U.S. life insurers, already weakened by the global financial crisis, are expected to report their worst-ever quarterly results in the coming weeks, stoking expectations that federal funds will be needed to prevent the sector from becoming the next casualty of the recession.
Some insurers are stronger than others, but the entire sector has been weakened, laying groundwork for takeovers or mergers forced by regulators to head off company failures.
The Dow Jones U.S. Life Insurance Index has fallen nearly 70 percent since last September as investment losses hit balance sheets.
Hartford Financial Services, a large life and property insurer, has seen its market value shrink more than 80 percent, as has Lincoln National Corp. and Conseco Inc.
Life insurers including MetLife, the largest and strongest of U.S. life insurers, and Hartford are due to report first-quarter results later this month.
“Deteriorating core earnings, a substantial number of write-downs, and escalating realized and unrealized credit losses, are all factors likely to drive disappointing results,” Morgan Stanley analyst Nigel Dally wrote in an April 6 note.
Major rating agencies have indicated that there was greater likelihood of downgrades than upgrades. In February, Standard & Poor’s said it was concerned about a decline in the “overall credit-worthiness” of the sector.
Charges for goodwill and deferred acquisition costs, or DAC, will hurt some companies in the first quarter, according to Citigroup analyst Colin Devine.
LIFELINE DOWN THE PIPELINE?
Life insurers, which together hold trillions of dollars in investments, are particularly susceptible to the financial crisis, and for that very reason they may be positioned to receive federal assistance.
Government bailout efforts have been focused on stabilizing the banking system and American International Group Inc., once the largest insurer in the world. But on Wednesday, the U.S. Treasury said some life insurers would be considered for the federal capital purchase program.
Life insurers hold about half their assets in bonds and are the single largest source of U.S. corporate bond financing, holding about 18 percent of total issuance, according to figures compiled by trade group American Council of Life Insurers.
The sector is also one of the largest commercial mortgage investors, dominated by MetLife and Prudential.
Citigroup’s Devine said in March that he expected the “worst ever” quarter for life insurance results, referring to the first quarter which they are about to report.
In a note on Wednesday, Devine cited “distressed” life insurers Genworth, Lincoln National, Prudential and Principal Financial “are all federally chartered bank holding companies and theoretically eligible to participate” in the Treasury’s program.
“We estimate GNW, LNC and PFG may each need $1 (billion) to $2 billion to rebuild their capital base and address holding company liquidity pressures,” Devine wrote in the note to clients.
On Thursday afternoon, Genworth said it would not be eligible for new capital under the Treasury’s program. The company’s shares fell 14.5 percent to $2.34 in after-hours trading after closing at $2.75.
But while access to federal funds may bolster these insurers’ shrinking capital cushion, it “will not completely solve the insurers’ capital issues,” S&P equities analyst Brett Howlett said in a note.
That leaves insurers to grapple with how to address any capital shortfall, an uneasy prospect given inhospitable credit markets. This had led to some into merger discussions.
“We believe Prudential will seek (federal) funds to facilitate an acquisition of Lincoln National,” Devine wrote.
Even without federal aid, life insurers are looking at deals as a way to bolster their positions.
“We are seeing a step up in M&A activity,” said a person who advises the industry on mergers and acquisitions.
The source, who asked not to be named because of his involvement in negotiations, characterized “conversations” between insurers as at the “interest stage.”
For life insurers, “the situation on the surface is not as bad as the banking industry,” said Martin Weiss, president of Weiss Research Inc. There has already been a significant number of bank failures in the United States. “But if we go into a deep depression, all bets are off,” he said.
Weiss said policyholders had been burned in a “rash of life insurance failures” between 1990 to 1992, when about 20 companies failed.
“These people lost money, or lost access to their money while it was locked up” in regulatory proceedings, he said.
Still, like bank customers, people who have bought life insurance policies are protected up to a certain amount by a safety net when there are failures. Insurers, regulated by states, pay into a state guarantee association system.
In 2009, state associations can assess member companies to cover the net liabilities of failed companies up to a maximum of $8.8 billion.
Variable annuity holders’ funds are in separate accounts.
“We are in economic waters that are somewhat uncharted, but I am confident that our system has the ability to respond and protect consumers under any scenario that is likely to develop,” said Peter Galanis, president of the National Organization of Life & Health Insurance Guaranty Associations.
To head off undue strain on the system, regulators may already be talking to stronger companies about assuming policyholder obligations in the event of failures, said Lawrence Kaplan, a lawyer in the Washington, D.C. office of law firm Paul Hastings.
“The goal is the least disruption to policyholders because it will cause all sorts of market disruption if people are suddenly uninsured after years of paying premium,” said Kaplan.
(Reporting by Lilla Zuill; Editing By Toni Reinhold)
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