A story on ABC’s “World News” earlier this month focused on the life settlement industry and featured the story of Dr. Eddie Powell. After losing both his legs to a hospital infection, Powell joined the growing ranks of life insurance policyholders who are cashing in by selling their policies on the secondary “life settlement” industry. The 61-year-old, who needed money to continue his medical practice and help his three children through medical school, received a substantial payout on his policy. “For close to a million dollars of insurance, I got a hundred and some thousand dollars,” Powell said.
Coventry, which bought Powell’s policy, bundled it with others and sold it to banks or hedge funds. Because the investors will continue to pay the premiums, the sooner Powell dies, the better the return on their investment. The growing life settlement industry now welcomes the interest of Wall Street, which is getting in on the action.
“The ‘ick’ factor is there, and we’re certainly aware of it,” said Russell Dorsett, president of the Life Insurance Settlement Association. “The secondary market simply lets individuals bet on their own mortality. So, say that I am going to live longer than you think I am, I will take the money now rather than having to wait to die in order to get it. It’s no different than the life insurance business itself. Basically mortality, morbidity is a multitrillion dollar market.”
Critics of this burgeoning industry, however, claim that securitizing the life insurance industry creates the same scenario that led to the subprime mortgage boom and subsequent bust. That crisis began with banks loaning money to borrowers ill-equipped to repay them but really got going when Wall Street stepped in with collateralized debt obligations. These instruments allowed investors to bet that the risky loans would go bad. With trillions invested by Wall Street, banks’ incentive to issue risky loans increased. When the loans eventually went bad, investors got rich, while rest of the economy nearly collapsed.
If Wall Street now gets into the game of betting on the early death of senior policyholders or the terminally ill, there is the fear that it could create a market for unscrupulous brokers who prey on the sick and elderly, while threatening the health of the entire insurance industry.
Some also worry that the practice could adversely affect public health policy. “People who have bets on early death will find themselves lobbying against effective health care,” said Michael Greenberger, a University of Maryland law professor and former director with the Commodity Futures Trading Commission. “There’s no two ways about it, this is an accident waiting to happen in terms of investment. It’s setting up the same wild financial infrastructure [as collateralized debt obligations] that turns out to be nothing more than a casino, unrelated to the underlying transaction.”
For their part, the Life Insurance Settlement Association urges people to keep their policies in force, if possible. But if the alternative is to allow the policy to lapse or to surrender it to the insurance company, life settlement may be an attractive option. “The fact of the matter is that for well over a decade, consumers have asserted their property rights in life settlement transactions and, for the vast majority of these, this decision has proven extremely lucrative,” notes LISA’s Doug Head.
Moreover, says the industry, comparisons of life settlements to collateralized debt obligations are unwarranted because life settlements are not subject to the same macroeconomic and market forces that affected the housing industry. “Suggesting life settlements are the new subprime scandal is simply an exercise in sensationalism by the media,” said Patrick McAdams, co-chairman of ELSA, the European life settlement trade group.