On top of all that, there is this little actuarial problem: North Americans are living too long. That’s not bad for straight life insurance, but it has added dramatically to the cost of annuities, extended health benefits and other payments that insurers provide to still-breathing customers. “Let’s say you have 10 old high-school buddies who retire at age 65. Chances are that the first will die at age 70 and the last at 100,” says Sun Life CEO Dean Connor. “But if everybody has to save for 35 years of retirement, that’s too much.”
Regulators have turned up the heat. The 2008 crisis was triggered largely by the collapse of the world’s biggest life insurer, American International Group, Inc. Both that debacle and the meltdown in the Japanese industry in the 1990s exposed the fundamental vulnerability of life insurers to big market swings: If stock markets and real estate markets plunge, the value of assets on insurers’ balance sheets eventually does too. But their long-term liabilities remain. If interest rates and bond yields sink to nearly zero, as they did in Japan, insurers’ net income gradually evaporates.
Canada’s top regulator, the Office of the Superintendent of Financial Institutions (OSFI), is headed by Julie Dickson. One key measure that OSFI looks at to ensure that life insurers can meet their commitments to policyholders is the MCCSR ratio (minimum continuing capital and surplus requirements), which compares a company’s available capital to the capital required by regulators. The bare minimum MCCSR is 120%, but OSFI doesn’t like to see it dip below 200%. As markets collapsed in 2008, Manulife’s ratio sank below that threshold, setting off alarm bells in Ottawa.
That put Manulife’s D’Alessandro on the hottest seat in Canadian business. He was due to retire the following May, after 15 years in which he transformed the company into a financial services supermarket to rival the Big Six banks in Canada, not to mention earning it a ranking as the fifth-largest life insurer in the world. The key step in that feat was buying Boston-based John Hancock for $15 billion in 2004. As stock markets plunged in October, 2008, however, D’Alessandro at first tried to convince Dickson that Manulife couldn’t be making huge adjustments to capital based on wild daily stock market swings. When that argument didn’t give him the latitude he sought, he went through the embarrassment of hitting up the Big Six banks for an emergency loan of $3 billion.
That was only a temporary fix. In December, Manulife hurriedly issued $2.3 billion worth of new common shares, severely diluting existing shareholders’ stakes. The following August, three months after D’Alessandro stepped down, his successor, Donald Guloien, outraged shareholders by slashing the company’s dividend by half, and then issuing another $2.5 billion worth of shares in November.
Since the crisis, OSFI has been putting insurers through stress tests—computer simulations of effects should there be other severe moves in the markets. There’s been some grumbling. Last year, companies were asked to test a 100-basis-point decline in interest rates. “People thought that was implausible, and not a good use of time,” says Dickson. But by the time the companies submitted their results, rates had sunk by more than 100 basis points. “Outlier scenarios do happen, and you have to think about what the impact on your company is going to be,” she says.
Yet the Big Three also seem to be trying to outdo each other at demonstrating how safe and prudent they are. Each now provides a blizzard of disclosure to shareholders on how they’re protecting themselves from downside risks.
Judging from Manulife’s and Sun Life’s share prices, many investors remain unimpressed, if not bewildered. And new accounting rules aren’t helping to clarify things. Since the 2008 crisis, the London-based International Accounting Standards Board has been leading a push to get its International Financial Reporting Standards (IFRS) adopted worldwide. IFRS took effect in Canada in 2011. The rules are close to Canada’s old generally accepted accounting principles (GAAP). The problem is the gulf between Canadian rules and American ones.
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