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It&#39s a hard life

The year has opened with yet more bad news for beleaguered life offices. Underestimated annuitant mortality, depleted reserves, falling markets, regulatory change, extended price caps – the list goes on and on.

IFAs are steeling themselves ahead of the annual bout of bonus declarations from the major offices, with little chance of anything but bad news. Axa, for instance, has already cut payouts five times on withprofits bonds within a year.

Most life offices are simultaneously investors in the stockmarket and major companies listed on the stockmarket. There is the risk of a vicious cycle with life companies dragging down the market while their own products depend on market performance.

The FSA moved last year to temper this effect by relaxing the resilience tests which forced life companies to dump shares whenever markets plunged. When one considers that life companies account for about 18 per cent of the UK stockmarket, the effect is not inconsiderable.

Another aspect pointed out by a recent report by Credit Suisse First Boston – and one highlighted by Britannic&#39s recent announcement that it is suspending bonuses and shareholder dividends – is that most proprietary life companies can only pay dividends equal to one-ninth of the bonus payments they pay to their with-profits policyholders.

So, if bonuses are reduced or not paid at all, so life office share price comes under pressure – in Britannic&#39s case, it halved.

However, other companies which also get an unfavourable mention by CSFB – such as Legal & General – disagree. L&G head of media relations John Morgan says there are other flows which would have an impact on its dividend payments, such as its overall investment business.

The problem for the life offices is that their emptying coffers are having to be used to shore up many different fronts. CSFB picks up on the recent research by the Continuing Mortality Investigation Bureau, which, as a result of new actuarial modelling techniques, shows that mortality improvements have been underestimated.

Morgan says: “We are examining the new figures, just as the other companies are. At present, we think that the CSFB are taking an overly pessimistic view.”

Annuity Bureau head of marketing David Marlow believes some companies will be hit harder than others. Prudential, for one, believes its in-house research capability means it has anticipated the new mortality statistics.

But for many other life companies, the amount of money that they will have to put aside to reserve for future liabilities will increase and make annual bonus declarations more unattractive as they would also need reserving.

The formal line from the FSA is that companies have to decide for themselves what they can afford to pay out in bonuses. It says there is nothing specific stopping a company not paying a bonus.

But just before Christmas, FSA managing director John Tiner sent out a clear message to life companies, saying he would be concerned if they took any actions that could affect their financial position.

ABI head of life insurance Francis McGee says life companies find themselves caught between losses from stockmarkets and the need to offer bonus levels to make themselves competitive with other insurers. “The room for manoeuvre is limited and it is increasingly difficult to balance the FSA calls for prudence with the need to offer customers value,” he says.

On top of all this, there are the commercial pressures of the extension of price-capping following the Sandler suite of products, with the Government due to start consulting shortly.

McGee points out this means costs cannot be passed on to consumers, putting further pressure on balance sheets. “Times are hard,” he says. Although he believes that most people will understand the reasons – the severe bear market – there are further unnecessary pressures being put on the companies at an inopportune time, particularly from the regulator. “The FSA&#39s unending stream of consultation papers – how much is this costing the industry?”

He says just the change of point-of-sale documentation will cost the industry tens of millions, with the menu option costing another £40m.

This is a message he says the ABI is “ramming home” to the FSA. For him, the answer is e simple – someone should decide the level of regulatory change that the industry can afford and then stick to it. “Otherwise it is bad news. We are having regulatory change at a time when the companies should be doing other things.”

Where does this leave IFAs and their clients? Intelligent Pensions managing director Steve Patterson says: “The main message is that with-profits used to be thought of as a secure form of investment – this is no longer the case, particularly because of the hidden liabilities&#39 aspect. It might be better for people to come out now, even if it means taking a market value adjuster hit, because then they know exactly where they stand and get improved growth on their investment elsewhere.”

With-profits annuitants, he points out, can do nothing. As for conventional annuities, like many other IFAs, Patterson is resigned to lower rates as an inevitable consequence of improved longevity.

While some IFAs say it means that delaying annuity purchase is a mistake, Patterson has another message: “The answer is that we are going to have to work longer, into our late 60s and perhaps even 70s.”

Bad news for the life companies is bad news for all of us.

It might be better for people to come out now, even if it means taking a hit, because then they know where they stand

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The value of an investment and any income from it can fall as well as rise and you may not get back the amount originally invested. Forecasts and past performance are not a guide to future performance. Some information and statistical data herein has been obtained from sources we believe to be reliable but in no way are warranted by us as to their accuracy or completeness. These are Neptune’s views and as such this document is deemed to be impartial research. We do not undertake to advise you of any change to our views.

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