Life Insurance CFOs Won’t Let Low Interest Rate Environment Inhibit Growth

Life Insurance CFOs’ primary business concern is the current low interest rate environment, according to Towers Watson’s recent survey. However, according to the survey, they are more optimistic about improvements in their financial results.

Almost half (45%) of respondents of “Life Insurance CFO Survey: Low Interest Rate Environment,”  emphasized that a prolonged low interest rate environment is the greatest threat to their business. And, they aren’t expecting the environment to get any better anytime soon. More than two-thirds (68%) said they expect a three- to five-year period of low interest rates, followed by a gradual increase. Eighty-seven% of all respondents believe there is a 50-percent or greater likelihood of a major disruption to the economy in the next 12 to 18 months, with 27% saying there is a 75-percent likelihood and 7-percent saying the likelihood of a major disruption is almost certain.

This is cause for concern, as life insurers are adversely affected by low interest rates, in part, because of lower returns on their investments and previous guarantees promised to their policyholders, said John Fenton, senior life insurance consultant at Towers Watson. “In addition, the low interest rate environment makes some of their products very unattractive in the marketplace, such as traditional fixed universal life and annuities.”

And, respondents are concerned. When asked to consider their organization’s interest rate risk exposure, CFOs’ metrics of greatest concern were their levels of statutory capital (63%), followed by their level of statutory earnings (53%).

As a result, CFOs said they are considering or taking a number of actions to control interest rate risk. More than half (57%) said their company has established risk tolerance limits for interest rate risk; however, 43% have not done so, and more than 40% of CFOs with established rate risk tolerance limits indicated they have breached them.

“Interest rates are a fundamental risk for life companies if they remain at current levels or move dramatically,” Fenton said. “Insurers need a forward-looking plan for managing the enterprise if interest rates stay low for an extended period of time. They also need a risk management plan for a sharply rising interest rate scenario. Based on the survey, many life insurance companies do not appear to be well prepared for either scenario.”

The survey did find that CFOs have increased the cost of insurance rates for interest-sensitive products as a way to better manage their interest rate risk. Forty-three% of respondents said, based on future expectations, the language of their policy forms allows them to change cost of insurance (COI) rates under the universal life products they sell based on investment earnings, while 50% said they can change COI rates for variations in mortality alone.

Survey respondents have also implemented product change strategies, or are considering implementing them, as a result of the low interest rate environment. Virtually all (96%) have reduced their minimum guarantee on fixed-account products. More than half (56%) have adjusted their premium rates, reduced living benefit guarantees or adjusted fees on annuity products (56%), or ceased or significantly curtailed sales of some products (54%). One-quarter have even taken the step of exiting product segments and another 13% plan to do so in the next six months.

CFOs expect this product-change strategy to improve their financial results. Seventy-one% of respondents expect increases in new life and annuity premiums of 4% or more in the first quarter of 2012, compared to the same period in 2011. More than 80% expect GAAP net revenue to grow by 4% or more in the first quarter, compared to the same period in 2011.