Zacks Industry Outlook Highlights: ING Groep, American Equity Investment Life, China Life Insurance And Health Insurance Innovations

For Immediate Release

Chicago, IL – August 26, 2016 – Today, Zacks Equity Research discusses Insurance, Part 2, including ING Groep (AS:INGA) N.V. (ING), American Equity Investment Life Holding Company (AEL), China Life Insurance Co. Ltd. ( LFC) and Health Insurance Innovations Inc. (HIIQ).

Industry: Insurance, Part 2

Link: https://www.zacks.com/commentary/89028/ultra-low-bond-yields-cloud-us-life-insurers

U.S. life insurers have long been battered by the prolonged low interest rate environment and economic uncertainties. But they managed to stay afloat by going beyond their conservative approach and though capital flexibility. In order to keep their commitments to policyholders, they increasingly resorted to riskier asset classes – such as equities. The increased dependence on this strategy, however, is making them vulnerable to failure in paying claims, as there is no guarantee of steady returns from riskier assets.

What made life insurers resort to racier asset classes is ultra-low bond yields. Insurers traditionally invest the premium they get from policyholders in corporate and government bonds, the yields on which have been hovering near zero for years. Particularly, the yield on the benchmark U.S. 10-year Treasury note, which primarily determines life insurers’ valuation, has been near record low for quite some time. The Brexit storm heightened the concerns and investors rushed to safe assets to protect their wealth, ensuring the continuation of the ultra-low yield.

Further, global growth concerns, fueled by Brexit, are likely to hold the Fed back from raising interest rates for some time. This will delve another blow to the already struggling industry. It actually puts life insurers under pressure in terms of rationalizing long-term rate assumptions that they use to establish reserves.

The uncertainty over the rate hike schedule might compel life insurers to take some charges tied to a revision in long-term rate assumptions, but that should be manageable given their not-so-bad earnings prospects.

However, the improbability of a rising rate environment in the near term, has not totally extinguished the initial optimism. This is because, yields on corporate and government bonds, which life insurers traditionally depend on for investing their accumulated premiums and generating sufficient returns to match their future commitments to policyholders, are directly proportionate to the federal funds rate.

In particular, life insurers have long been suffering from spread compression on products like fixed annuities and universal life. The expected gradual increase in rates in in the medium to long term will enable them to earn higher investment income and enjoy increased profit margins.

Further, high hedging costs, which have been marring profitability, are likely to decrease with the rate hike. This will, in turn, alleviate the pressure on investment yields.

Overall, a rising rate environment and consequently an upward yield curve hold the key to life insurers’ success.

Business Modification a Saving Grace

Life insurers were not idle in a low-rate environment. Taking the ills in their stride, they chose to capitalize on the rapidly changing sector dynamics. As part of this effort, life insurers have reduced the sensitivity of their product lines to interest rates to some extent and have invested in less liquid assets. While this rationalization leads to lower benefit from a rising rate environment, it should make the growth path steady.

Along with altering economic and demographic conditions, increased life expectancy and more predictive risk-calculating techniques with the help of analytics are positioning life insurers for steady profitability.

Most importantly, life insurers managed to increase net income in the last few quarters by trimming underwriting expenses and daring a modest increase in premiums. In fact, some life insurers are quietly hiking rates on some universal life policies in order to offset losses from a prolonged rate environment. This action is actually reducing the value they promised to policyholders.

Recently, life insurers have been resorting to product modification and re-pricing, which should enhance their liability profiles and profitability. While re-pricing of traditional products with attractive additional features will help them earn more, product modification will lessen liabilities on the insurers’ part by shifting risks related to equity and hedging to policyholders.

A strong balance sheet position should also help life insurers perform better. The industry’s statutory capital level improved significantly in the last few quarters, with the help of steady retained earnings and effective capital management. A beefed-up capital market should keep the industry’s liquidity profile strong over the upcoming quarters and help its participants confront any challenge that might crop up.

Favorable External Factors

The resilience of the equity market should make variable annuity portfolios and other fee-driven businesses contribute significantly to growth.

Further, strengthening fundamentals of corporate bonds and improvement in the real estate market should keep credit-related investment losses below average. Further, with continued economic recovery and declining unemployment, disposable income is on the rise. This should lead to a rise in demand for life insurance and annuity products.

How to Play the Industry

The short-term prospects do not look promising for life insurers as interest rates might take some time to become favorable. Also, the ultra-low yields on bonds will keep exerting pressure on insurers’ investment income. The fear of insurers failing in paying claims might also keep investors wary. So, it would be prudent to stay away from life insurance stocks that carry an unfavorable Zacks Rank now.

Particularly, we suggest staying away from Zacks Rank #4 stocks including ING Groep N.V. (ING) , American Equity Investment Life Holding Company (AEL) and China Life Insurance Co. Ltd. ( LFC) .

However, investors, who can look beyond the near-term clouds to the industry’s bright long-term prospects, may consider buying some life insurance stocks based on a favorable Zacks Rank.

We highly recommend Health Insurance Innovations Inc. (HIIQ) carrying a Zacks Rank #1 (Strong Buy).

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