NU Online News Service, Nov. 12, 2003, 6:59 p.m. EST – A gradual increase in interest rates could help U.S. life insurers, but a rapid "pop up" in rates would probably hurt them, according to two insurance rating analysts at Fitch Ratings Ltd.
Fitch and Lehman Brothers Inc., New York, recently responded to the dramatic shifts in U.S. interest rates by sponsoring a teleconference on the effects of rate changes on life insurance stocks.
Despite all the attention that life insurers pay to the risk that insureds will die, insurers "suffer more from interest rate risk than from mortality risk," Michael Barry, an analyst in Fitch's New York office, told investors who called in for the conference, according to a conference transcript.
Barry acknowledged that the kind of environment insurers survived in 2002 and early 2003?a slow, steady decrease in rates during a low-rate environment?is painful for many insurers.
Because of the legally required minimum rates that insurance companies must pay on many annuities and insurance products, and the higher minimum rates that companies often promise to win business away from competitors, "the companies can't fully adjust their crediting rates to reflect the market declines," Barry said. "The big risk at the end of the day is that we start to bump into the minimum rate guarantees and, possibly, can end up close to the situation that a lot of the Japanese companies found themselves in not that long ago."
But Barry argued that a pop-up rate scenario would hurt life insurers even more.
Barry noted that New York insurance regulators ask life insurers to analyze how their businesses might perform in a pop-up scenario in which rates go up 3 percentage points in a single month, then level off.
A slow increase from today's low rates might help insurers increase the difference between the rates they are paying customers and the rates they earn on their own investments. But, in a pop-up rate scenario, fixed annuity and life policy "surrenders would certainly increase as market rates would be increasing faster than insurers?could increase their crediting rates," Barry said.
Insurers would have to sell bonds at a loss to make good on obligations to the departing customers, and insurers that had tried to get higher rates of return by buying bonds with longer durations would lose more than holders of bonds with shorter durations, Barry said.
The forced bond sale "would lead to capital depletion," Barry said. "To boot, the best assets are typically sold first under this type of scenario, leaving the remaining liabilities with lower-quality asset support."
Julie Burke, an analyst in Fitch's Chicago office, said assessing the vulnerability of a life insurer to changes in interest rates is difficult even for a rating analyst who has access to actuarial memoranda and other private documents.
