Impact of Falling Interest Rates on Life Insurance Products in India
Explore the implications of decreasing interest rates on various life insurance products in India, including uncertainties in investment income, altered policyholder behavior, and increased capital requirements. Understand the potential impact on different types of insurance policies and investment strategies amidst volatile equity markets.
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Presentation Transcript
28th India Fellowship Seminar Low Interest Rates & Volatile Equity markets Impact on Product Management and Investment strategies for various Life Insurance products Mentor: Mr. Sunil Sharma Presenters: 1. Ritesh Choudhary 2. Renu Agnihotri 3. Anuj Budhia Date: November 9, 2017 Mumbai Indian Actuarial Profession Serving the Cause of Public Interest
AGENDA CURRENT MACRO ECONOMIC SCENARIO PRODUCT MANAGEMENT STRATEGIES INVESTMENT STRATEGIES 2 www.actuariesindia.org
AGENDA CURRENT MACRO ECONOMIC SCENARIO PRODUCT MANAGEMENT STRATEGIES INVESTMENT STRATEGIES 3 www.actuariesindia.org
Interest Rate in India: Steadily Declining Benchmark 10 Year GOI Yield 1999 to 2017 14 11.6% Dot Com Bubble Burst, Recession 12 Financial Crisis, Lehmann collapse 9.3% 10 8 5.1% 6 5.1% 4 1999 2001 2003 2005 2007 2009 2011 2013 2015 2017 10 During last 5 years interest rate declined from 8.3% to 6.9% 9 8 7 6 2012 2013 2014 2015 2016 2017 Source Investing.com 4 www.actuariesindia.org
Will the trend continue? Interest Rates - Major economies Current Interest Rate (as on 31st Oct, 17) Economy UK - BOE Bank rate US - Fed Funds rate Japan - BOJ call rate European - ECB Refi rate 0.25% 1.15% -0.06% 0.00% 7 6 5 4 3 2 1 0 -1 UK - BOE Bank rate US - Fed Funds rate Source Central Bank websites 5 www.actuariesindia.org
Impact of Falling Interest Rates Line of Business Impact Uncertainty about investment income on future premium Reinvestment risk of income from existing Assets Altered PH s behaviour Guarantee becoming attractive Increased Capital requirements NON PARTICIPATING Reduction in Bonus rates may impact PRE Increase in lapsation/surrenders PRE not being met Reinvestment risk of income from existing Assets Risk of Guaranteed Surrender Benefits exceeding Asset Share Value of In built guarantees > Asset Shares PARTICIPATING www.actuariesindia.org 6
Impact of Falling Interest Rates (Contd.) Line of Business Impact Impact depends on the actual mix of funds in ULIP products Impact is lower unless Guaranteed Sum Insured are high Lower investment returns may reduce marketability UNIT LINKED Lack of long duration assets to match leading to Reinvestment Risk High Hedging costs ANNUITIES AND TERM HEALTH Long Term Health products may be impacted www.actuariesindia.org 7
Equity: High Risk, High Return Nifty 50 index movement -52% 71% 17% -25% 24% 5% 33% -5% 5% 27% 12000 10000 8000 6000 4000 2000 0 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 Volatility of returns on Nifty 50 index 50.00% 45.00% 43.76% 40.00% 35.00% 34.04% 30.00% 25.00% 20.80% 20.00% 17.95% 16.45% 16.20% 16.06% 15.00% 15.19% 14.92% 12.45% 10.00% 8.01% 5.00% 0.00% 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 www.actuariesindia.org 8
Is Equity Volatility a Cause of Worry Higher equity volatility Affects the attractiveness of UL products Impact on returns on PAR fund for both shareholders and policyholders Potential Increase in Cost of guarantee burn though cost Increased capital requirements in RBC framework www.actuariesindia.org 9
AGENDA CURRENT MACRO ECONOMIC SCENARIO PRODUCT MANAGEMENT STRATEGIES INVESTMENT STRATEGIES 10 www.actuariesindia.org
Product Management Strategies Adequate Reserving prudent long term valuation interest rate Change in Product mix switch to less interest sensitive Product Re-pricing -lower benefits or higher premiums Change in Bonus Philosophy, if required Continuous monitoring of experience vs. Pricing bases Introduction of new products with lower interest rate Guarantees www.actuariesindia.org 11
Product Management Strategies For Policies which are already in books Strategy Setting up adequate reserves with prudent long term valuation interest Continuous monitoring Use of appropriate investment strategy close matching nature and duration ( ALM) Change Reversionary Bonus subject to PRE and regulatory Framework Increasing administrative efficiency to reduce/limit expenses Reviewing premiums if allowed as per policy conditions difficult for existing contracts Challenge Capital strain Easier said than done Implication on new business www.actuariesindia.org 12
Product Management Strategies Existing Product portfolio Strategy Challenge Review the Portfolio Re-price those offering expensive guarantees/options Close products to new business which are carrying unviable guarantees New business may get affected Marketability Competition may not behave rationally (business risk) www.actuariesindia.org 13
Product Management Strategies New products Strategy Challenge More focus on protection than saving Appropriate margin in light of the new insight gained Reviewable premium (not allowed) Design Single / Limited Premium Payment term guaranteed products Price guarantees adequately assuming low interest rate regime to continue Keeping duration of liabilities on lower side Transfer/share part of investment risk with the policyholder Marketability Competition Implication on new business Regulatory restrictions www.actuariesindia.org 14
Product Management Strategies New products Strategy Non-par savings products shorter ppt/term introduce linked version Par products Lower reversionary & higher terminal bonus, One time addition Annuity Products Revision of annuity rates on a regular basis ALM Introduce Variable Annuity will it be allowed by regulator www.actuariesindia.org Challenge Marketability Competition Not able to meet demands Regulatory restrictions Keeping Guarantees manageable 15
Product Management Strategies Diversifying through New products Strategy Challenge Diversify into new areas e.g. pure risk products long term care business Disability income business Increase proportion of health insurance business Grow Individual and group term business Sell more single premium/ Limited Pay products Developing a new market Expertise www.actuariesindia.org 16
Product Management Strategies Falling interest rate - Lessons from the world Japan Change in product mix Transfer of investment risk to policyholders Variable life insurance products Diversification into health insurance, long term care and other products with protection elements Germany Focussing on protection type product such as disability income and long term care replacing traditional saving products with alternative guarantees product viz. Return of the premium www.actuariesindia.org 17
Product Management Strategies Falling interest rate - Lessons from the world US De-risking the products, adjusting benefits and reducing options Transfer of investment risk to policyholders (Universal Life products) Variable annuities (VA) Lower Minimum Guarantees in VUL, VAs www.actuariesindia.org 18
AGENDA CURRENT MACRO ECONOMIC SCENARIO PRODUCT MANAGEMENT STRATEGIES INVESTMENT STRATEGIES 19 www.actuariesindia.org
Investment Strategies Impact of falling interest rates Reinvestment risk: Low returns on investments of future premiums & investment proceeds Impact on VIF: Negative impact due to lower future expected investment income Reduced bonuses: With profits Lower guarantees: Reduced attractiveness Potential tactical & strategic responses to falling rates Use of derivatives Use of ALM techniques Portfolio immunization Increased Focus on ALM/ Hedging strategies Increase investment risk appetite Use of alternative assets Shift towards illiquid assets Return Enhancement www.actuariesindia.org 20
Risk Mitigation: Hedging strategies Instrument Pros Cons Constraints Customizable Nearly perfect hedge Interest Rate Swaps Expensive Difficult to unwind Setting up & administration Interest Rate Futures Exchange traded Easy to unwind Not customizable Basis risk Low & Falling volumes FRAs Customizable Difficult to unwind Same as Swaps Interest Rate Options Upside is not restricted Not permitted by IRDAI Available on few bonds Limited availability/ Mostly privately placed Higher cost of hedging No leverage unlike others STRIPS Risk free Recurring deposit/ Partly Paid structures Customizable to certain degree Inherent credit/ counterparty risk May be used as a temporary arrangement Repo & repurchase Not permitted by IRDAI Easy to implement www.actuariesindia.org 21
Return Enhancement Leverage favorable positioning in the markets Efficient use of conventional assets Explore investible universe KEY THEMES COMMENTS CHALLENGES Increased yield From sovereign to credit From liquid to illiquid Market inefficiencies Depends on Availability of assets Investment restrictions Move towards illiquid assets Regulatory restrictions on using equity derivatives Complexity of modeling Not widely understood Equity upside with controlled downside Structured products Capital protection products Wider risk mitigation through derivatives Sophisticated equity strategies Diversified exposure to alternative risks Infrastructure - InvITs Real Estate REITs Private Debt/ Mortgages Commodities Investment restrictions Availability of assets Availability of historical data Wider spectrum of assets www.actuariesindia.org 22
Investment Framework: Holistic approach Optimal Portfolio Well diversified portfolio Investment risk appetite Increase appetite for higher returns Investment opportunities Current returns Asset correlations Wider range of asset classes - market Optimal point on the efficient Appetite Market frontier chosen based on Investment objective Investment risk appetite Constraints Fit with liabilities Regulatory restrictions P&L/ Balance sheet volatility Impact on capital requirements Objectives/ Constraints Liabilities Characteristics Matching assets Equity backing ratios Investment limits/ restrictions Return volatility P&L Impact Impact on capital requirement - RBC www.actuariesindia.org 23
Case Study: Japan & Germany Japan (1990-2000) Products with high guarantees Low interest rates forced greater allocations into risky assets Asset prices were already inflated- Asset bubble burst 7 insurers became insolvent Environment Low interest rate, high volatility in equity and property markets New investment regime Better ALM: reduced gap between asset and liability durations Systematically explored market inefficiencies Overseas investments (majorly USD) Germany (ongoing) Environment extremely low interest rates for prolonged period New investment regime Increased investments in less liquid assets infrastructure projects such as solar & wind energy www.actuariesindia.org 24
Conclusion Low interest rate and volatile equity markets Makes guarantees more onerous Make options more valuable in the hands of policyholders May make ULIP products unattractive Put strain on capital Strategies to meet the challenge Product Management through reducing Guarantees/Options, increasing margin, focusing on protection products, transferring/sharing investment risk, reducing durations, adjusting bonus philosophy Investment strategy - to have holistic approach in investment with focus on ALM Hedging through derivatives Exploring wider spectrum of asset classes, Move towards illiquid assets www.actuariesindia.org 25
Q & A www.actuariesindia.org 26
