B: Hedge Funds Nip Insurers' Earnings
B: Hedge Funds Nip Insurers' Earnings
OLDWICK, N.J., Oct 08, 1998, (A. M. Best via COMTEX) -- Lower returns
on limited partnership investments, hedge funds and other equity
ventures are cutting into insurers' third-quarter earnings and will
curtail investment income into the fourth quarter, insurance companies
and industry observers report.
So far, the high-profile failure of U.S. hedge fund Long-Term Capital
Management and its subsequent takeover by creditors has had a limited
but discernible impact so far on insurers.
For instance, Presidential Life Corp., Allmerica Financial Corp. and
ReliaStar Financial Corp., expect lower third-quarter investment
earnings based on investments in the hedge fund.
LTC nearly collapsed because of the failure of the Russian ruble and
the global crisis, which has widened the spread between interest on
U.S. Treasury securities and riskier securities.
ReliaStar, based in Minneapolis, took a $4.3 million pretax capital
loss from its $5 million investment in LTC. Until now, the company had
enjoyed 15% returns on the investment. "It doesn't really affect us at
all," said ReliaStar Chief Investment Officer Mark Jordahl. "We got
mid-teens returns. It could have been a lot worse."
David Babbel, a professor at the University of Pennsylvania's Wharton
School, said life insurers who invest in hedge funds or other volatile
equities need to protect themselves with a surplus large enough to
weather downturns.
Hedge funds are designed to balance or "hedge" risky investments, often
by speculating on differences in interest rates among securities.
Sometimes, as with LTC, those plans can go awry. "Hedge funds do not
hedge out these risks, but take massive leveraged bets," Babbel said.
"The returns that are generated are often quite volatile."
Jordahl said insurers will mostly likely shy away from LTC-style funds
because they often can't tell how risky they will be. "The big issue
now is the level of transparency. Long Term Capital is notorious for
saying, 'We're not going to tell you what we're up to.' "
Presidential Life, Nyack, N.Y., said its $10 million LTC investment
would yield an after-tax loss of $5.42 million, or 17 cents a share.
Colin Devine, equity analyst with Salomon Smith Barney, said Allmerica,
of Worcester, Mass., will take a write-down of about $10 million on the
LTC loss.
Although insurers limit their exposure to volatile investments,
earnings in that area could drop as much as 10% this quarter, Devine
said. "It's any kind of fund, not just hedge funds. I can't think of
anybody it's an enormous exposure for. It won't be nasty, but it won't
be great."
At Orion Capitol Corp., in Hartford, Conn., losses came through limited
partnerships and two high-yield vehicles that used hedging strategies,
the company said. They were not related to LTC.
Orion's limited partnership investments dropped in value by 11-13%,
mirroring the decline the stock markets. Its hedge accounts represented
less than 1% of the company's portfolio. The limited partnerships total
about 4.5%.
Orion's investments have yielded about $4 million in investment income
over the last 10 quarters, the company said. Orion said the value of
its investments will decrease between $13 and $15 million, causing a
variance of between 39 cents and 45 cents a share from recent quarters.
AmerUs Life Holdings Inc. has also scaled back its third-quarter
earnings expectations, citing limited partnership investments. AmerUs,
Des Moines, Iowa, said its investment income would decline by $6.5
million, or about 19 cents a share.
Devine said the fourth quarter could prove worse than the third.
"Things were pretty good up to July," he said. "October, November and
December may not be as robust."
Life insurers will most likely rebound because of stronger product
sales, which remain steady and should increase, Devine said.
"Turning the life insurers' earnings is like turning a battleship," he
said. "The basic need for the products hasn't gone anywhere. They're
going up, not down."
However, property/casualty insurers may not be so fortunate. They face
losses from Hurricane Georges and Hurricane Bonnie after getting
through a second quarter marked by storms and tornadoes in the Midwest
and Northeast.
Regulatory limits on insurers' ability to invest in higher-risk
vehicles will protect companies, while other financial services players
will struggle even more, Devine said. "Being down 10% in earnings is
going to look pretty good compared to banks and investment banks out
there," he added. "If all you're going down is 10% in this market, I
would say that's a win."
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Copyright (C) 1998 by A. M. Best Company, Inc.
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