News

Three months ago, Donald Guloien endured the wrath of shareholders for cutting Manulife Financial Corp.'s MFC-T dividend in half. Today, the rookie chief executive officer says he's springing to their defence.

Manulife is coming under increased scrutiny from Standard & Poor's, which said Thursday it might downgrade the country's biggest life insurer for the second time in less than a year. Among other things, the rating agency said it's concerned that Manulife still hasn't hedged most of its stock portfolio, to avoid any risk of another meltdown in capital like the one the insurer lived through during last fall's market crash.

But on a conference call with analysts Thursday, Mr. Guloien made it clear that he thinks he's developed a strategy that will strengthen the company's capital levels and still allow shareholders to benefit if stock markets go up. And he's sticking to it – no matter what S&P says. “I could look like a hero [by taking] a huge one-time charge and say, ‘We've put it behind us.' And I think that would mollify rating agencies and other people who are concerned about downside risk,” he said.

“I happen to believe that the shareholders who have suffered a great deal by seeing unhedged positions cost [the company] in terms of the market downdraft have a right to earn that back in the market updraft.

“And I'm not prepared to put their interest behind me because a rating agency has a view on an unhedged position.”

Until it was downgraded in February, Manulife's key operating unit enjoyed a triple-A credit rating – a fact it frequently mentioned to illustrate its financial strength. But Mr. Guloien's tricky balancing act between the interests of his shareholders and the raters of its debt is illustrative of the tough decisions that many financial services executives are being forced to make in the post-crash environment.

Standard & Poor's said it will downgrade the rating of the insurer's holding company if it proceeds with a planned reorganization of its U.S. subsidiary. The shuffle is technical and involves merging two of Manulife's John Hancock subsidiaries into another. Mr. Guloien believes that it will ultimately decrease Manulife's sensitivity to stock markets and result in more stable capital levels.

S&P, on the other hand, said that in its opinion the move's cons outweigh the pros because it will increase the risk that Manulife won't get the cash flows it needs in times of extreme stress. The rating agency expects to lower Manulife's rating by one notch when the reorganization is done this year, but said it would reconsider if the insurer doesn't go through with it.

S&P also criticized Manulife for having a “high risk tolerance,” and cited specifically its decision to leave the majority of its stock portfolio unprotected against dropping markets.

“We're opting on a lot of things on the conservative side without subjecting our shareholders to what I think is the ultimate indignity, which would be to hedge it all out at the bottom of the market,” Mr. Guloien said. While it's fair to say that the choice exposes the company to risk, he said he thinks people will commend his decision when the stock market recovers.

In the meantime, he's hedging the portfolio little by little as various stocks go up. Manulife hedged $3.8-billion in the quarter. About 30 per cent of the troublesome portfolio it holds as part of its variable annuity business is now hedged.

The variable annuity business sells products similar to personal pension or retirement plans, where Manulife invests a customer's money and promises future payments. As a result, the insurer built up a massive stock portfolio, which, years ago, it chose to leave unhedged. When markets plunged, eating into the portfolio, Manulife had to raise billions in capital to make up for a widening shortfall in the amount it had promised to pay customers decades from now.

That gap is closing. It stands at about $15-billion, roughly half of what it was six months ago.

Both Manulife and Sun Life Financial Inc. SLF-T said they continue to hunt for acquisitions, though few deals have been done in the sector.

Each posted a loss Thursday, and fell short of analysts' expectations. They both took financial hits as a result of updates to their actuarial assumptions in light of low interest rates and volatile stock markets.

Sun Life said that a list of factors, ranging from higher capital requirements to potentially higher U.S. taxes, mean it is unlikely it will return to a normal level of profits next year. The insurer said it forecasts “normalized” profits for the year ended Dec. 31, 2010 in the range of $1.4-billion to $1.7-billion. That compares to average annual operating earnings of $2.1-billion from 2005 to 2007.

While its earnings potential may be down, Sun Life CEO Don Stewart stressed in an interview that the business fundamentals continue to be very good. “We took in a lot of money on behalf of a lot of people.”