An industry that had a meteoric rise in the first eight years of the 21st Century is now struggling to find its footing in a world turned upside down by continuing increases in life expectancies, the worst economic downturn since the Great Depression and the withdrawal by the same investment banks that fueled the rapid growth of the industry.
But there is another shoe that could drop in the future.
The life insurance industry acknowledges challenging the life settlement market at every turn, and its decline is allowing carriers to heave a sigh of relief. Part of the reason for that is the growth of “manufactured policies,” or stranger-originated life insurance, referred to as STOLI, which was of deep concern to the industry and raised legal issues. Unrealistic projections of mortality by underwriters are another factor that encouraged investors to flee life settlements, industry officials say.
“Without question, there is less capital available to this industry than there was before the recession,” said Michael Fasano, president of Washington, D.C.-based Fasano Associates, one of four major underwriters who advise potential investors on actuarial and mortality risk. Fasano said part of that is simple investment economics. “When there is a credit crisis, capital flees from alternative investment to the most secure investment.”
Yields on Treasury securities are at historic lows, but in relative terms, yields on alternative investments are at historic highs. The flight to quality played a role in the precipitous decline in the life settlement industry, Fasano said, but compounding that problem “was a lack of confidence in many of the players and participants in the industry.
“It may have been unfair to tar everyone with the same brush, but that is the way it is,” Fasano said. “There are not many positive investment stories if you look at the experience of the ultimate investors in life settlements,” he said. “If you look at the overall market, most [people] have not done very well.”
What the experts say
In a 2011 study, Conning, an insurance research and advisory firm, reported an optimistic outlook for the life settlement industry. Looking ahead to 2012, it noted, “We see an asset class where consumer demand remains strong. However, capital inflows remain weak despite the fundamental appeal of life settlements.”
Moreover, the study said that the fundamental appeal of life settlements remains. “Life settlements continue to offer a value added benefit to policyholders as long as insurers are unable to provide cash surrender amounts that reflect a policy’s mortality-adjusted economic value. Life settlements also retain their attraction as an alternative asset class for investors due to the low correlation with equity markets and competitive returns.”
But the market continues to struggle. Fasano puts it more bluntly. “All along the line – banks, investors, players, etc., etc. – there has been a decline.”
Darwin Bayston, president & CEO of Life Insurance Settlements Association (LISA), acknowledges a precipitous drop in the number of players, agents, brokers and employees of allied industries, such as the companies which advise potential buyers of the actuarial and mortality risk associated with life settlement acquisitions. He said LISA membership has declined by 40 percent since 2008.
An August 2013 case study by Professor Lauren Cohen of Harvard Business School contains a chart that is more specific. It says that the annual volume of new business in life settlements in 2002 was $2 billion, constituting $1.9 billion of policies in force; rising to $11.77 billion in annual volume in 2008 representing $31.78 billion of policies in force; and plunging to $1.25 billion in annual volume in 2011, representing face value of policies in force of $35.06 billion. Volume rose slightly in 2012, to $1.26 billion, but the value of policies in force continued to decline to $34.02 billion. (In-force life settlements are life insurance policies owned by third parties that had not yet paid out, Cohen said in her study.)
The American Council of Life Insurers (ACLI), which has battled the life settlement industry on various fronts for a number of years, submitted testimony to the Florida Office of Insurance Regulation in September 2013 that said, according to data gathered from state insurance regulators, the number of viatical life settlement transactions declined in 2012 by 11.8 percent to 1,187 settlements from 1,346 in 2011. And the total face value of policies sold declined to $2.12 billion from $5.06 billion.
Behind the downturn
Fasano said the secondary market is still very slow and there are several reasons for that. First, the market was larger than it should have been in 2006, 2007 and 2008 and the market grew larger than the fundamentals justified.
A combination of related factors led to this, Fasano said. “There was a significant component of manufactured policies, policies that were taken out with the intention of reselling them – STOLIs.”