What US life insurers should do about low and negative interest rates

Persistent low interest rates have been around far longer than most expected, and now there’s serious talk of negative rates. With the COVID-19 pandemic grinding on and uncertainty over when an economic recovery might arrive, the situation isn’t likely to change anytime soon. In fact, the Federal Reserve has now indicated that interest rates could be held near zero until at least 2023¹.

Major questions for life insurance carriers include: What impact will even lower—and possibly negative—rates have on the life and annuity sector? What changes can your company make to weather these conditions?

_{1. Jeanna Smialek, “Fed Pledges Low Rates for Years, and Until Inflation Picks Up,” The New York Times, September 16, 2020, accessed via Factiva, September 16, 2020.}

Why low interest rates matter for US life insurers

For life insurance carriers, periods of persistently low returns place pressure on profitability and solvency positions. We see low and negative nominal interest rates affecting the US life insurance industry in the following five areas:

Strategy and sales

A number of life insurers suspended sales of certain longer-duration products as early as April 2020. Others have revisited their strategies, including exiting lines and reducing guarantees on new business. To support any of these actions, you will want to create effective messages to manage distribution channels, consumers and business partners’ relationships for the long run. Your company may want to:

Exit certain lines of business and/or enter new ones
Strategically pause new business in certain segments
Refile product forms and reduce guarantees on new business
Analyze profitability by distribution channel, and potentially reduce or restructure commissions
Review your M&A strategy and opportunities.

Product pricing and in-force management

Insurance companies typically price products to earn internal rates of return that are consistent with investor expectations—historically around 10%. Because a key component of this pricing metric is the level of risk-free rates, the current rate environment makes this target difficult, if not impossible, to achieve. At the same time, low interest rates, coupled with the volatile equity markets, have made equity-indexed life insurance and annuities an attractive proposition for policyholders. Your firm may want to:

Increase competitive analysis regarding new business and inforce management action
Reconsider pricing targets and/or revisit product designs
Adjust product features on inforce, where possible
Offer buy-outs to policyholders on products with rich benefits
Evaluate reinsurance or enter new hedges to manage or mitigate risk exposures.

Financial reporting and forecasting

The persistent low-rate environment will likely cause stress on income statements and forecasts. We recommend you review your finance systems and processes to make sure they are fit for purpose in this environment. It’s never been more important to have meaningful and timely forecasts. Your business may want to:

Review policyholder and economic assumptions more frequently
Revisit simplifications and approximations for suitability
Understand how your actuarial modeling platforms handle negative interest rates
Perform off-cycle loss recognition and reviews of goodwill impairments
Redesign reporting metrics and disclosures
Review existing management information packages for appropriateness
Demonstrate that your business is a “going concern” to stakeholders
Analyze potential impacts of new and upcoming regulations, such as VM-21 for VA and the Generally Accepted Accounting Principles (GAAP) changes under Long Duration Targeted Improvements (LDTI).

Balance sheet and capital

Life insurers will see stress on balance sheets and capital from a variety of sources, including lower surplus due to higher liabilities or asset write-downs. Also, in stressed conditions, contingent capital may not be available. Finally, capital requirements may also increase as a result of both regulatory and internal economic capital frameworks. Your company may want to:

Perform interim asset adequacy analysis to determine if you will need to establish or increase additional reserves on the statutory balance sheet
Design enhanced what-if scenarios on both required and available capital positions
Revisit economic capital assumptions and correlations
Review current liquidity positions against stressed scenarios
Prepare to respond to queries from rating agencies, regulators and other stakeholders.

Enterprise and financial risk management

Negative interest rates likely will encourage insurers to search for improved yield, either by increasing holdings of riskier assets or by increasing the asset/liability duration mismatch. We believe it’s important to revisit these tactical decisions and to monitor your responses against current asset and liability management practices in the industry. Your organization may want to:

Review your risk appetite framework for effectiveness, including investment guidelines
Establish or enhance risk/return analysis
Update your Own Risk and Solvency Assessment (ORSA) and risk management feedback loop
Accelerate model validation exercises for models in which interest rates are a key factor
Review asset manager incentives and compensation
Evaluate hedge strategies and macro hedge programs

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Richard de Haan

Partner and Global Actuarial Leader, PwC US

Dana Hunt

Partner, Life Actuarial Services, PwC US

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