The insurance industry channels revenue from risk pooling services it provides to clients, and uses this to finance economic activity through investment in real and financial assets. The investment operations of insurers play an important role in overall financial performance. Some of the largest investment arms and groups in the world are associated with insurers. The importance of investing to insurers means they are affected by interest rates from the perspective of investment income. Interest rates also play a role in the discounting of liabilities, which also has a sizable effect on insurers.
Since the financial crisis, interest rates in the developed world have fallen to record lows, and this shift has put insurers’ business model under increased pressure and scrutiny. A combination of institutional factors - such as a move towards central bank independence and the adoption of inflation and demographic factors - played a role in driving interest rates from before the crisis to much lower levels. A paper published by the Federal Reserve in October 2016 estimated that the changes in the demography of the US population since 1980 accounted for a 1.25% decline in the equilibrium real interest rate.
The financial difficulties posed by low interest rates to undiversified life insurers who have large exposure to guaranteed savings products has made them vulnerable targets for takeovers from more well-capitalized groups. There have been a greater number of reinsurance transactions and bulk annuity deals, as insurers look to reduce the financial burden. It has also engendered a widespread product shift within the life sector away from guaranteed savings products, towards protection products of unit-linked savings products which pass the investment risks onto policyholders.
The report, "How has the Insurance Industry dealt with low interest rates?", analyzes the impact and importance of low interest rates to life insurance and the strategies they undertake to shield themselves from such environments, thereby maintaining their profitability.
Some of the key highlights from the report -
- Since the financial crisis, interest rates in the developed world have fallen to record lows, and this shift has put insurers’ business models under increased pressure and scrutiny.
- In the case of non-life insurance, higher interest rates lead to lower claims provisions after discounting, and increase the return on investments.
- In extreme cases where an insurer has an undiversified set of long dated liabilities with promises of high guaranteed payments, the mismatch between assets and liabilities can be such that the insurer has to raise funds through equity offerings to boost its capital levels, and this acts to reduce return on equity (ROE).
- Life insurers cannot only change the pricing of their products to reflect the realities of a low interest rate environment; they can also change the composition of their product offering.
- As the tightening cycle in the US begins to accelerate off the back of continued tightness in the labor market and persistent inflationary pressures, and quantitative easing in the Eurozone approaches the end, market interest rates have started to rise.
- Impact of the interest rate on insurance premiums and demand, along with the overall balance sheet of the company.
- Impact of low interest rates on both life and non-life insurers involving income and operations.
- Mitigative measures from insurers during a low interest rate scenario.
- Overview on M&A deals originating in such environments.
- Impact of rising interest rates.
Reasons To Buy
- Build an understanding on the concept of the interest rate impacts insurance business.
- Develop an insight on how interest rates impact life and non-life insurers individually.
- Develop an idea on the steps taken by life insurers to mitigate a low interest rate environment.
- Gain understanding on the operational changes made by insurers to account for the growing interest rate.