Rising Interest Rates: Implications for the Insurance Sector

Impact of rising rates on income and profitability

Rising interest rates are impacting the insurance sector's income and profitability through various channels. Companies like Prudential and MetLife report losses linked to fixed maturity securities and derivatives, while AIG notes enhanced investment income but warns of inflationary pressures increasing loss costs. Lincoln National emphasizes the importance of interest spreads for profitability.

"For the six months ended June 30, 2024, the loss of $134 million was primarily driven by the impact of rising interest rates on derivatives and fixed maturity securities, partially offset by a favorable impact from our annual reviews and update of assumptions and other refinements as well as favorable equity market performance." --- (PRU, sec filing, 2024/Q2)

"While the impact of rising interest rates on our General Insurance segment increases the benefit of investment income, the current and medium-term inflationary environment may also translate into higher loss cost trends." --- (AIG, sec filing, 2024/Q2)

"The profitability of our fixed annuity and life insurance products is affected by our ability to achieve target spreads, or margins, between the interest income earned on the general account assets and the interest credited to the policyholder on our average fixed account balances, including the fixed portion of variable." --- (LNC, sec filing, 2024/Q2)

"Rising market interest rates have impacted our investment portfolio and derivatives." --- (MET, sec filing, 2024/Q1)

"For the three months ended March 31, 2024, the loss of $182 million was primarily driven by the impact of rising interest rates on fixed maturity securities and derivatives, partially offset by favorable equity market performance." --- (PRU, sec filing, 2024/Q1)

Changes in policyholder behavior due to interest rates

Rising interest rates are influencing policyholder behavior, as seen in decreased policy retention and increased cancellations. Companies like Cincinnati Financial and Allstate report shifts in total benefits and policy counts, indicating that rate changes are prompting customers to reassess their insurance needs and affordability.

"Total benefits decreased in the first three months of 2024 primarily due to more favorable impacts from the unlocking of interest rate actuarial assumptions." --- (CINF, sec filing, 2024/Q1)

"Effective policy count retention is also affected by advertising and rate actions taken by us and competitors, as well as the effect of subsequent cancellations and non-renewals by customers." --- (HIG, sec filing, 2024/Q2)

"The increase in our written premium per policy, during the first quarter 2024, compared to the same period last year, was primarily attributable to rate increases taken over the last 12 months and higher premium coverages reflecting increased property values." --- (PGR, sec filing, 2024/Q1)

"On the right, you can see that total protection auto policies enforced decreased by 1.6% compared to prior year as the Allstate brand decrease was partially offset by growth at National General.Allstate brand auto policies in force decreased by 4.5% compared to prior year as policies lost from customer defections more than offset the increase in new policy sales." --- (ALL, earning call, 2024/Q2)

"Total benefits decreased in the first six months of 2024 primarily due to more favorable impacts from the unlocking of interest rate and other actuarial assumptions." --- (CINF, sec filing, 2024/Q2)

Market dynamics and competition in a rising rate environment

In a rising interest rate environment, competition intensifies as insurers focus on profitability and differentiation. Companies like MetLife and Travelers highlight pricing pressures and strategic engagement with distribution partners, while Aflac emphasizes the need to navigate fierce competition effectively. Overall, market dynamics are shifting, requiring adaptive strategies.

"First, on Japan, the decline in sales that you saw, how much of that is just a function of comps and maybe the volatility in the yen depressing sales of ForEx products versus an uptick in competition or price reductions by competitors or other market dynamics that are causing you to actively pull back?" --- (MET, earning call, 2024/Q2)

"Obviously, California's benchmark rate decreased by 2%. As we think about more and more people go back to work, cost of medical inflation going up, can you maybe talk about the dynamics between your pricing, your severity as well as your frequency and how we should think about the $300 million relief this quarter and then also just the overall reserving position for the book on workers comp." --- (TRV, earning call, 2024/Q2)

"The increase was broad-based across segments with particular strength in the mid-large market where we have focused on reinforcing the key points of our competitive differentiation and on increasing our engagement with our distribution partners." --- (LNC, earning call, 2024/Q1)

"If there's strong competition out there, fierce competition in the group business, and what we're doing is making sure though that we are able not only to compete, but we want to look at the business that yields profits." --- (AFL, earning call, 2024/Q1)

"For a discussion of the potential impact of low and rising interest rates, and inflation, as well as management actions taken in response to the changing U.S. interest rate environment, see “Management’s Discussion and Analysis of Financial Condition and Results of Operations — Industry Trends — Impact of Market Interest Rates” and “Risk Factors — Economic Environment and Capital Markets Risks” included in the 2023 Annual Report." --- (MET, sec filing, 2024/Q1)

Regulatory impacts of rising interest rates

Rising interest rates are influencing the insurance sector's regulatory landscape by favorably impacting loss reserves, affecting pricing adequacy through regulatory approvals, and altering investment strategies. Companies are navigating increased regulatory scrutiny on premium rates and underwriting standards, which complicates their financial management and operational strategies.

"For our General Insurance segment loss reserves, rising interest rates may favorably impact the statutory net loss reserve discount for workers’ compensation and its associated amortization." --- (AIG, sec filing, 2024/Q2)

"Pricing adequacy depends on a number of factors, including the ability to obtain regulatory approval for rate changes, proper evaluation of underwriting risks, the ability to project future loss cost frequency and severity based on historical loss experience adjusted for known trends, the Company’s response to rate actions taken by competitors, its expense levels and expectations about regulatory and legal developments." --- (HIG, sec filing, 2024/Q1)

"Public and regulatory initiatives have included efforts to adversely influence and restrict premium rates, restrict the ability to cancel policies, impose underwriting standards and expand overall regulation." --- (CINF, sec filing, 2024/Q2)

"As you mentioned, we expected a decline from first quarter as a result of lower recurring interest margins due to the roll off of the interest rate caps." --- (MET, earning call, 2024/Q2)

"The incremental impact of this higher yield on our USD-denominated investments, as well as our dual currency and synthetic dual currency investments, will vary over time, and is dependent on the duration of the underlying investments as well as interest rate environments in both the U.S. and Japan at the time of the investments." --- (PRU, sec filing, 2024/Q1)

Long-term implications for the insurance sector

Rising interest rates are prompting insurance companies to reassess their capital requirements and investment strategies. Aflac highlights the need for increased statutory capital, while Lincoln National emphasizes the impact of higher yields on net investment income, indicating a focus on long-term value creation amidst changing financial conditions.

"The continued long-term growth of the Company's business may require increases in the statutory capital and surplus of its insurance operations." --- (AFL, sec filing, 2024/Q2)

"So there's nothing we're seeing out there that's necessarily adversely impacting that perspective, but it's a long-tailed line and we're going to have a lot of respect for the duration of the liability." --- (TRV, earning call, 2024/Q2)

"We remeasure the liability for future claims using a single-A interest rate as of the end of each reporting period. Universal Life Insurance Products with Secondary Guarantees." --- (LNC, sec filing, 2024/Q1)

"We tend to benefit from seasonality in the first half and would expect higher expenses in the second half. Our growth initiatives, Group Life and Disability, network, dental and vision and the direct-to-consumer increased our total expense ratio by 230 basis points. This is in line with our expectation and we would expect this impact to decrease going forward as these businesses grow to scale and improve their profitability. In just that net investment income, in the US was up 7.4%, mainly driven by higher yields on both our alternatives and fixed." --- (AFL, earning call, 2024/Q2)

"Our strong second quarter performance sets the stage for further momentum. We are confident in our ability to deliver results that will drive long-term value creation for our shareholders." --- (LNC, earning call, 2024/Q2)

Strategies for insurers to adapt to rising rates

Insurers are adapting to rising interest rates through strategies like target date offerings and annuity contracts for transparency and income planning (Prudential), employing asset-liability duration matching and derivatives for risk mitigation (Hartford), and managing exposures while capitalizing on growth opportunities (AIG).

"We believe our use of a target date offering complemented by annuity contracts results in greater transparency for our investors. SmartRetirement Lifetime Income allows plan participants to save for retirement using familiar target date funds and then transition to a personalized retirement income strategy, supported by multiple insurers selected by J.P. Morgan Asset Management, which are expected to include Equitable and Prudential." --- (PRU, press release, 2024/08/15)

"While the Company employs asset-liability duration matching strategies to mitigate risk and may use interest-rate sensitive derivatives to hedge its exposure in the Group Benefits investment portfolio, cash flow patterns related to the payment of benefits and claims are uncertain and actual investment yields could differ significantly from expected investment yields, affecting profitability of the business." --- (HIG, sec filing, 2024/Q2)

"While market discipline continues to support price increases across most lines, we are seeing capacity move back into the market in certain segments given the improved pricing levels which is putting pressure on rates." --- (AIG, sec filing, 2024/Q1)

"And we have strategies to adapt to the potential new regime and to better match the economics of our business." --- (PRU, earning call, 2024/Q1)

"Without going through each return period by parallel and region, our key zone PMLs on average, have decreased by over 40% compared to the first quarter of 2023, which provides considerable aggregate for future growth while appropriately managing the exposures we're assuming." --- (AIG, earning call, 2024/Q1)

Historical context: Past rate hikes and insurance performance

Historically, rising interest rates have benefited insurance companies by enhancing the attractiveness of short rates and supporting investment portfolios. Companies like Aflac and Lincoln National acknowledge the positive impact of higher rates on performance, while Travelers emphasizes the importance of analyzing historical trends in loss and expense experiences.

"Besides the adjustments that you that you’ve highlighted short rates remain very attractive even with the Fed likely to cut sometime this fall, short rates remain very, very attractive compared to historical levels. And that benefits us in a few ways including our significant floating rate portfolio." --- (AFL, earning call, 2024/Q2)

"which was expected given the higher interest rate environment and strong equity market performance." --- (LNC, earning call, 2024/Q2)

"MetLife's proforma adjusted financial leverage and the historical interest coverage are in line with its current ratings, and its holding company liquidity is strong." --- (MET, press release, 2024/06/20)

"In addition, the Company reviews its historical gross and net loss and expense paid experience, year-by-year, to assess any emerging trends, fluctuations, or characteristics suggested by the aggregate paid activity." --- (TRV, sec filing, 2024/Q2)

"Life Insurance reported an operating loss of $(35) million, compared to operating income of $33 million in the prior-year quarter, driven by lower alternative investment income and the $(28) million impact from the Fortitude Re reinsurance transaction." --- (LNC, press release, 2024/08/01)

Risk management challenges in a high-rate environment

In a high-rate environment, insurance companies face significant risk management challenges. Prudential emphasizes proactive asset/liability management and strategic asset allocation to mitigate interest rate impacts. AIG highlights concerns over pricing adequacy and claims volatility, exacerbated by inflation and catastrophic events, complicating risk management further.

"In order to manage the impacts that changes in interest rates have on our net investment spread, we employ a proactive asset/liability management program, which includes strategic asset allocation and hedging strategies within a disciplined risk management framework." --- (PRU, sec filing, 2024/Q1)

"Our challenges include: • ensuring adequate business pricing given passage of time to reporting and settlement for insurance business, particularly with respect to long-tail Commercial Lines exposures; • impact of social and economic inflation on claim frequency and severity; and • volatility in claims arising from natural and man-made catastrophes and other aggregations of risk exposure. INDUSTRY AND ECONOMIC FACTORS" --- (AIG, sec filing, 2024/Q1)