Living with Private-Equity Owned Life Insurance

For the past dozen years, private equity and other investment firms have been gobbling up life insurance companies in whole or in part. Is that a good thing or a bad thing?

Many private equity firms have sophisticated investment management teams that can bolster an insurer’s assets, giving it more financial clout to charge lower insurance premiums. Yet those same teams have driven a stake into the hearts of numerous companies outside the insurance sector. Between 2015 and 2019, nearly two thirds of retail companies that went into bankruptcy were owned by private equity firms. Were the same to happen to the 50 life insurers either owned or controlled by more than two dozen investment firms, their policyholders and annuitants might receive less than what they expected from their life insurance policies and annuities.

Some policyholders might be unaware that the well-known, conservative life insurer they purchased a policy from decades ago is now owned by a private equity firm, whose funds are illiquid and risky because of the debt financing used to buy companies. Rather than trust their crusty, old-school insurer to make good on their death benefits and annuity payments, they must trust a private equity firm, whose purpose is to provide investors with profits.

Trust is in short supply these days following a spurt of bank failures and allegations that federal regulators’ poor oversight played a role. This does not imply that state regulators of the insurance industry are not doing their jobs. The National Association of Insurance Commissioners (NAIC), which represents insurance regulators in 50 states and the District of Columbia, has charged several committees to examine the risks to policyholders from private equity ownership.

These alleged risks include the opaqueness of many private equity firms, making it difficult to access meaningful information on individual funds; a spotty track record on owning diverse American businesses; and the possibility they may deploy insurance assets into risky alternative investments, for which they may charge high fees, among others. According to the Center for Economic and Policy Research (CEPR), these investments may include the firms’ own buyout, real estate and debt funds.

“There are no limits on what private equity–owned insurance assets can be invested in,” says Eileen Appelbaum, co-director of CEPR. “The question is whether the firms are engaging in ‘self-dealing,’ using their insurance assets to bolster the performance of their other investments. They could be providing direct loans to other private equity firms to make leveraged buyouts or investing in venture capital. We just don’t know. There may be nothing to worry about, but we don’t have information to suggest otherwise.”

Appelbaum’s comments about private equity firms dipping into their insurance assets to bolster other investments are especially concerning, given potentially dire projections for non-insurance private-equity owned businesses through the end of the year. In April 2023, S&P Global projected that 78 private equity portfolio companies are on track to file for bankruptcy this year, more than double the totals in 2021 and 2022 and the second-highest number of portfolio company bankruptcies in more than a dozen years.

Private equity’s growing involvement in the life insurance industry has seized the attention of the U.S. Senate Committee on Banking, Housing and Urban Affairs. The committee chairman, Sen. Sherrod Brown (D-Ohio), in early 2022 urged both the NAIC and the Federal Insurance Office to look into potential risks for policyholders. Brown’s letters to the regulators cited his concern that insurance investment products that “workers depend on for their retirement are being transferred to these risky companies that have a track record of undermining pension and retirement programs.”

Investment firms like asset managers and private equity funds, Brown wrote, “often take on much higher risk strategies than traditional insurance companies, and do not face all of the same capital, liquidity and policyholder protection requirements as well-regulated insurance companies. … While investment firms might benefit from huge profits in the short term, failure to adequately manage these risks may ultimately cost policyholders their retirement incomes.”

Given the criticism levied by the CEPR and consumer advocates, Leader’s Edge contacted large private equity firms like Blackstone, KKR and Apollo that have acquired substantial life insurance assets. Only one responded but declined an on-the-record interview. We also reached out to the NAIC to interview regulators serving the Financial Stability Task Force and Macroprudential Working Group examining this hot-button issue. A media contact at the organization declined the request and provided a series of past articles and NAIC special reports on the subject.

“I don’t believe private equity ownership of life insurers is a hair-on-fire situation,” says Cari Lee, director of state government affairs at The Council and a former state insurance regulator who oversaw financial solvency and market conduct. Lee added that regulators have frequent and significant oversight over insurance company solvency and “are reacting to the changing market to ensure policyholders are protected.”

Other life insurance experts expressed views that ranged from mild concern to significant worry. Some believe that private equity has tossed a lifeline to life insurers struggling to meet their policyholder commitments due to a poor investment climate. Others insist that regulatory guardrails are needed to keep private equity firms from destroying the value of the life insurance assets they manage.

Declining Rates Fueled Investments

Twelve years ago, AM Best calculated that private equity had amassed 1.2% of the life and annuities industry, representing $67.4 billion in admitted assets. The most recent tally by the ratings agency, in the third quarter of 2022, indicates private equity has accrued 10.8% of the industry, representing $882.1 billion in assets. Each year in between, the asset accumulations gradually increased.

There are specific reasons for this growth. Private equity has long been attracted to the permanent capital flowing from life insurance premiums, given that many policyholders can be expected to pay premiums many decades into the future. Investing the premiums is a way for the firms to generate additional fee income.

“By buying life insurance companies or blocks of life insurance, private equity can take that balance sheet and earn a diversified fee stream off of managing it,” says Mark Friedman, U.S. insurance deals leader at audit and advisory firm PwC, adding that the diversification effect derives from the assets’ relative lack of volatility.

Until the financial crisis of 2007-2008, few life insurers were interested in private equity ownership. Insurers generally invest the bulk of policyholder premiums and capital from annuities in conservative corporate and government bonds, which are considered safer than equities but are exposed to interest rate risk. When interest rates began to steadily decline in 2008, the pressure to lift the net yield on invested assets was acute.

“The appeal for life insurers to sell to private equity was to get out from under the liabilities in excess of what they were earning on their investment portfolios, freeing up capital for them to write more business at much lower rates,” Friedman says. “This is capital they otherwise would not have access to.”

Allstate, MetLife, The Hartford, Principal Financial, Genworth and other insurers found this appeal too good to pass up, selling their individual life insurance business to private equity firms. “If you look at what has happened over the past few years, it is fair to say the life insurance industry has gone through a once-in-a-generation restructuring,” says Ramnath Balasubramanian, senior partner at McKinsey, who leads the management consulting firm’s work in life insurance and retirement.

“Investors in life insurance were looking for efficient capital solutions to the complex liabilities the companies had on their books, which in many cases were not fully hedged. Some insurers struggled to keep up their performance as the low-interest-rate environment took hold. The value shifted toward the asset side of the balance sheet, and they looked for alternative solutions that offered a better yield.”

Private equity came calling. “By acquiring the underperforming parts of the industry, PE firms could leverage their operational technology to better manage the balance sheet [and] deliver the desired yields,” Balasubramanian says.

Friedman essentially echoes this analysis. “What private equity offered to an old-school, brick-and-mortar life insurer was the opportunity to benefit from the more sophisticated assets generated in the private sector versus what was available via corporate bonds and Treasurys.”

A marriage of convenience was in the works. “Private equity is interested in life insurance, and life insurance is interested in private equity,” says Robert Hartwig, a professor of finance at the University of South Carolina and the director of the university’s Risk and Uncertainty Management Center. “From 2008 through 2021, the insurers struggled managing relatively expensive long-dated liabilities [at a time of] ever-declining returns on assets, particularly in the fixed-income space. As interest rates declined to near-record lows, the complex, private-debt-like products put together by private equity firms offered higher returns.”

While the rationale to partner up made sense at the time, today’s higher-interest-rate environment alters this promise since the financial performance of life insurers typically improves with higher interest rates. Ten-year Treasury bonds surpassed 4% earlier this year, lower than the long-term average of 4.25% but substantially higher than 2020’s negative 1% rates. As The Wall Street Journal reported in April, the life insurers that sold their business to private equity “are missing out on some of the highest interest rates since the 2008 financial crisis.”

As their existing bonds mature, life insurers generally replace them with bonds that offer higher interest rates, strengthening their interest income and profit margins. “I’m wondering whether some of the insurance companies that sold are now sorry they did,” CEPR’s Appelbaum says. “In today’s interest rate environment, they definitely can
be profitable.”

Quality of Ownership

Higher industry profits give all life insurers more leeway to compete on premiums. However, there are unique solvency risks related to ownership for each kind of insurer—shareholders in a publicly traded life insurer, policyholders in a mutual life insurer, and investors in a private-equity owned life insurer. “With both a private-equity owned and publicly traded life insurer,” Hartwig says, “there is an inherent tension between investors and shareholders looking to maximize returns and policyholders looking to minimize the risk of insurer insolvency, which implies retaining or maintaining as much capital within the enterprise
as possible.”

While mutual life insurers also seek to maximize returns for policyholder owners, the difference is “a more conservative investment portfolio to minimize the insolvency risks,” Hartwig says, adding that his comments should not suggest a higher risk of insolvency for private-equity owned life insurers.

Ownership is just one factor that rating agencies charged with evaluating insurer solvency review. Jason Hopper, associate director of industry research and analytics at AM Best, says other factors include an insurer’s capitalization, appropriate risk management, asset-liability management and liquidity issues, “regardless of structure—publicly traded, PE ownership or otherwise.”

AM Best does assess the holding company’s positive, neutral or negative impact on the operating insurance company’s balance sheet strength, Hopper says, adding that private equity firms have been “more transparent”
in demonstrating their “willingness and ability” to support the insurer’s growth strategy.

The assessments nonetheless have unearthed differences among private-equity owned insurers. “By and large, PE owners with some history in the insurance industry are viewed more positively than new entrants are,” Hopper says. He explains that asset managers “not aligned with experienced insurance executives have greater difficulty navigating the complex, stringent and varied operational and regulatory environments confronting life insurers.”

Balasubramanian offers a similar view. “The focus should be on the experience and expertise of the management team running the life business and less on the category of players,” he says, “whether the insurer is publicly traded, privately owned or a mutual insurer. Does the management team have robust risk-management capabilities to appropriately manage liabilities to assets? Do they monitor credit risk and liquidity risk? That’s what’s important.”

Still, Appelbaum and others argue that ownership is a critical factor in a life insurer’s present and future performance. She is especially concerned that struggling private equity funds may be bailed out with insurance assets, citing recent reports indicating average returns of negative 6.1% for private equity firms in 2022.

“The firms claim they only move 5 to 10% of assets into risky things, but that’s still too much money, in my view, given the obligations they have to policyholders and annuitants,” Appelbaum says. “I’m not saying that a relatively small share of investments in dangerously risky assets is going to leave retirees high and dry, just that they may be getting less than they thought they’d get.”

Michael DeLong, a research and advocacy associate at the Consumer Federation of America (CFA), shares this concern. “This is retirement money we’re talking about, in the form of life insurance and annuities funding the retirement of seniors,” DeLong says. “Allowing private equity to get the insurance float pile puts more consumers at risk of not seeing the benefits they were promised. … I don’t think private equity can be trusted to protect the retirements of many Americans, not when you look at their track record of running companies into the ground.”

Regulations Needed Now

Appelbaum has proposed three key guardrails for private equity annuity and insurance investments: a cap on management fees for money that comes from retirement savings vehicles such as life insurance and annuities; an increase in reserve requirements to absorb potential losses from riskier investments made by private equity firms; and a ban on firms’ self-dealing, investing insurance assets in their own funds.

She supports the efforts of the NAIC’s Financial Stability Task Force and Macroprudential Working Group looking into Sen. Brown’s concerns. But she says, “Like all state regulatory entities with a national umbrella like the NAIC, they have a very difficult time moving faster or further than their most conservative members. In my view, the NAIC’s approach to this urgent matter is pretty timid. … I think the time has come for some set of minimum national regulations protecting consumers and retirees.”

Appelbaum is not alone in her criticism. “The NAIC hasn’t done a whole lot about this,” DeLong says. “They’ve collected information and issued a few reports, but it’s hard to act collectively and reach consensus when you have 51 insurance departments.”

On the other hand, Lee, who is also director of government affairs and public policy at law firm Steptoe & Johnson, says regulators have mechanisms in place to monitor insurance company solvency. “PE is not new to the NAIC,” she says. “Regulators have been dealing with it since 2013. State regulators have guidelines in place to address the corporate structure and risk-based capital. They’re looking at the financial statements of not only the private equity firm but also the insurance company within.”

Are private-equity owned insurers at greater risk of insolvency? Ram Menon, a partner and global head of insurance deal advisory at KPMG, says he could not answer that question. But Menon emphasized that the “life and annuity sector overall is very different than what it was during the financial crisis, with capital levels at all-time highs.”

Asked to provide his perspective, Hartwig says, “Many observers, and now the Senate Banking Committee, believe there needs to be more transparency into the valuation of the assets [held by private equity] in real time. They’re relatively opaque and are not the sorts of fixed-income assets that trade openly on exchanges, where their prices can be observed on a minute-by-minute basis. The question to answer is how assets like private placement bonds that, by definition, are illiquid would be valued today under realistic stress-test scenarios.

“Without saying there is an issue right now, I do think the current uncertainty we see in the financial markets following the collapse of SVB and Signature Bank and the emergency rescue of Credit Suisse should ring a bell at the NAIC. Everything is great until it isn’t.”