Wednesday, June 10, 2009

Head of OSFI agrees with me. Insurance companies need to be constrained. Where is Parliament on this?

Most Canadians don’t realize it, but Canada’s Life Insurance Companies just lived through their own “AIG Moment” over the last nine months, during which Canada’s LifeCos exposed the structural weakness in their balance sheets caused by their issuance of unhedged and imperfectly hedged liabilities, arising form their recent foray into synthetic retirement savings products.

This expansion into synthetic savings products was why the life insurance industry was so keen and active in their efforts to kill income trusts as a formidable competitor for Canadians’ retirement savings dollars. Flaherty complied, and is so doing added fuel to the fire by, and incredibly saw value in killing “real” investments in Canada’s economy, and favouring the issuance of synthetic investments for retirement savings, which it turns out were not being properly hedged by Canada’s life insurers.

Talk about a shallow approach to policy making, with zero regard for the unintended consequences of his mindless actions and the dynamic nature of the issue he was dealing with. I am reminded of children playing with matches?

In today’s Financial Post (below) the Head of OFSI is making cautionary comments that align with those that I have been making for the past six months on the unbridled and unwise activities of Canada’s life insurers.

What is Ottawa doing to constrain and regulate these types of activities by Canada’s life insurance industry in the future, apart from (i) lessening the rules to make it easier for them to comply with their inadequate capital positions ( which only contributes to the problem and is the modern day equivalent of waiving GM’s requirement to keep its pension obligations adequately funded. And we know how well that worked out in the end?) or by (ii) offering taxpayer subsidize borrowing facilities for these “bad offenders” in the form of the recently announced “Canadian Life Insurers Assurance Facility” , which simply means taxpayers are subsidizing the shareholders of life insurance companies.

Both of these measure simply mean that Ottawa is permitting Canada’s life insurers to carry on with their bad practices that are described by Warren Buffett as being “crazy”, in reference to variable rate annuities and whose warnings ahould be heeded and acted upon by Canada’s lawmakers (MPs), along with this cautionary comment from Kin Lo, a professor at the Sauder School of Business,

"Insurance is about protecting people from risk and what we have seen is the insurance industry going out and seeking risk," he said.

"It is in the nature of insurance that these companies should be fairly conservative in how they go about their business. What we saw in the last few years is insurers getting away from conservatism," he added.

Financial firms need historians: OSFI head

By John Greenwood,
Financial Post
June 9, 2009
Julie Dickson, the head of Canada's banking and insurance watchdog, on Wednesday advised financial institutions to hire financial historians so they don't repeat the mistakes they have made in the current credit crunch.

In the dark days of last fall when the financial system seemed on the verge of failure, many industry insiders insisted the situation was unprecedented and that no-one could have foreseen it.

But they were mistaken, Ms Dickson said in a speech to life insurance industry executives in Toronto. The same events have happened before, she said.

"Stock markets have plummeted, banking systems have collapsed and you do not need to go back as far as 1929 to see this," Ms Dickson said.

Ms. Dickson, the Superintendent of Financial Institutions, said chief risk officers at banks and insurance companies "should think about" about hiring a financial historian as a way to broaden their awareness of the potential challenges they face.

By taking into account what has happened in past decades, players will be better able to anticipate consequences of current business decisions.

One area of particular concern is the segregated fund businesses of many life insurance companies, she said.

During the equity market collapse last year, companies had to scramble into damage control mode as liabilities soared, forcing them to put aside more capital.

Indeed, after lobbying by the industry, OSFI last year changed the rules on capital requirements to make it easier for players to comply.

"Many life insurance companies misunderstood the risk associated with segregated fund guarantees," she said.

With life insurance, players can mitigate the risk of losses by simply selling more policies, but with segregated funds the opposite is true, since more sales only bring more exposure to the same risk.

Ms. Dickson said insurance companies should consider slowing the growth of their segregated fund businesses.
© Copyright (c) National Post


Anonymous said...

Thank you, as always, Brent for commenting on this article. I read it first thing this morning and thought "AHA!" and absolutely knew that there would be an intelligent and thoughtful parsing of this information by you.

What an astounding and intolerable betrayal and cowardice from Government & Parliament.

UNBELIEVABLE that the charade continues!

Oh well, in the next election, Canadians will have learned who to trust with their back!

Dr Mike said...

This was another case where the gov`t poked it`s long nose into the affairs of business & made it worse as they allowed the rules to be relaxed which gave outfits like Manulife the rope with which to hang themselves.

These clowns cannot even run themselves let alone be the patsies for big business.

Dr Mike

Hinch said...

Having worked in an investment department at a major life insurer and having witnessesed the demise of the Manulife of yester-year, Confederation Life, I can confirm that she knows what she is talking about - these lifeco "risk" managers know very little about risk other than what misdirected VAR nonsense that they've convinced themselves of . . a la Nassim Taleb/ Benoit Mandelbrot.

Nice to know that a regulator actually gets it - now lets see if she knows what to do about it! Maybe Dominic can help fund the project with some of his recent $25MM self payment? (Mr. worth every penny don't you know).