How insurers might thrive in a low-return world
12/06/2016

With interest rates staying low for longer, insurers must re-evaluate their product offering and manage expectations – or miss out on consumer savings.

By The Integrate team

We live in a low-return world. Insurance and savings products in Europe and North America will have to be redesigned to meet the challenges of this new normal.

The era of guaranteed returns is coming to an end. Interest rates and bond yields remain at historically low levels for longer than anyone ever imagined.

‘With interest rates staying low for longer, insurers must re-evaluate their product offering and manage expectations – or miss out on consumer savings’, says Steve Conwill, CEO, Japan, Milliman.

Rates could go lower still with a possible floor of -1.5%, suggests some research—not least from the International Monetary Fund.

Regulators are unsurprisingly getting worried about the attachment some markets have with guaranteed returns. Earlier in 2016 EIOPA warned that if the low return world lasts for longer than insurers currently assume up to 24% of European life insurers could find their solvency margins under pressure. (Source: EIOPA – A potential macroprudential approach to the low interest rate environment in the Solvency II context.)

Regulators are worried about the continued love affair some markets have with guaranteed returns.

Worse to come?
Since then the UK voted to leave the European Union, forcing the Bank of England to cut rates and start a new quantitative easing program. And Italian banks have started showing signs of severe distress. Clearly, things could get worse before they get better.

Alongside the lower-for-longer factor is the absence of any reliable predictions on:
a) when interest rates might pick up and, when they do
b) what the peak of the up cycle might be.

There is a growing consensus that any peak will be significantly lower than in previous peaks, and that this has important implications.

Janet Yellen, chair of the US Federal Reserve, started to outline the options for central banks in dealing with future recessions and inflationary shocks in a speech at the end of August. Some markets were immediately unsettled.

We are in uncharted waters. Or, are we?

Japanese model
The Japanese savings and protection industry has faced up to these challenges over the last 25 years.

Its first reaction was to assume the recession that hit Japan from 1990 onwards, while more persistent than previous downturns, was part of a relatively predictable cycle.
By 1997 it realized it wasn’t and started to look hard at its products, gradually backing away from the promises of high-cash values. More recently it has moved to foreign-currency-denominated products where the policyholder assumes the currency risk.

Japanese insurers have been forced to think outside the box in order to remain solvent and competitive in a fundamentally altered market. It looks increasingly likely this is where Europe—and possibly—North America is heading.

Staying competitive
Insurers need to start modelling this changed scenario and think hard about how they will educate consumers not to expect unrealistic guaranteed returns in the future. This would enable them to retain control over their own destiny. The alternative could be drastic action by regulators.

Insurers think hard about how they will educate consumers not to expect unrealistic guaranteed returns in future.

The current economic volatility means it is still possible we could see a sudden rise in inflation and a subsequent jerking up of interest rates by central banks.

These scenarios must be modelled by insurers too, and not just for their impact on solvency but also for their implications for product ranges. Failure to be ready for either scenario could see insurers sidelined in the competition for consumer savings.

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