In November of last year we reported on a regulation floated by the New York State Department of Financial Services to “govern life insurance company practices related to increases in the premiums” of life insurance and annuity policies. The goal was to “protect New Yorkers from unjustified life insurance premium increases.”
A little over a year ago we posted a blog about a Lincoln Financial cost of insurance (COI) increase on Legend Series Universal Life policies issued between 1999 and 2007 that originated at Jefferson Pilot (Lincoln Financial purchased Jefferson Pilot in 2006). Earlier this year we reported on a class action lawsuit filed in in the Eastern District of Pennsylvania against Lincoln. Other lawsuits soon followed, and in May we reported that four suits were combined in the Pennsylvania court into a Consolidated Class Action Complaint.
After the consolidated complaint was filed, Lincoln filed a Motion to Dismiss on June 8th. The Plaintiffs’ response was filed on July 28th, and Lincoln’s reply on August 17th. On August 22nd the court held oral arguments, and on September 11th Judge Gerald J. Pappert issued a Memorandum in which the court ruled on Lincoln’s Motion to Dismiss, which he denied in part and granted in part. As you will see, he mostly denied Lincoln’s requests, and the case will move forward.
In the last few years we have written over 20 articles on the cost of insurance (COI) increases that have plagued the life insurance policies we manage. The main reason for those increases? Most would say the historic low interest rate environment that we are (still) in. In a post published just over a year ago, we listed some low rate winners and losers. When rates are historically low, the winners are the borrowers, the losers are the lenders…and who are bigger lenders than insurance companies? They take in premium, invest it, and hopefully make enough to support future benefits. By regulation they must invest the vast majority of those premiums in fixed investments. It has been widely reported that the industry has been hurting, but this week in an article in the Financial Times, an industry executive took it a step further saying that because of “anemic” returns, the environment in the insurance industry is “unsustainable.”
Late last week, a Second Amended Class Action Lawsuit was filed in the United District Court, Southern District of New York in the Brach Family Foundation vs. AXA Equitable Life Insurance Company case we first wrote about on February 2, 2016.
Life insurance has been a challenging financial product to manage in the last year or so and we have written often about the issues that surround this asset. But we also believe that this is a powerful financial tool. In our last blog entry we wrote about its use to mitigate the negative effect of a tax law change that may occur in 2017. At ITM TwentyFirst, we manage life insurance, we do not sell it. In fact, we are one of the few firms that manages life insurance without earning any compensation from sales. We show our support not just by managing in-force business as efficiently as possible for trustees, grantors, and especially beneficiaries nationwide, but also by pointing out the value of life insurance as a tool to efficiently leverage assets for the next generation, especially in a trust setting. We believe strongly that life insurance, when selected properly and managed efficiently, can be one of the most important assets a person owns.
Less than two weeks ago, we reported that Moody’s had downgraded its 2017 outlook for the life insurance sector from Stable to Negative. A new Moody’s report published after the Federal Reserve raised its benchmark federal funds target rate by 25 basis points last week indicates that hike will benefit life insurers and “help reverse the downward march in investment portfolio yields.” (1)
Over the last two years, we have written extensively about the impact of the low interest rate environment on life insurance policy performance, primarily Current Assumption Universal Life policies. Many carriers have pointed to low interest rates as a primary cause for their cost of insurance (COI) increases in these policies. Anyone who has attended one of our webinars on life insurance policy subjects (see: https://www.itm21st.com/Education) knows that we describe Universal Life as a living Excel sheet—you can see each expense and credit in the policy if you know where to look.
The cost of insurance (COI) increases of the last 18 months have wrecked estate plans and created financial hardship among policy owners. The negative effect is clear – some policy carrying costs have more than doubled (see:Transamerica Cost Increase Causes Premium to Maturity to More Than Double: A Case Study for Trustees). What is not so clear – who is to blame?
In the past year or so, we have highlighted the issues around the historic low interest rate environment, specifically the negative effect on insurance carriers and products. Since life insurance policy management is our focus here at ITM TwentyFirst, these issues are natural for us to cover.
Clearly, many life insurance policyholders are suffering due to the fallout from these low rates. So much so that I get emails every week from average consumers who have run across our blogs, and are looking for answers. So, who else is suffering and who is benefitting?
In our last Blog (See: Why Brexit Is Bad For Your Life Insurance Policy), we briefly discussed the reasoning, but today we will go a little deeper.
The easy answer – those who borrow, win; those who lend, lose. The biggest winners were governments and non-financial corporations - the biggest borrowers. According to the McKinsey and Company report cited in our last blog, between 2007 and 2012, “governments in the United States, the United Kingdom, and the Eurozone had collectively benefited by $1.6 trillion, through both reduced debt service costs and increased profits remitted from central banks….Non-financial corporations across these countries benefited by $710 billion through lower debt service costs.” (1)
For every winner there must be a loser, and besides life insurance carriers and pension funds, the greatest loser was the average family. The report notes “households in these countries together lost $630 billion in net interest income, with variations in the impact among demographic groups.” Families headed by individuals under age 55 benefitted slightly as they tended to be net debtors, but those who are older, tended to suffer. On January 3, 2007, the average rate for a 5-year CD in the US was 4.07%. However, on January 3, 2016, the rate was .86%. (2) For a retiree with $250,000 invested, interest income went from $10,175 to $2,150 – a large decrease.
Interestingly, the report concludes that the low interest rates may not have helped stock market investors, as “the impact of QE and ultra-low interest rates does not point conclusively to an increase in equity prices.” The report notes that the stock market rally since 2009 may just be “a recovery following a large overcorrection in equity prices…markets tend to overreact as an economy enters a recession, causing a steep decline in prices. After such a decline, it is quite usual for markets to climb back fairly quickly.”
Housing prices were also not affected “in a direct way,” according to the report, though it “may well have prevented an even steeper decline in prices, and they may have accelerated recovery in the housing market.”
The effect of low interest rates may have shifted the political debate on public debt in America. An article in the Wall Street Journal (WSJ) this week notes that in 2012, when the “election turned largely on how Washington would end a series of rolling budget crises,” the Democratic platform mentioned cutting the deficit seven times. The platform for this year’s convention never mentions the subject. (3) And the Republican platform mentioned the term deficit only three times; twice in reference to trade deficits, once in reference to a Balanced Budget Amendment. (4) The possible reason? The article notes that while “the national debt as a share of gross domestic product has more than doubled since 2007, to around 75%…net interest payments on the debt have actually declined.”
As mentioned, the low rates are helpful to governments, allowing those who are cash strapped to “reduce their deficits and potentially ease austerity measures”, according to a recent Wall Street Journal article (5). Spain just sold a bond with a negative rate, a first for them, but Germany, Japan and Switzerland, Sweden, Italy and the Netherlands have all issued debt with negative yields. In fact, the latest tally shows that 35 percent of all government debt among major countries is trading at negative interest rates. (6)
A well-known economist, currently a professor at Harvard and a former head of the Congressional Budge Office, recently said, “persistently low rates mean the desirable level of debt a country can maintain can be higher.” (7) Apparently, since high debt has not resulted in increased rates to date, the belief is it will not, at least in the near future. Some believe that the bigger deficits, if spent wisely, are actually beneficial to the economy.
With increasing government debt worldwide, there is little incentive for central banks and governments to attempt to raise interest rates. For those of us managing an asset that could use a little relief from these historic low rates, that relief may come later than anticipated.
QE and ultra-low interest rates: Distributional effects and risks, McKinsey and Company
Debate Over US Debt Changes Tone, WSJ, July 24, 2016
Republican Platform 2016, https://www.gop.com/the-2016-republican-party-platform/
The Morning Ledger: Low Yields a Boon for Strapped Governments, WSJ, July 25, 2016
Citi Research, https://pbs.twimg.com/media/CmqmeIbW8AIHgA7.jpg
Why Ultralow Rates Won’t Be a Government-Debt Cure All, WSJ, July 25, 2016
The historic vote this week on a non-binding referendum to determine whether the United Kingdom should leave or remain in the European Union has made headlines. The 52–48% vote, with a participation rate of almost 72% of the electorate, was in favor of exit by a 4% margin.