Life Insurance Follow-Up

In response to last Friday’s article about protecting life insurance policies against collapse, I received several notes.

The following is an LSW broker’s response to a policy holder’s inquiry, and is typical:

LSW is in great shape with approximately $850 million in excess funds. In fact A.M. Best (a national rating company) in November just reaffirmed their rating with an “A” excellent rating. [Information] from this Jason Kelly is to scare people into surrendering their life insurance policies so he can make a lot of commissions. This is a good example of the “less then [sic] professional people” in our industry.

There are a few points to make here.

First, neither Teresa Lo nor David Goldman nor I ever suggested “surrendering” a life insurance policy, nor are we able to earn commissions regardless of what people decide to do. We are not even in the insurance industry, let alone behaving “less than professionally” in it.

Second, nobody attacked LSW per se, nor warned specifically against trouble at that company.

Third, policy holders should feel small reassurance by an “A” rating from A.M. Best these days. Many brokers wrote that their company is highly rated and extolled the virtues of choosing a highly-rated company, one pointed out that ratings include fiduciary solvency, and several said nobody has lost money in a whole life policy.

Yet, folks. Yet.

After all we’ve seen, it’s a laugh that brokers still toss ratings out as proof of safety. High ratings are good, of course, but hardly foolproof. Have the brokers not noticed the news over the past year? Many trusted names have either disappeared or gone on the dole, and a lot of money has evaporated with them. The time for trust is gone.

If you want to know the worth of ratings, consider these two: A.M. Best’s current rating for AIG Advantage Insurance Company is “A” for excellent, and its rating for Lehman Re was “A-” right up until the middle of last September. Feel safe now, policy holders? That’s some bullet-proof rating system.

A.M. Best is not the only credit rating company. Standard & Poor’s lowered its counterparty credit and financial strength ratings on 10 U.S. life insurance groups, and reported that around 40% of insurers are on a “negative” outlook.

You should take whatever steps necessary to protect your own assets. If yours are not in need of protection, great, but isn’t it worth investigating? Your money might be with one of the 40% on a negative outlook, or an “A” just waiting to be the next unbelievable, nobody-saw-it-coming headline.

Teresa Lo of InVivoAnalytics emailed me some thoughts on this thread. A good point to keep in mind is that brokers for Bear and Lehman said all was well right up until the firms collapsed. Same with Merrill not needing to raise additional capital, same with Madoff, same with GE’s dividend, and so on. Detect a pattern yet? The amount of untrustworthy information that’s piled up is staggering, and you won’t care whether it was in good faith or not if it ends up costing you money.

Teresa sent an AP story, from which I took the following:

The life insurance industry is weakening, and policy holders around the country are calling their agents to ask the same question: Is my policy safe?

Probably. But there’s good reason for consumers to keep an eye on their insurers’ financial standing.

If the markets and economy keep deteriorating, analysts say, life insurers’ troubles could escalate to the point where they require billions in federal money.

As the last six months have proved, the economy and financial services industry are in uncharted territory, so it’s wise for consumers to check and see if their policies are with strong companies. If an individual policy is worth more than the limit a particular state will repay in the event of a collapse, the holder might want to consider moving some of it out or switching altogether, [Israel Lustig, CEO of Intergenerational Wealth Preservation] said.

“What will happen in the future? We don’t know. Would we recommend that clients move to higher ground? Yes, if there are no big surrender charges,” he said, referring to the penalties some policy holders pay for terminating their agreements with insurers.

From that same article, pay particular attention to the following paragraph, because it’s what most brokers are telling their clients:

The troubles of insurance companies are nowhere near those of the banks. No company specializing in life insurance has collapsed during the current financial crisis, unless you count American International Group Inc. The problems at AIG, a financial services conglomerate, resulted not from its traditional insurance business, but from its investment banking and risky bond insurance. The company has gotten $180 billion in government funding, with officials calling the company too systemically important to fail.

Unless you count AIG? That’s quite an exception and illustrates the riskiness of the previously mentioned uncharted territory. The main takeaway is that risks outside of AIG’s insurance business took down the whole company. It’s alive today only thanks to ongoing government support, and if the liabilities of this entire mess are anywhere near the worst projections, there’s a chance that government support will reach a limit and somebody will not get the protection they thought they had from the insurer behind the insurer behind the insurer.

At the Asia Times Inner Workings blog, former hedge fund manager David Goldman has been following the credit markets as they relate to insurers. The following excerpts from an entry posted last Thursday cut through the illusion that banks and insurance companies are safely separated:

Credit protection for the insurers is looking ugly.

The pyramid scheme that links insurers and banks (insurers own the capital securities of banks and provide first- or second-loss protection for bank positions in a variety of ways) makes it impossible to keep the two sectors separate.

Insurers used to be yield hogs. AIG was the worst, writing protection with abandon on asset-backed Collateralized Debt Obligations, effectively shorting a mass of put options — which is how it racked up the worst corporate loss in American history last quarter. But the rest of the insurers did the same thing, albeit with a bit less greed, scarfing up barely-investment-grade tranches of asset-backed deals that amount to second-loss pieces, and similar parts of the capital structure in commercial mortgage backed securities.

If the capital securities of the banks are at risk, starting with preferred stock, and then going to trust preferreds, subordinated debt, and so forth, then the insurers are in deep trouble.

Check your situation and be as sure as you can be that your money is safe. Explore your options. Consider penalties and taxes. Nobody will look out for you better than you, so start looking out.

Don’t shoot us messengers for suggesting a little due diligence. If ever there was a time for such, this is it.

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