A.M. Best Special Report: Life Insurers' 2008 Liquidity Returns to 2006 Levels

The year 2008 was marked by sharp equity declines, high volatility and increased spreads of most asset classes when compared with U.S. Treasury securities. U.S. life insurers responded by building up large cash and cash equivalent assets. Surprisingly, A.M. Best's Liquidity Model (AMBLM) for U.S. life insurers indicated that industry liquidity declined slightly in 2008 from 2007 levels.

AMBLM quantitatively measures a company's short-term (30 days) and longer-term (six to 12 months) cash needs under stressed scenarios. There were two changes made to the model for 2008, and without those changes, the aggregate liquidity ratios for 2008 would have been flat when compared with 2007 levels. As a result:

The short-term ratio declined to 213% from 215%, and longer-term ratio declined to 160% from 161%. While these decreases can be attributed to model changes made for the 2008 AMBLM, they also indicate that there were other forces driving liquidity results for 2008.

A.M. Best's liquidity analysis continues to focus on mid- to large-size companies with exposures to the risks of interest-sensitive liabilities”i.e., fixed annuities.

The equity market's sharp decline in 2008, along with increased volatility, has led to significant increases in fixed annuity sales. After declining from 2005 to 2007, aggregate general account annuity reserves increased in 2008.

The increasing amount of fixed annuity business being written put more liquidity demands on insurance company liabilities and offset the increase in liquid assets.

Moreover, increases in safer, more liquid assets have been partially offset by increases in less liquid commercial mortgage-related assets as insurers continue to seek higher yields.

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Founded in 1899, A.M. Best Company is a global full-service credit rating organization dedicated to serving the financial and health care service industries, including insurance companies, banks, hospitals and health care system providers. For more information, visit www.ambest.com.