Monday, October 26, 2009

LIMRA’s CEO Panel Discusses Business In A Tough Economy

New York
A panel of CEOs offered their take on a business landscape that by all accounts at the annual LIMRA meeting here is one of the toughest in recent memory.

During the first day of the 2009 meeting the panel addressed issues posed by Robert Kerzner, LIMRA’s president and CEO that included distribution, rating agencies and the best structure for a life insurer. The three panelists included Robert Chappell, chairman, president and CEO of Penn Mutual Life Ins. Co., Philadelphia; Donald Guloien, president and CEO of Manulife Financial, Toronto; and Theodore Mathas, chairman, president and CEO with New York Life Ins. Co. in New York.

The panelists began by discussing the current economic climate and the lessons that have been learned over the past year. Manulife’s Guloien said he believes we are halfway through the cycle but continues to be concerned about the level of unemployment and the impact that will have on the ability to sell life insurance. The need for better risk management techniques is a lesson that has been learned from this experience, he added. “There has been too much emphasis on quant techniques and not enough emphasis on seat of your pants judgment,” Guloien added.

Penn Mutual’s Chappell discussed facing the “unknown and unknowable” and said that companies have to protect themselves against the unknown by maintaining sufficient capital so that they can keep their promises. He said that companies have eliminated 30-40% of their employee base to improve corporate profits and it is going to take the economy a while to rebound.

New York Life’s Mathas said that there are a few lessons to be learned from the current economic client but “we’ll have to wait and see if they stick. Models have supplanted judgment,” he noted. Sophisticated companies and rating agencies have relied on modeling to help them assess risk, Mathas added. “A model should help you understand risk and not get you comfortable with a level of risk,” he continued. “If a GPS says take a right turn off of a cliff, you are still supposed to look out a window,” Mathas added.

In response to a question from Kerzner on how much capital a company should hold, Mathas responded that “We make guarantees. We should hold more capital than what is would be economically efficient to hold because we make guarantees. That is what we are supposed to do.” Over 20 years, it might be too much to hold in 19 of those years but in the 20th year, a company should be glad it did, he added.

The panelists were then asked by Kerzner whether recent rating agency downgrades are an overreaction or whether they are justified. Chappell said that rating agencies assessed where life insurers are today and projected that out into the future. But in the recent market, there was an inflection point that turned the economic environment topsy-turvy for insurers, he continued. He added that the agencies “piled on” and will probably continue in 2010 when assessing holding of commercial mortgage-backed securities. This could put insurers in a “much deeper hole,” Chappell added.

Guloien said that life insurers have been blaming rating agencies for not catching weaknesses when rating securities but many of these companies have internal departments that should have caught these weaknesses.

And, he added, there is a new reality to which companies need to adjust. Both regulators which are dealing with gaps in oversight and those which consider themselves lucky to have avoided problems they would need to deal with directly will be looking more carefully at life insurers going forward, he predicted.

New York Life’s Mathas said that rating agencies deserve blame but so do others.
When asked about distribution, he added that it is one of the biggest issues that his company focuses on. Mathas maintained that a career agency system was still the best way to distribute life insurance and New York Life does nothing to infringe on that system. For instance, Mathas said that the company does have a direct marketing effort through the AARP, Washington, but that the size of the policies sold are so small that a career agent could not make a living selling them. Consequently, the effort is not competing with agents, he added.

On the issue of mutual versus stock company, Chappell said that the mutual structure is better suited to keep a promise that can span decades. He cited a recent claim on a policy issued in 1927 on a man who was a month shy of turning 112. Stock companies are thinking more on a short-term basis, he added.

Mathas agreed that for a long-term guarantee, the mutual model is “superior.” Part of the way that a stock company increases the value of its stock is to buy it back and increase ROE, he explained. But mutual companies are able to retain the extra capital, he continued. However, Mathas did say that there are well run stock companies.

Guloien noted companies like Mutual Benefit Life and Confederation Life which failed and said that the strength of a company really depends on how well run the company is and not on whether it is a mutual or stock company.

Sunday, October 18, 2009

Few Deals, Much Interest

The Oct. 13 release of a report on life settlement securitizations authored by Standard & Poor’s Corp., New York, is just the latest in renewed interest in life settlement securitizations. Like life insurance, mortgages or any other asset, these transactions pool policies, cut them up like a pie into bonds and sell pieces to investors.

The S&P report says that life settlement securitizations have “attracted investors’ interest in waves over time.” And, it continues, there is renewed interest expressed in the investment class. It goes onto say that investors and originators can see potential benefits such as a lack of correlation to the economy, but there are also inherent risks.

Among the risks and difficulties it cites are the accuracy of actuarial assumptions on the 100+ lives that underlie a transaction. The report, “Uncovering The Challenges In Rating Life Settlement Securitizations,” cites the potential for cash flow mismatch and the uncertainty it creates for payment to investors. S&P analysts Winston Chang and Gary Martucci write that statistical credibility is unlikely to be achieved with a pool of less than 1,000 lives. And factors examined including age, smoking status and gender is not broad enough. Factors including genetic information, occupational histories and living environments also need to be considered, according to Chang and Martucci.

S&P cites a second concern over the ‘insurable interest’ of policies which are sold to an investor and then packaged and sold again to investors who purchase securities. ’If there is an abuse of insurable interest can the policy be enforced?’ the rating agency asks.

The agency also cites a third concern: the accuracy of independent medical reviews used by originators in these securitizations. It goes on to explain that in mortality underwriting insurers “misunderwrite” a very limited portion of their policies and the law of large numbers minimizes that action. In the case of life settlements, the impact is less clear, according to S&P. It states that medical underwriters get a flat rate for each policy written and review the existing medical file rather than require a new physical exam, leaving open a greater risk for underwriting error. It also cites limited historical data comparing projected and actual mortality rates.

Chang and Martucci also raise the issue of the timing of cash flows, noting that a statutory period for payment of death benefits is not as defined as predetermined payment dates for notes. The potential cash flow mismatch could result in a missed payment and default, it added. It also cites a situation where the death of the individual cannot be verified, creating the possibility of years of delay in a payment of a death benefit.

S&P leaves open the possibility of rating these transactions after it addressed the concerns cited in the report and created and published criteria for rating securitizations of this asset class.

To get a better sense of where this market is going, I think it is also worthwhile to read testimony delivered on Sept. 24 before the House Subcommittee on Capital Markets, Insurance, and Government Sponsored Enterprises ( Several threads came out of that testimony: there have been only a handful of life settlement securitizations, there are a limited amount and type of policies that would be suitable for securitization, so the market’s growth may well be exaggerated; and this is a market that is only suitable for institutional investors.
So, the issue of whether life settlement securitizations ever grow big enough to become a cause for concern may never materialize.

And in theory, one would assume that the fact that institutional investors who are supposed to be conducting due diligence efforts would take care of some of the issues raised by the S&P report including how medical underwriting is done. Then again, given how much due diligence was done on RMBS, maybe that is too optimistic. But nevertheless, the institutional investors who package these transactions and the buyers of these bonds will for the most part be sophisticated investors, not your average investor.

On the issue of insurable interest, there is the potential that there are STOLI policies in the marketplace that could end up in these pools. But with efforts of the National Association of Insurance Commissioners, Kansas City, Mo. and the National Conference of Insurance Legislators, Troy, N.Y., legislation is popping up in states to attempt to tamp down stranger originated policies. Differences exist in the models developed by these organizations and there are differences in philosophy among trade groups weighing in on them including the American Council of Life Insurers, Washington, and the Life Insurance Settlement Association, Orlando, Fla., but the one commonality is the opposition to STOLI.

So, if a regulatory-legislative effort is successful, STOLI may not go away but may be diminished to the point that this could be scratched off S&P’s list of concerns.

Thursday, October 15, 2009

Cost, Such an Inconvenient (And Convenient) Word

Earlier this week, the Sen. Finance Committee passed a health care reform bill introduced by Sen. Max Baucus, D-Mont., the Committee’s chairman. The passage follows an alternative bill passed by the Senate Health Education Labor and Pensions Committee in July. The bills must now be melded into a new bill. The House is also working to blend several bills.

Good news, right? Well that depends on whom you ask. While in theory everyone is on board with health care reform, cost is a word that keeps creeping into the debate. This is a fair enough issue to raise. Do we want to saddle ourselves and our children with the burden of paying huge tabs for more comprehensive health care? Well, no.

But it is also fair to examine cost in a couple of different ways.
First, as many in the debate are raising, is the issue of dollars and cents.
America’s Health Insurance Plans, Washington, delivered sticker shock findings of a recent PricewaterhouseCoopers report which found that a family policy today with an average cost of $12,300 will rise to:
• $15,500 in 2013 under current law and to $17,200 if these provisions are implemented.
• $18,400 in 2016 under current law and to $21,300 if these provisions are implemented.
• $21,900 in 2019 under current law and to $25,900 if these provisions are implemented.

Labor, who you would think would be squarely behind reform, is arguing that at least as far as the Baucus proposal is concerned, the measure would tax the average person imposing a 40% excise tax on insurers of employer-sponsored health plans. Affected plans would be those with benefits of over $8,000 for individual coverage and over $21,000 for families.

But the White House has a few bullet points of its own that emphasize health care savings. It argues that its plan:
• Won’t add a dime to the deficit and is paid for upfront. The President’s plan will not add one dime to the deficit today or in the future and is paid for in a fiscally responsible way. It begins the process of reforming the health care system so that we can further curb health care cost growth over the long term, and invests in quality improvements, consumer protections, prevention, and premium assistance. The plan fully pays for this investment through health system savings and new revenue including a fee on insurance companies that sell very expensive plans.
• Requires additional cuts if savings are not realized. Under the plan, if the savings promised at the time of enactment don’t materialize, the President will be required to put forth additional savings to ensure that the plan does not add to the deficit.
• Implements a number of delivery system reforms that begin to rein in health care costs and align incentives for hospitals, physicians, and others to improve quality. The President’s plan includes proposals that will improve the way care is delivered to emphasize quality over quantity, including: incentives for hospitals to prevent avoidable readmissions, pilots for new "bundled" payments in Medicare, and support for new models of delivering care through medical homes and accountable care organizations that focus on a coordinated approach to care and outcomes.
• Creates an independent commission of doctors and medical experts to identify waste, fraud and abuse in the health care system. The President’s plan will create an independent Commission, made up of doctors and medical experts, to make recommendations to Congress each year on how to promote greater efficiency and higher quality in Medicare. The Commission will not be authorized to propose or implement Medicare changes that ration care or affect benefits, eligibility or beneficiary access to care. It will ensure that your tax dollars go directly to caring for seniors.
• Orders immediate medical malpractice reform projects that could help doctors focus on putting their patients first, not on practicing defensive medicine. The President’s plan instructs the Secretary of Health and Human Services to move forward on awarding medical malpractice demonstration grants to states funded by the Agency for Healthcare Research and Quality as soon as possible.
• Requires large employers to cover their employees and individuals who can afford it to buy insurance so everyone shares in the responsibility of reform. Under the President’s plan, large businesses – those with more than 50 workers – will be required to offer their workers coverage or pay a fee to help cover the cost of making coverage affordable in the exchange. This will ensure that workers in firms not offering coverage will have affordable coverage options for themselves and their families. Individuals who can afford it will have a responsibility to purchase coverage – but there will be a "hardship exemption" for those who cannot.

To look at cost as just dollars and cents is too narrow an approach. I think the more realistic and valuable way is to look at cost as a broader issue and to incorporate opportunity cost and reputational cost as well as the cost to the economy.

If everyone is truly on board with health care reform that will give people access to care and not just offering lip service, then there must be a willingness to look at opportunity cost. We are probably the closest we’ve ever been to having meaningful reform to our system. There are people who have fallen through the cracks or at risk of falling through the cracks. How much longer are we going to wait before we take action? The moment is now. If we don’t seize it, it might be years before we come close again. We can’t wait.

And, if pure reason can’t move us (and if it can’t, that is a sad commentary on our state of affairs,) then maybe vanity can. We are paying a high price in terms of reputational cost. How can we say we are a leader among nations when so many of our citizens are uninsured and many more risk being uninsured? How do you define ‘leader among nations?’ If we continue to let our people go without basic care, we are certainly not a leader when measured by compassion or common decency. We’re fooling ourselves. We believe our own press releases.

So, the next time you hear cost being used as a reason to oppose health care, be expansive and think beyond dollars and cents. Reality is far broader.

Thursday, October 8, 2009

Deferred Tax Asset Discussion Deferred

A call to discuss a controversial proposal for surplus relief by allowing deferred tax assets to be part of statutory surplus is postponed as staff at the National Association of Insurance Commissioners, Kansas City, Mo., gathers last minute comments and does additional work needed to prepare for the call. It is likely that the call will be rescheduled for some time after the meeting of the International Association of Insurance Supervisors, Zurich, Switzerland, after Oct. 15.

The change to SSAP 10, which would provide life insurers with more leeway in applying deferred tax assets was first introduced in November 2008 as part of a package presented by the American Council of Life Insurers, Washington, to provide what it maintained was an immediate need for capital relief following the financial crisis that hit a year ago.

In January 2009, after a public hearing, regulators said that the request was not an emergency, but that they would be willing to look at the issue through the normal channels at the NAIC. Iowa and Ohio, through permitted practices, allowed DTA to be applied as the ACLI had requested.

In a joint letter on Oct. 6, the Consumer Federation of America, Washington, and the Center for Economic Justice, Austin, Texas, opposed the proposed changes and called on the NAIC to “force those states, including Iowa and Ohio, which allowed changes to DTA calculations by bulletin earlier this year, to rescind those bulletins and provide uniform consumer protections across all states.”

The two consumer groups called the proposed changes “another giveaway to insurers at the cost of consumer protection” by reducing surplus with non-liquid assets. The two groups cite the Virginia insurance department which they say questioned the fact that no impact studies have been done. CFA and CEJ say that the proposal will actually speed the decline of troubled companies because as an insurer’s capital position weakens, the insurer will lose the DTA included in surplus and risk-based capital.

Both groups allege that the fact that the relief is limited to stronger insurers suggests that the proposal is “not about consumer protection, but about puffing up insurer surplus and credit ratings.”

When asked whether the use of permitted practices was a backdoor way to implement proposals still being discussed at the NAIC, Birny Birnbaum, CEJ executive director, said that “it is among the problems.” He noted that insurers are major employers in Iowa and Ohio.