Low Interest Rates: An Ongoing Problem for the Re/insurance Industry

Swiss Re’s sigma report analyzing the effect on the insurance industry of the continuing low interest rates doesn’t paint a pretty picture. Rates have been at historic lows for several years. For instance the nominal yield on a 10-year U.S. treasury bond is around 2 percent, but Swiss Re points out that the real yield is effectively zero.

Kurt Karl, Swiss Re’s chief economist, says there is “no benefit for insurers” from the expansionary monetary policy the United States, United Kingdom and other countries have embraced as they finance their activities from premium payments.

And the downward trend in interest rates, which began after interest rates peaked in the early 1980s, shows no signs of reversing. An unscientific survey conducted of insurance executives at the Reinsurance Rendezvous in Monte Carlo indicates that the condition will last for at least three more years, and probably longer.

The sigma report notes that insurers, as large institutional investors managing around $25 trillion or 12 percent of global financial assets, suffer greatly from low investment yields. The impact of low interest rates on insurers also affects policyholders because the cake shrinks for all — translating to fewer benefits or to higher premiums for equal protection.”

Low rates haven’t been a particular concern until recently “because only current premium income — a fraction of total investments — is invested at [low] market yields.” It’s becoming a problem because the debt instruments with higher yields are maturing and can’t be replaced at the same level, the report indicates.

Astrid Frey, co-author of the study, says: “Interest rates have a delayed impact on insurance investment portfolios, allowing insurers time to react but also tempting them to postpone necessary remedial action in hopes that interest rates will rebound.”

As that now seems unlikely, the re/insurance industry will be unable to realize a return on investments, which is greater than the low inflation rates, the study says.

The situation poses greater problems for life insurers, but P/C re/insurers will be affected, the study says. As they have no control over interest rates or inflation, about the only thing the P/C industry can do is tighten underwriting standards. Yet given economic conditions and low growth in most developed countries, it’s unlikely there will widespread premium increases, the study says.