Life assurers have experienced a tough year, but there is mounting evidence that 2009 will bring even more bad news. The sector is under close scrutiny because many investors are having a fundamental rethink about the relevance of using embedded value calculations as a means of valuing life companies. Life assurers like to use embedded value because it adjusts the life company's net asset value to reflect the value of expected premium income. However, rising levels of delinquency, where customers terminate or swap policies, means that the cost of paying upfront commission costs to independent financial advisers is sometimes not being recouped. So whereas new life premium business may look to be growing steadily, turning this into a solid long-term revenue stream is becoming more difficult.
Life assurers have also been battered by investment losses. Legal & General suffered losses of £422m on its investment book in the first half of 2008 alone, while unit-linked bond sales were badly affected by changes in capital gains tax. What's more, individual annuity sales have been weak and look set to weaken still further as falling interest rates reduce their attraction.
Meanwhile, Old Mutual has created a few problems of its own, failing to adequately hedge its exposure to falling equity prices when offering guaranteed annuity returns. Mutual fund sales fell, while in the US net cash inflows from investors collapsed from $17.2bn (£11.8bn) to just $1.9bn in the first half of 2008. Add to this a number of writedowns relating to its fixed income portfolio and exposure to toxic debt and it is hard to be anything but depressed about Old Mutual's prospects in the year ahead.
The UK's largest life assurer Aviva offers investors a growth driver from its overseas performance to offset what has been a generally less impressive year on the UK life side. However, it could have been worse. UK life and pension sales were broadly unchanged year-on-year in the first half of 2008, while the general insurance side of the business saw profits improve compared with a year earlier when the group was hit by particularly bad weather that increased claims.
For Prudential, sales of life policies outside the UK have remained buoyant, and the group is well placed to benefit from a strong increase in demand for life related products in countries like India and the Asia Pacific region. This will help to offset a much tougher time at the US Jackson business and poor UK investment sales. Both Prudential and Aviva remain our top picks in the sector.
LIFE ASSURANCE SECTOR
