Rising interest rates and volatility in equity markets led to statutory unrealized losses through the first three quarters of 2022 that rival early 2020
A new report from AM Best shows life premiums and death benefits are normalizing after reaching historic highs, driven by the pandemic. To access the full copy of this special report, please visit here.
OLDWICK, N.J., April 26, 2023—AM Best benchmarking analysis of rated U.S. life/annuity (L/A) insurance companies showed that those insurers with higher quality investments fared better in uncertain market conditions during the first three quarters of 2022 that saw a sharp increase in unrealized losses.
The Best’s Special Report, “Life/Annuity Benchmarking: 2022 Unrealized Losses Exceed Early Pandemic,” states that insurers whose quality of assets were assessed as negative under the balance sheet strength assessment experienced a higher percentage of unrealized losses to surplus. Unrealized losses came to 5.3% of surplus for companies with a quality of assets assessment of negative, while companies whose quality of assets was assessed as positive saw unrealized losses come to less than 1% of surplus.
“Unrealized losses underscore the importance of favorable liquidity and asset-liability matching,” said Helen Andersen, industry analyst, AM Best. “During the prolonged low interest rate environment, L/A insurers extended the maturities of their bond portfolios to bolster yields. However, longer maturities are now a disadvantage as interest rates rise, because insurers must wait longer to reinvest the proceeds at the new higher rates.”
Benchmarking is an essential element in AM Best’s rating process, as it allows for comparisons of the performance of a rating unit to its peers, composites and the industry. AM Best uses a variety of benchmarking techniques to view companies from different perspectives, allowing for comparisons of absolute results and volatility levels across the industry. In noting that life insurance premiums, which grew to pandemic-driven historical highs, were now normalizing, the report states that life premium growth in 2021 was not uniform and could be viewed through rated insurers’ operating performance assessment results. According to the analysis, those insurers with an operating performance assessment of very strong saw the highest growth rates in 2021.
“Those companies with operating performance assessments of strong or better had advantages during the pandemic that aided in growth, such as nationwide distribution or more abilities in selling in a remote lockdown environment. Companies with worse operating performance assessments already were experiencing worse mortality and cutbacks on production,” said Andersen.
Unrealized Losses Thus Far Exceed Early Pandemic
After gains in the last quarter of 2021, volatility in equity markets, as well as rising interest rates, led to substantial unrealized losses, with the trailing 12-month total through the third quarter of 2022 exceeding that of the first quarter of 2020 for life/annuity insurers (Exhibit 1).
Insurers with higher quality investments fared better in the uncertain market. For companies whose quality of assets (under the balance sheet strength assessment) was assessed as negative, unrealized losses came to 5.3% of surplus. For companies whose quality of assets was assessed as positive, unrealized losses came to less than 1% of surplus. During the prolonged low interest rate environment, L/A insurers extended the maturities of their bond portfolios to bolster yields.
From 2012 to 2021, the average maturity lengthened for all lines of business, for the most part more than 20% (Exhibit 3). The greatest changes were in the group annuity and individual life lines. However, longer maturities are now a disadvantage as interest rates rise, because insurers must wait longer to reinvest the proceeds at the new higher rates. This affects smaller insurers more, as larger insurers have generally maintained shorter average durations in their bond portfolios the past ten years than their smaller counterparts.
Unrealized losses underscore the importance of favorable liquidity and asset-liability matching. The insurance industry generally operates on a hold-to-maturity investment strategy, so unrealized losses are not a major problem unless losses are realized. To meet their policyholder obligations, life insurers rely on short-term liquidity, which has been bolstered since the onset of the pandemic. Companies that need to sell assets to meet liability payments will be the most affected, as they will have to sell bonds at deeply discounted prices.
Life Premiums And Death Benefits Come Down From Pandemic Highs
Life premium growth got a boost from the pandemic, which drove home the importance of life insurance. Although life premiums remain above pre-pandemic levels, growth stagnated in 2022 owing to consumer concerns about the economy and high inflation. In contrast, annuity premiums grew through most of 2022, as sales of fixed-rate annuities benefited from interest rate hikes. Still, some carriers began to pull back from fixed annuities in the latter half of the year to conserve capital and focus on building a more diverse product mix. Life premium growth during the pandemic was not uniform. Insurers with an operating performance assessment of Very Strong saw the highest growth rates in 2021, although (on average) insurers assessed as Adequate and up all saw significantly higher growth than the ten-year average.
Companies with an already strong operating performance assessment had advantages during the pandemic that aided in growth, such as nationwide distribution that was better able to handle selling in a remote lockdown environment and more capital and better balance sheets to absorb capital intensive products, while companies with worse operating performance assessments were already experiencing worse mortality and cutbacks on production.
Premiums are coming down from historic highs, but so are death benefits. Death benefits as a percentage of net premiums written spiked during the pandemic, affecting smaller and medium-sized companies much more than the largest insurers. Companies continue to characterize COVID-19 mortality as having an earnings (as opposed to a balance sheet) impact, suggesting no significant impacts on reserves to capital levels.
Most carriers are still experiencing higher mortality rates than usual, resulting in slightly favorable development for long- term care and annuities. In 2021, mortality was higher for working age populations, which affected both individual and group life claims. Mortality remained elevated in early 2022 due to the Omicron variant but has declined to pre-pandemic levels since then. The longer-term implications of COVID-19 and other mortality factors on liabilities and future pricing assumptions are still uncertain, with most companies not yet making significant changes to their mortality assumptions; they are assuming that mortality will remain elevated over pre- pandemic levels but will gradually decline back to those levels over the next decade.
To access the full copy of this special report, please visit here.
About AM Best
AM Best is a global credit rating agency, news publisher and data analytics provider specializing in the insurance industry. Headquartered in the United States, the company does business in over 100 countries with regional offices in London, Amsterdam, Dubai, Hong Kong, Singapore and Mexico City. For more information, visit www.ambest.com.
