 2011 (2010: 37%) and is likely to increase further in the medium term in line with SLIC's investment plans. Although, these investments have been made out of shareholder funds, Fitch notes that they could place pressure on capitalisation particularly given the illiquid nature of some of its non-core strategic investments.

Profitability continues to benefit from high investment income and continued healthy underwriting results in 2011, resulting in a return on assets ratio of 6.9% (peer group: 4.3%). Also, the company's combined ratio stood at 87.5% in 2011 (peer group: 97.6%), with the company maintaining both loss and expense ratios at levels considerably lower than peers. However, Fitch notes that the company will have to closely monitor non-life pricing to sustain loss ratios at current levels.

The ratings could be upgraded if SLIC is able to maintain its market share in the life insurance segment (2011: 19.2%, 2010: 19.3% and 2009: 20.3%) while maintaining recurring underwriting profitability and strong capitalisation, and gradually reduces its exposure to non-core private investments. Conversely, deterioration in capitalisation due to profit volatility or increased equity exposures, including a rising trend in non-core strategic investments, could result in a rating downgrade. A weakening in SLIC's importance to the Sri Lankan Government or increased pressures by the state in terms of higher dividend payouts could also result in negative rating action.

SLIC has been operating for the last 50 years and has a network of 131 branches across the country. Its strong franchise has helped support premium growth above that of the sector without compromising underwriting profitability. It is the largest composite insurer in Sri Lanka, and its asset base of LKR102bn accounted for about 39% of insurance sector assets at end-2011.