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Fed Wonders About Life Insurers’ Liquidity

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What You Need to Know

  • The Fed report is separate from the Financial Stability Oversight Council report.
  • Officials say life insurers now have more securities lending and repurchase agreement liabilities.
  • Those nontraditional liabilities are more vulnerable to rapid withdrawals than most policyholder liabilities are, officials say.

Federal Reserve Board officials think life insurers look a little financially pale.

Officials talk about their concerns in a new financial stability report.

The report is different from, and a complement to, the Financial Stability Oversight Council’s financial system tracking reports.

Life insurers earn much of the cash they use to support benefits by using premium revenue to buy high-grade corporate bonds and other fixed income investments.

Life insurers themselves and rating analysts say that life insurers’ finances are strong, given life insurers’ need to cope with very low interest rates on bonds, and they emphasize that product structures reduce customers’ ability to rush in to withdraw contract value quickly.

Officials at the Federal Reserve Board say life insurers look weaker to them.

“Liquidity risks at life insurers remained at post-2008 highs and have been increasing,” officials declare in the heading over a life insurance section. “Over the past decade, the gap between the liquidity of the assets and liabilities of life insurers has increased, potentially making it harder for life insurers to meet sudden withdrawals of their deposit-like liabilities.”

More on this topic

Life insurers increased the amount of cash and other highly liquid assets on hand in response to the COVID-19 pandemic, but before then, the share of liquid assets on life insurers’ balance sheets was decreasing, and reaching historically low levels, officials write.

Some regulators and rating agencies have said that one of type of instrument life insurers have favored, the collateralized loan obligation, has performed well.

But Fed officials describe CLOs as “risky and illiquid assets” and some of life insurers’ side businesses, such as securities lending, as “more vulnerable to rapid withdrawals than most policyholder liabilities.”

Banks are well capitalized, and broker-dealers have a low level of leverage, officials say.

Life insurers, in contrast, have a relatively high level of leverage, and a drop in the value of corporate bonds, CLOs and commercial real estate-related instruments could hurt their ability to make debt payments, officials say.

Federal Reserve building in Washington (Image: Shutterstock)