Earnings season for investors are the months that most corporations release their financial results. Falling in the months of January, April, July, and October after the books are closed on the last quarters financials, they not only tell past performance, but in many instances, are a predictor of future earnings. Bellwether stocks like Wal-Mart, Caterpillar and JP Morgan, offer an indication of the future performance of a market segment.
In the life insurance industry, we have the dividend season and it is now upon us. In this industry, the “big 4” mutual carriers (1) are New York Life, Mass Mutual, Northwestern Mutual, and Guardian. Two of the four have declared their dividends with two more to come this month. Both carriers reporting declared lower dividend interest rates.
Dividends are considered a return of premium and are more than just the dividend interest rate. Dividends are driven by the operating performance of the company. The guarantees in the policy are based on very conservative assumptions for investment returns, mortality, and expenses. When the actual performance of the policy surpasses the guaranteed outcomes, a divisible surplus is created out of which a dividend is paid. Each year, the board of directors approves the payment of dividends and declares the dividend interest rate (DIR), which is the investment component of the dividend.
Mass Mutual released a statement on November 6th announcing that their board of directors approved an approximate $1.6 billion dividend payout for 2018, the 150th consecutive year that the carrier will pay a dividend. However, the dividend investment rate for 2018 dropped to 6.40%, from the 2017 rate of 6.70% (which was down from the 2016 DIR rate of 7.10%).
Northwestern Mutual also declared a 2018 dividend, and their DIR is also down – slightly. In their October 25th announcement,
they reported a $5.3 billion dividend payout, the highest in the industry, and the 147th year in a row of dividend payouts. But for the carrier, the DIR reported was 4.9%, down from the 2017 DIR rate of 5% (which was down from the 2016 DIR rate of 5.45%).
In the investment world, a decrease in earnings usually means a quick drop in the stock price, negatively affecting your investment portfolio performance, often overnight. In the insurance world, a dividend drop is a slow bleed that takes its toll over time. Mass Mutual recently released a great marketing piece concerning its DIR (2) pointing out it is “determined using a portfolio average method that reflects the portfolio earnings on all assets that support our participating” products, “made up of investments purchased over a number of years, so changes in new money interest rates have a gradual impact on the DIR.” Unfortunately, the long-term trend has been down, negatively affecting whole life policy performance over the last few decades. The Mass Mutual piece includes their DIR for the last 30 years which is shown graphically to the right. The downward slope, as their marketing piece points out, mimics the slope seen when tracking Moody’s Seasoned Aaa Corporate Bond Yield, or the 10 Year Treasury, annual rate. This makes sense considering the investments backing the cash value in whole life policies consist primarily of high quality bonds. In other words, you cannot expect the carriers’ DIR to magically increase until the corresponding rates in high quality bonds begin to tick up, since just as “new money interest rates have a gradual impact on the DIR” on the way down, it has the same effect on the way back up. It is still disappointing to see (at least for these two carriers) we may not have hit bottom in DIR.
When will we see interest rates rise? That is hard to tell. I wrote a blog in 2014 on the subject of dividends, and had hoped at that time that we might be seeing a bit of a turnaround in rates, but three years later we have not moved forward much. I have written a number of pieces on the current interest rate environment,
citing the low and even negative interest rate phenomena, the effect it has had on universal life insurance life cost of insurance increasesand industry executives’ view of the future if rates do not rise. The “persistent low rates” are “destroying the viability of insurance companies,” according to one executive, the CEO of the world’s largest asset manager and biggest investor in insurance companies (3).
With the election of the new president, a “Trump Bump” in rates was forecast by some, and rates have gone up a bit since President Trump took office, with the Effective Federal Funds Rate jumping from .65% in January of 2017, to 1.15% as of this month (4). The next meeting of the Federal Open Market Committee is December 12th and 13th, and many believe that rates will increase by .125% at that time. Although these increases are gradual, it will take a bit of time to get back to normal interest rates, considering a three-quarters of a percentage point increase is deemed “substantial” (5).
Is it substantial? Maybe we have forgotten what normal is? Remember when your bank was paying 5% or more for a guaranteed CD? Let me take you back--- even 6 month CDs were paying as much as 5.4% back in 2007 before the economic downturn. CDs represent a “new money” investment and after bumping along at under 100 basis points since 2009, 1 year Certificates of Deposit have cracked the 1% mark. So maybe we have turned a corner? Maybe, but it will take a while for the new money to turn around the portfolios and general accounts of life insurance carriers like Mass Mutual and Northwestern Mutual.
We will report back when the other two carriers – Guardian and New York Life report their 2018 dividend payouts.
- Mutual companies are insurance companies legally owned by their policyholders. They do not issue stock, their policy holders share in the “profits” of the company – the divisible surplus, by receiving dividends. Stock life insurance companies issue stock that can be bought and sold by investors, who own the company.
- Mas Mutual Marketing Piece, “Historical Studies form Massachusetts Mutual Life Insurance Company (Mass Mutual)
- Low interest rate “destroying” insurance companies: BlackRock, Insurance Journal, April 21, 2015
- Information from the Federal Reserve Bank of Saint Louis - The federal funds rate is the interest rate at which depository institutions trade federal funds (balances held at Federal Reserve Banks) with each other overnight. It is a target and currently is 1-1.25%
- Fed Still Puzzled by Inflation, but Rate Increase Is on Track, Binyamin Appelbaum, New York Times, October 11, 2017