Financial advisers and consumer advocates are skeptical of a proposal from the life insurance industry that could reduce the amount of capital that carriers need to hold against residential-mortgage-backed securities.
Last month, the American Council of Life Insurers submitted a proposal to the National Association of Insurance Commissioners under which regulators would re-evaluate the way that they examine such securities.
Currently, regulators look to the ratings agencies' gauges of the securities as a way to determine how much capital carriers should hold against the investments.
Advisers are concerned that a reduction in capital being held against the securities puts insured individuals at risk in the event that the economy worsens and more mortgages fail.
“I don't want to see them do that now, because the worst is in front of them — unemployment [insurance] is going to run out, and foreclosures are going to spike further,” said -certified financial planner Eric D. Brotman, president of Brotman Financial Group.
BELOW INVESTMENT-GRADE
“Today, we want security,” said Robert Beswick, a West Linn, Ore.-based adviser with LPL Financial.
“I don't think this is the right time to grant relief,” he said. “You want to appear and remain stable.”
Life and health insurers held more than $145 billion in residential-mortgage-backed securities that weren't backed by Fannie Mae or Freddie Mac, and they had to post about $2 billion in capital against them as of the end of last year, according to the ACLI.
Many of those securities, which were once rated triple-A, have been cut to below investment-grade by at least one ratings agency, the ACLI said.
Amid rising defaults this year, ratings agencies trimmed the ratings on the residential-mortgage-based securities even more. Insurers claim that between Dec. 31 and June 30, they had to post $11 billion in capital due to those cuts.
The life insurance industry argues that the system is flawed because the ratings agencies don't consider the severity of a loss in -residential-mortgage-backed securities and fail to distinguish between a total loss versus a smaller loss. Rather, the agencies focus on the likelihood of a loss.
Figures provided by major holders of residential-mortgage-backed securities show that as of June 30, Genworth Financial Inc. had 4.1% of its total invested assets in such securities, Lincoln National Corp. had 12%, MetLife Inc. had 13%, and Protective Life Corp. had 15%.
INDEPENDENT FIRM
Although only a portion of those assets in residential-mortgage-backed securities are at the center of the proposal, some insurers welcome the plan.
“We believe a more refined system of evaluating risk for RMBS ... should be developed — one that includes capital — and reserve charges that accurately and appropriately reflect the risk involved,” MetLife spokesman Christopher Breslin wrote in an e-mail.
Representatives of Lincoln National, Genworth and Protective Life declined to comment further.
The proposal, which is under consideration by the NAIC's valuation-of-securities task force, pitches a methodology that would try to obtain the expected loss inside a residential-mortgage-backed security. The solution calls for an independent firm to perform the loss-modeling for the securities, rather than relying on the ratings agencies' judgment.
“These are extremely conservative requirements, and all we're trying to do with the proposals is to move from extremely conservative to just conservative and reasonable,” said Paul Graham, senior vice president of insurance regulation and the chief actuary at the ACLI.
As a result, regulators give carriers credit for quality tranches in a residential-mortgage-backed security, rather than considering the whole security a possible loss be-cause some tranches aren't performing well.
“Say you have $1 billion in a security, and 30% of it is good and 70% is made up of Alt-A and subprime mortgages,” said Sean Dilweg, Wisconsin's insurance commissioner, who is a member of the NAIC's valuation-of-securities task force. “If you can home in on the exact nature of the security and give credit for that 30%, it provides insurers with the guidance they need to have on hand so that consumers are protected as far as claims-paying ability.”
If the system remains as is, the risk-based capital ratio — the measurement of how much capital an insurer has to support its operations and risks — will fall as the required amount of capital rises, said Nancy Bennett, senior life fellow at the American Academy of Actuaries.
SEEKING CONSERVATISM
The group has a task force that is evaluating the proposal and will provide comments on it to the NAIC.
If the valuation-of-securities task force accepts the proposal, it will go into effect in about mid-December, after the NAIC has found a contractor to handle the loss-modeling calculations, Mr. Dilweg said.
Meanwhile, many remain concerned about how the situation will shake out.
“Insurance is about being conservative. I think it's really important to be as conservative as possible, but especially now; any company we work with should err on the side of conservatism,” Mr. Brotman said.
“The forecast isn't for an im-provement in foreclosures and bankruptcies, so what's the basis for claiming that somehow the ratings agencies are being too conservative on this?” asked Birny Birnbaum, executive director of the Center for Economic Justice.
E-mail Darla Mercado at [email protected].
