Insurers Statutory Capital Declined $32 Billion in 2008

And now for a little Moody's hatin'. The rater looks at insurance companies, and predicts that due to horrendous operating results, declining statutory capital and the weaker players' inevitably becoming swallowed by the larger/healthier ones (very curious just who these are), there will be a significant consolidation wave in the insurance industry.

The large capital and surplus decline was driven primarily by a much lower net gain from operations, as well as by very substantial net realized and unrealized investment losses. The reserve-requirement spike for variable annuities was one of the key reasons behind an operating earnings plunge of almost $21 billion.2 The level of investment impairments in 2008 led to net realized capital losses of approximately $38 billion (well in excess of 100 bps of invested assets).

At the same time, capital fell to approximately $209 billion from $241 billion. The drop would have been much deeper, if not for the following: 1) the $36 billion of capital contributions made to lead life insurance companies (the majority of which was capital put into AIG life subsidiaries); and 2) the capital benefits received by some insurers from state insurance regulators’ approval of certain accounting “permitted or prescribed practices.” The latter represent nonstandard accounting practices approved by state regulators, and these have generally helped to improve financial results.

The capital fall-off in 2008 was to be expected, and it confirms our view that the strong capital base that had been protecting the industry at the beginning of the year has been partially eroded, thus making a number of life insurers susceptible to credit downgrades. Those managements struggling to maintain capital ratios and to fight the perception of financial weakness may face an erosion of their brands and market presences. Without a recovery in the credit markets or government intervention, the capital-raising options for most life insurers are quite limited.

Moreover, sinking share prices will make raising equity capital extremely dilutive to existing shareholders. Many reinsurers are also facing pressures of their own, thereby weakening the ability of traditional capital providers to provide significant relief to the constrained industry.

This year, life insurers planning to preserve capital in light of increasing investment losses and lower operating earnings from depressed equity markets, will have to redesign products and slow the growth of new sales, as well as deleverage and derisk their balance sheets.

The stage is set for those unable to adequately cope with equity and credit market headwinds to be absorbed by their peers. But even stronger peers may need to use third party financing, especially if stock prices remain depressed. Alternatively, companies facing market and financial stress may elect to place some confidence-sensitive and capital intensive business lines (for example, high-end life insurance, institutional business, structured settlements) into effective run-off.

One item that the administration should clarify is how many non-AIG insurance companies have "Financial Products" comparable divisions that would sell batch after batch of protection under the informed decision making of Joseph Cassano clones. This information is, not surprisingly, slightly hard to obtain as the last thing the economic bail-out rescue rangers need is the public to fear a rash of AIG-like blow ups (especially now that everyone has seen just how brutal AIG's bail out is becoming). One hint to the true financial state of insurers is the recent applications by Hartford, Prudential and MetLife to all obtain treasury capital infusions (their stock prices are also pretty indicative).