How Safe is Safe?

All financial institutions invest their deposits. When you place your money in a financial institution, whether it is a bank, credit union, savings association or insurance company, the institution puts your funds to work. They use your deposit to finance consumer and commercial loans, create mortgages or purchase bonds and other loans in the open market. In turn, they use the profits from their transactions to pay interest on their deposits.

However, what if these institutions have poor financial mangers? Make too many problem loans? Or purchase low quality bonds and mortgages? A depositor’s principal and interest is protected by all the assets of a financial institution. That includes their loan portfolio as well as their buildings, real estate, computers and other equipment used in the operation of their business. If that fails, government insurance steps in to provide limited depositor protection.

Because financial institutions play a special role in our society, they are tightly regulated. They not only operate on a strict set of lending and operational guidelines, but they are subject to on site inspections by government regulators, who literally have the power to close their doors and start selling off their assets, if they deem it necessary to protect the depositors.

Serving Two Masters

State Regulators

Insurance companies are regulated by every state in which they do business. For example: the ‘Great Eastern Security and Fidelity Insurance Company’ is chartered under the laws of Iowa and conducts its operations from that state (a fictitious name, lets call it GESFC for short). The Insurance Commissioner of Iowa has the responsibility of overseeing the operation of GESFC and to that end they will provide it with list of state regulation and operational guidelines. GESFC must comply with each and every detail of the Insurance Commissioner’s guidelines. Further, every time GESFC wishes to issue a policy or change its premiums, it must file its intensions with the Insurance Commissioner and seek the approval of the state’s actuarial department. In addition, GESFC is subject to periodic inspections; both announced and unannounced, by the State of Iowa’s regulatory officers, The Insurance Commissioner even has the authority to take over the operations of the company.

If GESFC decides to expand its operations into the neighboring states of Nebraska, Missouri, Kansas, Minnesota and Illinois, it must file with the Insurance Commissioner of each of these states. Just as in its home state, each of these new Insurance Commissioners will have jurisdiction over the activities of GESFC. GESFC’s rates and policy forms must be approved by the actuarial departments of each of the new states. Likewise, GESFC must conduct its operations in accordance with the regulatory guidelines of each new state. All of the new Insurance Commissioners have the authority to conduct onsite inspections and any of them can call for a cessation of operations, in order to protect policyholders.

Financial Ratings

In addition to state regulators, insurance carriers serve another master, or more properly a set of masters. Several organization issue financial ratings that signify the financial health and strength of an insurance company. A.M. Best is the oldest and the one most often quoted by insurance agents. Others include: Standard & Poor’s, Moody’s, Fitch and TheStreet (formerly Weise). Each of these ratings services judges insurance carriers by slightly different criteria.

Weise uses the company’s state financial filings and analyzes the carrier’s liquidation status. A.M. Best is at the other end of the spectrum and makes onsite visits and delves deeply into such matters as: management’s competency and experience; actuarial studies; underwriting history; reinsurance arrangements; marketing successes; investment track record; portfolio makeup and other financial and managerial aspects of the companies ongoing operations. New ownership, with an unproven track record, can trigger the suspension of a rating or its downgrade. In its periodic meetings with an insurer, A.M. Best clearly spells out the steps a company must take in order to either maintain its rating or improve it. The insurance experts at A.M. Best certainly take liquidation into account, but they also give weight to the company as an ongoing entity. Which is exactly what you are purchasing when you select a life insurance carrier - long term management capability, which may need to last your lifetime.

If carries want to maintain high financial ratings from the ratings organizations, they must conduct their operations within strict guidelines. Likewise, if an insurance carrier wants to retain control of its assets, it must operate in accordance with regulations of every state in which it does business. There are a lot of outside insurance experts watching every move an insurance company makes. To be an insurance executive in America today, is to live in the financial equivalent of a glass bowl.

Primarily Bond Investors

Insurance companies are primarily commercial bond investors and both the raters and the regulators judge their portfolios by the quality of their bond holdings. Commercial bonds are also rated by rating organizations as to their risk of default and the adequacy of the collateral that stands behind the bonds. Insurance carriers limit their holdings to very high quality bonds. The investment department of each insurance carrier, of course makes its own analysis of the quality of each bond it purchases. However, it does have these third party raters providing a valuable back-up opinion.

How safe is safe? Given the number of private and governmental experts watching every insurance carrier and second guessing every management decision, it does not get much safer, than a modern life insurance carrier.

For additional information on ratings services, their techniques and track records see the following:

Rating Services
	A.M. Best
		www.ambest.com
	Standard & Poors
		www2.standardandpoors.com/
	Moody's
		www.moodys.com
	Fitch
		www.fitchratings.com
	TheStreet (formerly Weiss)
		www.weissratings.com