Meet the Met

By: Martin Carus

On January 12, 2016, MetLife issued a press release describing a proposed break-up of the company into two distinct parts: (i) US “retail business” (for the most part and excluding business in force) and (ii) other business. The former is what is to be embedded into a new company. Note that this is a brief description of the proposal because it is not the proposal itself that generates the subject of this article. To get the complete flavor of MetLife’s proposal, the entire press release should be reviewed.

The press release includes several comments that should generate interest and discussion. The CEO of MetLife (Mr. Kandarian) states in the release the following:

“At MetLife our goal is to create long-term value for our shareholders and deliver exceptional customer experiences. As a result of our Accelerating Value strategic initiative, MetLife has been evaluating opportunities to increase sustainable cash generation and is directing capital to businesses where we can achieve a clear competitive advantage and deliver a differentiated value proposition for customers. This analysis considers the regulatory and economic environment in each market where we do business.” A laudable goal, from the perspective of shareholders.

However, as I interpret that statement, MetLife obviously believes that its current structure hinders the achievement of increasing “sustainable cash generation and deliver a differentiated value proposition for customers” in order to obtain the goal of creating “long-term value for our shareholders and deliver exceptional customer experiences.” Therefore, the division must mean that in MetLife management’s opinion, the to-be spun off business is the hindrance. Considering what that business is poses an interesting analytical dynamic. While MetLife will keep in force US retail life insurance, it will not continue that operation in terms of writing new business. Essentially, by some measures the largest US retail life insurer decides that continuing that business doesn’t align with its goal.

The press release further notes: “MetLife has been evaluating opportunities to increase sustainable cash generation and is directing capital to businesses where we can achieve a clear competitive advantage and deliver a differentiated value proposition for customers. This analysis considers the regulatory and economic environment in each market where we do business. We have concluded that an independent new company would be able to compete more effectively and generate stronger returns for shareholders. Currently, U.S. Retail is part of a Systemically Important Financial Institution (SIFI) and risks higher capital requirements that could put it at a significant competitive disadvantage” (emphasis and italics added). Thus, one can conclude that it is not entirely the nature of the business itself but the fact that the totality of MetLife’s current structure has been deemed to fall within a certain regulatory paradigm, that causes the line of thought MetLife has now evinced.

It is that paradigm that sets forth the author’s interest. As I have indicated in prior articles included in prior editions of this publication, the effort to impose capital standards on US companies based on international principles has underlying dangers and hasn’t been put forth based on evidence of a need for such a paradigm (noting MetLife has been around since the mid-19th century). This is so because what we have here is the first overt instance of a spillover effect of that developing proposed regulatory regime, i.e., what I call, the socialization of the industry. The international and US regulators have set in motion a direction that has now suggested (or “dictated”) to a major insurer to alter its modus operandi apparently as a Plan B to back up its efforts to challenge its SIFI designation. Without that regime, would MetLife consider the proposal laid out in the press release? Maybe or maybe not.

However, there is more to consider. The reason why shareholder-owned commercial establishments (including insurers) exist can be described in three words, or perhaps even just two: “To Make Money” or plain old “Make Money”! Capital providers invest in companies for gains, either through dividends, which emanate from earnings, or increases in share value, which reflect positive performance. That’s what generates return on investment. Thus, what generates earnings and positive performance? Simply put: net income. In the insurance industry how is net income derived? Simply put: underwriting performance, investment performance and fees for service.

Relative to underwriting, the state of the US market is that it is highly competitive especially in the most common lines of business, e.g., life insurance, auto insurance, homeowners insurance, etc. Every day you probably receive at least one notice (by mail, email or otherwise) that you can save hundreds of dollars by shifting your auto insurance to a specified insurer. I got one the other day that quoted a $637 possibility. Even living in a high auto insurance rate state, if I change two or three times, the last company will be paying me premium! The ads on television are clever, entertaining and also numerous. It is hard to imagine that there really is the chance for significant underwriting gains in such a competitive marketplace notwithstanding that some consumerists might think the companies are colluding. Similar circumstances exist within the homeowners insurance realm as well as with life insurance. As comparison shopping becomes easier through the web and as more web-savvy consumers continue their upwards climb in the marketplace, it appears this will increasingly be so.

The ability of the investment function to provide the gains necessary to better support dividends (and increases therein) and increasingly better performance measurements, the two elements shareholders and capital providers desire is impaired by virtue of today’s market conditions. This does not bode well for insurers. For extended periods, we’ve had two long spates of zero, near zero (or perhaps even below zero) risk-free interest rates, a prospect that was not considered when rates, particularly life insurance rates, were calculated and charged in the 1980s or 1990s. Moreover, the spreads for risk (in terms of credit risk and time horizon) have narrowed significantly. That means bond investments are increasingly unlikely to produce the desired gains and/or increased performance measurement.

Turning to the equities, considering current events there hasn’t been much to be positive about there either. Notwithstanding that the market has more than doubled from its low point in early 2009, the basic indices are approximately where they were in mid-2008, only just a few percentage points above that level. The state of the economy doesn’t seem to indicate a significant increase in equity markets especially over the near term. Overall, things seem in such a state that the Fed, having scantily raised the risk-free rate and indicating there will be further regular increases, now appears ready to forestall such increases perhaps in order to prop up the equity markets. (Note: of the 298,000 job gain reported for December, 281,000 of that number were “seasonal adjustments” or birth/death model adjustments.)

Thus, the probability of the industry producing increasing underwriting and/or investment income results are problematic at the least. So now the question arises as to where the efforts to require so-called high loss absorbency capital go. They seem to be on a path that assumes that capital availability is elastic and will ever be obtainable by an industry that has poor prospects for better earnings and performance. The evidence is that capital is not elastic and in fact over the first three weeks of January decreased by almost $2 trillion as the markets have tanked. Forbes now reports that several billionaires have lost that status, some precipitously!

So has the Fed, the NAIC, the IAIS, the EU, etc. really thought their efforts through? You be the judge!