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Improved profitability and better management in areas such as credit quality of investments will be increasingly important for insurers going forward, according to industry discussions and reports during 2003.

“What will [life insurers] need to make money?” was a question raised during a discussion among insurers.

National Underwriter posed the question to analysts.

Scale will be increasingly important, according to Andrew Kligerman, a senior life insurance analyst with UBS, New York. “We live in a world where scale is important and it is harder to make money without scale.” Scale also smooths out volatility, he adds.

Hedging risks created by guarantees in variable annuities also will be important, Kligerman continues.

Another long-time industry observer concurs that guarantees are helping to sell VAs and companies better have a good handle on “what they are promising, how they are delivering that promise and whether they are charging the right amount.”

In order to do that, it is necessary to properly hedge and understand pricing associated with hedging, the observer adds.

Going forward, payout products will be needed, according to this observer.

The recent trend toward more rational pricing of VAs will become even more important as the product becomes a commodity, according to Kevin Ahern, a credit analyst with Standard & Poors Corp., New York.

One of the ways to understand a companys risk is to understand the products that it offers and the optionality within those products, says Julie Burke, a managing director in Fitch Ratings Chicago office.

And the best way to do that, she continues, is to review actuarial memorandums filed with state insurance departments.

But, according to Burke, that resource is not readily available to many. So, she adds, it is disappointing that there is not more disclosure and that there is not more information provided in 10Ks and 10Qs.

Another factor that should be considered is who sold the contract: a company producer or a wirehouse, she adds. If a contract is purchased through a wirehouse, then it might be more susceptible to surrender, Burke says.

Insurers need strong management of asset liability risks, according to Michael Barry, managing director, Fitch Ratings, New York.

The current risk-based capital system, according to Barry, is somewhat weak in measuring ALM and the interaction between assets and liabilities.

But, the good news, he continues, is that a new regulatory tool, C-3, Phase I reserving guidelines, can require additional charges of up to 2 times regular C-3 requirements for certain companies. However, Barry adds, at this point, only 10% of companies are implementing C-3, Phase I reserving.

Credit risk also needs to be more carefully monitored, according to a report issued in 2003 by Moodys Investors Service, New York.

The Moodys report expresses concern that the level of credit losses have exerted “a heavy downward pressure on the credit ratings of some companies.”

Moodys does note in its report, “The Real Truth: Bond Credit Losses of U.S. Life Insurers,” that the situation is improving. However, it adds, the credit situation will continue to be a problem for sectors of the industry.

Moodys says life insurance companies sustained gross bond credit losses of 74 basis points of invested assets, or 3 quarters of a percent in 2002, compared with 47 basis points in 2001, or nearly half a percent. The dollar amount of these losses, according to the report, is estimated to be $15.4 billion in 2002 compared with $8.9 billion in 2001.

The report finds that 24% of U.S. life insurers 2002 gross bond credit losses were offset by interest related gains, down from 31% in 2001.

The rating agency states that it believes many of the interest rate related gains were realized by insurers primarily for “window dressing” purposes.

An analysis by Moodys suggests that average bond related losses as a percentage of statutory capital rose from 4.22% in 2001 to 7.26% in 2002. While the report says that, in general, credit reports have been manageable, it also states that in a few cases companies have lost more than 25% of their capital to gross credit losses during a one-year period.

Finally, the rating agency notes that there may be significant unrealized credit losses not yet recognized in certain insurers financial statutory statements.


Reproduced from National Underwriter Life & Health/Financial Services Edition, January 2, 2004. Copyright 2004 by The National Underwriter Company in the serial publication. All rights reserved.Copyright in this article as an independent work may be held by the author.