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Life Health > Life Insurance

In a low rate environment, pushing product isn’t an option

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n the coming years, producers can expect to see a wave of product unveilings that are likely to be less attractive than earlier iterations. The product downgrading will force advisors to further strengthen financial planning expertise and service capabilities to distinguish themselves in the marketplace.

This is my key takeaway from a July 2014 Swiss Re report that examines the impact of interest rate trends on the insurance industry. Though limited in scope (the report looks at prospects for Canadian insurers) the study’s key conclusions have implications for U.S. competitors, and therefore, U.S.-based advisors who depend on the carriers for product.

Real interest rates have been on a downward path for quite some time — more than 30 years, according to the report. Rates leveled at close to zero in 2011, the result of monetary policies in both the U.S. and Canada that sought to counteract the effects of the 2007-2009 recession. And they’ve moved up only marginally since then.

The low rates have most notably kept yields low for safe investment havens like U.S. Treasuries and the benchmark 10-year T-bill. Of greater importance to the industry, they’ve also depressed returns for investment grade corporate bonds that insurers depend on to generate earnings and make good on product guarantees.

Industry assumptions made years ago about long-term yields in interest rates have not, however, transpired. And the result is that life insurers can barely cover minimum promised crediting rates of 2.5 to 3 percent on the policyholder premiums that the companies reinvest. And, as the report reveals, inaccurate forecasts on rate yields also negatively impact insurers’ bottom line.

“Higher interest rate expectations at the time of underwriting are relevant for long-term policies without guarantees also, since higher investment yields were assumed to contribute to profitability,” the Swiss Re report states. “Such shortfalls of earned against assumed investment yields are critical for all products that rely on a build-up of investment returns to fund expected payouts in the later parts of a contract period.”

Even a small dip in interest rates can have a huge impact on the companies’ balance sheets. As the report notes, a 1 percent decline can reduce the investment income of an insurer’s bond portfolio by CDN $3 billion. Contrast this amount with annualized premiums Canadian insurers generated on individual products in 2013 (CDN $1.3 billion); and on net premiums for individual annuities (CDN $13.7 billion). Low long-term yields on corporate bonds wouldn’t be quite so bad for life insurers if fewer of their products were dependent on them. Alas, since the 1980s, insurers have derived a growing share of premium revenue on permanent life insurance products from interest-sensitive universal life contracts.

Will the interest rate environment get any better for insurers? Perhaps, but I doubt by much. The report’s best scenario calls for rates to gradually return to those prevailing before for the 2007-2009 financial crisis. More likely it is a “lower for longer” forecast, one that could mirror the rate environment experienced by Japan since the 1990s.

Given the less-than-ideal outlook, life companies will need to better manage interest rate sensitivity by redesigning their products. That means increasing premiums on universal life products and annuities. Continuing low interest rates will also demand downsized product guarantees. Some insurers may also opt for more flexible products, wherein premiums and credit rates are adjusted in tandem with changing market conditions.

The revamped carrier offerings will, in turn, force life insurance agents and brokers to rely less on product features to appeal to client prospects. And this is, I think, all for the best.

For the time has long since past when producers could sustain a successful practice by pushing product. In today’s world, it’s all about offering solutions — real ones.


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