Industry Surplus Fell Last Year For Only Time Since World War II
Financial strength records abounded in the life insurance industry in 2001. Some were good, some were bad, some were artificial in nature, and some were simply puzzling.
One hundred thirty companies, comprising 85% of life industry assets, experienced record capital losses and record shareholder dividend payments, which caused their total surplus to decline for the only time since World War II.
Data from the Townsend & Schupp Analyzer (an Internet financial analysis service) shows that the sum of surplus, asset valuation reserve (AVR) and interest maintenance reserve (IMR), fell 5.1% before accounting changes, but only 0.3% after accounting changes, in 2001. Surplus rose only 1.6% in 2000, which was the second lowest surplus gain post World War II.
The Good. Surplus paid-in of $12.2 billion in 2001 exceeded the previous high of $9.5 billion set in 2000. Also, the National Association of Insurance Commissioners codification of statutory accounting principles became effective Jan. 1, 2001, which increased total surplus for the 130 companies by $9.5 billion (4.8%).
The Bad. Shareholder dividends of $20.3 billion in 2001 nearly doubled the previous high of $10.8 billion paid in 1998. Net capital losses of $10.3 billion significantly exceeded the previous high of $7.2 billion set in 2000.
Total operating earnings fell 31% before taxes, and 27% after taxes. Ranked by aggregate earnings in 2000, pretax earnings fell
12% for individual life, 49% for group annuities, 67% for individual annuities, 20% for group life, and 100% for group health insurance, in 2001. Individual health earnings tripled from a modest base.
Declines in fixed annuity and life product earnings reflected lower interest rate margins, and a modest volume of World Trade Center death claims. Declines in variable annuity and life product earnings reflected a 6% decline in assets, and an 11% decline in fee income.
Return on equity of 6.4% in 2001 was the lowest return for the life industry in the last 25 years, under the previous low of 7.0% experienced in 1994 when interest rates fell sharply and health insurance underwriting losses mushroomed. Return on equity was in single digits for the 10th consecutive year.
The Artificial. As stated earlier, NAIC codification resulted in a non-recurring surplus increase of $9.5 billion.
The Puzzling. For the previous four years, 1997-2000, the aggregate Risk Based Capital (RBC) ratio for the 130 major companies hovered in a narrow range of 273% to 278%. But, in 2001, the RBC ratio jumped from 278% to 345% for the 130 companies, despite the fact that their aggregate surplus declined.
Asset risk factors in the RBC formula, which historically comprised two-thirds of total RBC required capital, were changed for most asset classes to include pretax and post-tax risk factors. This contributed heavily to the 24% gain in the RBC ratio for the T&S Composite of 130 companies.
Companies that experienced large asset losses on junk bonds, commercial mortgage loans, and collateralized mortgage obligations in the early 1990s, and that went into conservation, also lost investment income and reported operating losses, and were in no position to recover tax benefits on investment losses.
Does the jump in RBC ratio from 278% to 345% overstate the financial strength of the life insurance industry, from 2000 to 2001?
Composite Industry Results. Table 1 shows the components of surplus changes for 1997-2001 for the T&S Industry Composite. Surplus includes the AVR and IMR, while operating earnings exclude amortization of the IMR.
Table 2 shows that 50 of 118 stock companies (of 130 total companies) paid-in new surplus of $12.2 billion in 2001. These include the Hartford Life Companies at $2.7 billion paid-in; Principal Life, $1.6 billion; Swiss Re, $1.4 billion; Prudential Insurance Company, $1.1 billion; the MetLife Companies, $882 million; the AIG Life Companies, $850 million; the ING Life Companies, $771 million; and the AEGON Life Companies, $705 million.
Shareholder dividends paid-out exceeded new surplus paid-in for the eighth consecutive year, and the net payout of $8 billion in 2001 exceeded the previous high of $7.5 billion set in 1998.
Table 3 shows net investment yield on mean assets, return on mean equity, and capital ratio (total surplus to invested assets) for the T&S Composite for 1990-2001.
Net investment yield fell for the ninth time in 12 years, in 2001, and experienced its sharpest decline (32 basis points) since 1994 (49 basis points).
Return on equity set a 25-year low of 6.4% in 2001, and remained in single digits for the tenth consecutive year.