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Moving VA risk a credit positive for MetLife

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Last week, MetLife announced the planned merger of several offshore entities into one domestic company for the reinsurance of its variable annuity (VA) business, a move that Moody’s has deemed a credit positive.

In an analysis written by Neil Strauss, vice president, senior credit officer at Moody’s Investor Service, the move was given that status because “it will provide better transparency and regulatory oversight into MetLife’s VA risk, which, with guaranteed benefits over $100 billion, is a major component of MetLife’s liabilities.”

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Housing the risk in a larger domestic entity with greater assets and more diverse liabilities will further enhance MetLife’s derivative-based hedging program for its VA guaranteed products, noted Strauss. Also, by having an onshore reinsurance company, MetLife will save on “costly letters of credit.”

Regulators, particularly the New York Department of Financial Services, MetLife’s primary regulatory agency, have warned against the use of offshore captives that may not be subject to more intense regulatory scrutiny. The move will allow analysts to see if the VA business is property capitalized, Strauss wrote.

However, the merger, which MetLife expects to be complete by the end of 2014, is a bit of a double-edged sword, bringing with it more volatility in reserve requirements. It’s likely, Stauss wrote, that MetLife will hold capital at levels consistent with the risk, although the rating agency expects the company will allow its reported National Association of Insurance Commissioners’ risk-based capital (NAIC RBC) ratio to decline from current levels, which are higher than its long-term target level.

“Notwithstanding the positives, bringing the risks onshore could result in reported capital becoming more volatile under adverse market conditions when reserve requirements would increase. Such was the case for several VA insurers during the 2008-09 financial crisis,” Stauss stated.

Moreover, with more regulatory scrutiny, MetLife will probably take on less risk, the Moody’s analyst predicted.

A U.S.-based subsidiary also enables MetLife to better comply with derivative collateral requirements mandated by Dodd-Frank because it will have “a larger and more diverse asset base, which it may use as collateral for derivatives owing to the subsidiary holding other businesses beyond VA reinsurance,” Stauss wrote.

Variable annuity insurers employ significant hedging programs in the form of derivatives to help them manage through equity market declines and prolonged low interest rate environments, Strauss pointed out.

Moody’s also wrote that the shift is a capital neutral transaction.

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