Category Archives: Financial Services

AIG’s Hank Greenberg is the Poster Child for the Greed, Arrogance, Hubris and Lack of Shame Exhibited by Many Big Bankers and the Denizens of Wall Street

It is a classic case of megalomaniac superciliousness and brazen hypocrisy. Hank “the snake” Greenberg is suing the U.S. Government for $40 billion. His claim? The government was “unfair” to him and other shareholders when it pumped $184 billion of taxpayer funds into AIG to rescue it from certain bankruptcy.

It may seem like only yesterday when the U.S. was hammered with the worst economic decline since the Great Depression but if you had any delusions that the kind of economic insanity exhibited by bankers, financial gurus and insurance execs who pushed us to the brink of economic annihilation has disappeared, that notion was just shattered by Hank R. Greenberg who has filed a new complaint against Uncle Sam. More about that in a minute.

Greenberg, of course, is the former head of AIG Insurance, and if you don’t remember Hank’s role in this monumental financial firestorm, you’ve probably also forgotten that, not only did Nero play music while his people suffered and Rome burned, but he was a greedy and ineffectual leader in a time of crisis.

The apparent psychotic delusions of Greenberg are so grandiose and in such conflict with the reality of what happened, it is difficult to apply any form of logical sanity to his repugnant action, a fiddling Nero notwithstanding. It is impossible, one could argue, to underestimate the craftiness, deceitfulness and guile of Greenberg and those of his ilk. “Doing the right thing” is the first victim of those like Greenberg who are driven by the testosterone of greed, arrogance and lack of any level of shame or accountability for their actions, no matter how egregious they might be, or how well defined.


gall 1 |gôl|
noun
1 a: brazen boldness coupled with impudent assurance and insolence
1 b:  see temerity or alternately, “Hank Greenberg.”

Greenberg should be in court all right, but he should be the defendant, not a plaintiff. If it were not for the lessons to be learned by dissecting the abhorrent attitude that gives Greenberg the unmitigated gall to take legal action against the government over the AIG bailout, the best thing would be to simply mock him for being so blatantly unscrupulous. But in this latter day immorality play it’s futile to rely on reality and logic when dealing with someone who is so wholly deranged by deep-seated greed and personal hubris.

The Greenberg Lawsuit: a model of fallacious reasoning

The mistakes of history are often repeated when those who made the mistakes are allowed to rewrite the history of those mistakes or when the lessons learned from those mistakes are forgotten by those who were victimized and are allowed to be repeated. It appears that Greenberg is relying on both these factors in his effort to extract more money for himself from the government.

The basis of Greenberg’s litigation is that (1) the government exceeded its constitutional authority by forcing AIG shareholders (of which Greenberg was the largest) to sell 92 percent of their stock to the government for $184 billion. And (2) the terms of loans made to AIG by the government at 14 percent interest were tantamount to “extortion.” By reason of the latter, Greenberg now claims the government (i.e., we taxpayers) owes him $40 billion.

His logic is utter nonsense. As one pundit discussing the lawsuit put it, this is akin to a house fire caused by your own negligence and then, after the fire department saves your home, you sue them for getting your furniture wet. Greenberg’s only hope to be victorious in this lawsuit is that there will be mass amnesia as to the reasons why the government was forced to bail out AIG and its shareholders in the first place.

In September of 2008, AIG, then the largest insurance organization in the world, was on the precipice of bankruptcy. AIG had been pushed to the edge of implosion, because of irrational decisions motivated by the seemingly boundless greed of Hank Greenberg and others at the company. This stupendous lack of good judgment prompted AIG to insure hundreds of billions of dollars in potential losses from toxic mortgage securities sold by virtually every major financial institution in the world. In doing do, Greenberg drove AIG to violate every fundamental insurance law of risk management, all in a self-serving determination to maximize short-term profits and bonuses.


When this mine field of poisonous mortgages began to explode and rip through the economy, AIG found itself saddled with hundreds of billions of dollars in claims that dwarfed the total assets of the company. Not only was AIG insolvent – some say within hours of running out of money and being forced to close its doors – but the companies that had purchased AIG’s “mortgage guarantee insurance” would also face failure. This could have quickly caused the entire American economic structure – if not the global economy –to collapse in panic.

So here’s the sticker:  If Greenberg’s AIG had been isolated in this financial quagmire, the government would probably have kept hands off and allowed it go bankrupt; just as it had in the case of the Lehman Bros. bankruptcy a few months earlier. But Greenberg had allowed AIG to assume so much risky liability from so many companies, that the government arguably had no choice – specific power or not – but to intercede. The potential economic catastrophe of failing to act as AIG collapsed was just too frightening to risk. It is not hyperbole to suggest that such a result could have challenged the very concept of capitalism.

Keep in mind that had the government allowed AIG to fall into bankruptcy and be dissolved (as happened with Lehman Bros. and numerous other companies) then Hank “the snake” Greenberg and every other shareholder would have found their stock to be totally worthless. As it was, in 2010 Greenberg sold his remaining stock of AIG for $278 million; not a bad “reward” for a guy whose greed helped trigger one of the largest and most painful economic declines in American history.

So what is the basis for the Greenberg suit against the government – really all of us as taxpayers?

Greenberg wants to rewrite history. He wants us to forget the chaos and panic that would have been exacerbated by the failure of AIG. With a straight face and feigned indignation, he argues that the government had no legal authority to “seize” his property by forcing him to sell his stock to the government. If anything, this argument just validates what a total sleaze Greenberg really is. He has no concern for the country or anyone but himself.

This snake Greenberg then compounds what should be our utter revulsion of him by claiming that, even if the government did Aig_logo-2have the power to force the sale of his stock, the price the government paid — $184 billion – was a rip-off and he should have been paid a lot more. When the government stepped in, the market value of AIG was $15 billion; and yet the government paid $184 billion. Just who got ripped-off here? And again, let’s not forget that if AIG had been allowed to fail, Greenberg’s stock would have been worthless!

There is a touch of ironic humor in Greenberg’s suit. (Actually, more than a touch if you follow the likes of political satirist Jon Stewart). Initially the government made an emergency loan to AIG of $40 billion dollars. This quick-shot of capital was critical to keeping AIG functioning while a long-term rescue plan was developed. The government charged AIG 14 percent interest on the loan. Now, in his perverted sense of reality, Greenberg is claiming that the loan terms imposed by the government amounted to “extortion.” This jerk has no shame!

The irony here is that AIG was a subprime borrower. The company was insolvent, unable to pay its bills and about to go out of business. With no other option for capital sufficient to save the company – 14 percent was a cheap rate! Can you imagine what a “private equity” firm would have charged AIG if one had the willingness and capital to bail out AIG? And, just for good measure, remember that even with a good credit record, banks charge individuals 18 percent on credit card debt. Yet, Greenberg has the gall to claim that the government ripped off AIG!

But Here is the Worst Part

It would be one thing if Greenberg were an aberration when it comes to the type of mentality and attitude he brazenly exhibits. He could be dismissed as simply a delusional, demented kook. But unfortunately, when it comes to big banks and corporate tycoons, Greenberg is more the norm than the exception. Remember that Greenberg was just a player, albeit a major player, in the economic meltdown.

Believe it or not, there are a number of investment firms and corporations that are supportive of the Greenberg lawsuit. They seem to feel that if they also get “to big to fail” and are about to, that the government will step in and do to them what it did to AIG. They should be so lucky! And the banks – the incompetent herd of complicit conspirators whose actions triggered the financial meltdown in the first place, are now chafing under the new rules (the old ones that had worked so well for 70 years were repealed) designed to keep them away from sharp knives so they can’t hurt themselves or us again. It is mind-boggling how irrational some can be when they rewrite history in their own minds and have self-imposed amnesia when it comes to their mistakes of the past.

And the Moral of the Story …

In the end, I have only one thing to say to Hank “the snake” Greenberg: Go “#@*&” yourself! And while you are at it, all those you rode in with. Take the hundreds of millions you sucked out of the government (taxpayers) and AIG and go crawl back in your hole. You should be the one sued, not the American people.

The Curse Of Longevity Is The Cost To Enjoy It

Are Longevity Insurance Policies a Smart Buy? Maybe Someday, But Not Now

It used to be that our grandparents worried about what would happen to their kids if they died too soon. Nowadays, our kids worry about what will happen to them, if we live too long.

Extended longevity is both a blessing and a curse. The blessings are well known and innumerable. But we are also cursed with extra time to fear death and more time to worry about our added longevity stripping us of the cash required to comfortably support those “bonus” years. In short, most folks are Longevitynow more concerned about the cost of living too long, than they are about the cost of dying too soon.

A New Opportunity is Waiting

The life insurance industry achieved exceptional success and became comfortable offering products that protected against the cost of dying too soon. But it has taken the industry several decades and a number of fits and failures to (grudgingly) recognize and accept this fundamental change in consumer needs.

Despite the admonitions of some within the industry, the idea of accepting – even acknowledging – change has not been easy for the life insurance industry. Historically accustomed as it was to selling the products it wanted to sell versus products the consumer sought to buy, the life insurance industry’s initial response to the threats posed by this change was a call to “get back to the basics.” The problem for the life insurance industry was that the basics had changed and clinging to the past simply exacerbated the problems.

The Writing on the Wall was not in Invisible Ink

It’s not like the life insurance industry was not warned. As long as three decades ago, the signs of change – for those who were open to seeing them – were clearly evident. Life expectancy at the start of the 20th century was a mere 42 years; by the end of the century it had dramatically increased to age 74; with predictions that it would soon extend well into the 80s.

These remarkable statistics and a number of other factors signaled the need for change, but it was this extension of longevity that led the consumer to conclude that the fundamental products offered by the life insurance industry had become outmoded.


The life insurance industry has finally been dragged kicking and screaming into the future, but because of its intransigent allegiance to the past, it may be too late to recover what it has lost. Now that the life insurance industry has accepted the premise that it must change – if it is to survive – and offer products that protect against the cost of longevity, it is struggling with just how to do so.

Many believe that the business of insurance companies is to take risks, but that is not the case. (At least that’s not the approach for those companies that survive.) The path to success in the insurance industry is not to assume the risk of loss, but to manage the risk of loss faced by others. In order to do this, the insurance company must fully understand all aspects of the risk, so it can be managed.

The life insurance industry has more than 150 years of experience designing products that cover the costs of dying. This experience enables the industry to comfortably manage the risk of dying, without assuming much risk. Given any group of insureds, the life insurance industry can forecast – with virtual prescient certainty – when and how many in that group will die during any given period of time.

On the other hand, the life insurance industry has only a smidgeon of experience understanding the risks inherent in what could be called the “longevity market”:  offering income products that meet the costs of living. An insurance company can use life expectancy tables to determine when people will die, but it has no experience projecting how many individuals in a group will live beyond – and for how long – the moving target of life expectancy.

This means the insurance company is, in effect, making a guess (taking a risk) as to how many insureds will live longer than expected and what the duration of those claims – life income – will be. In addition, interest rates have a dramatic effect on the amount and cost of income benefits. And since interest rates, another moving target, cannot be predicted for even the next year, it is a significant risk for insurance companies to try to project interest rates over decades.

The Unwelcome Upshot of All This

Faced with this dual conundrum, the prudent insurance company will tend to develop products for the “longevity market” that are loaded with hedges, protections and benefits for the company, but not so many for the consumer. This is to be expected, because insurance companies do not (and should not) assume risks they don’t understand or can’t manage. As a result, the tactic taken by insurance companies in the design of these first-generation longevity products is to transfer as much risk as possible to the insured. And this will continue to be the approach until the industry gains experience and confidence in the management of those risks. In the meantime, it’s buyer beware.

The concept and objective of these longevity policies is fine, but they are so loaded with protections for the insurance company, they don’t yet offer good value for the consumer and should be avoided. It’s not that these products are bad, it’s that they are not as good as they could or will be and the cost benefit for the consumer is not well balanced.

These products are the insurance industry’s first response to meet the concerns an individual may have that they will “outlive” their assets and income. They may have enough money to get to age 75, but what if they live to 95? The basic structure of “longevity insurance” is for the Retirementpurchaser to deposit a lump-sum amount with the insurance company, with the understanding that no benefits will be paid unless and until a person lives to a predetermined age. For example, a 55-year-old deposits $50,000 with the insurance company to buy a longevity policy. The policy would pay no benefits whatsoever until age 85. At that time, the company would begin to pay about $50,000 a year, for as long as the insured lived.

This type of policy certainly solves the “longevity problem,” but it comes at a very high price with few options for the insured. For one thing, once the deposit is paid to the insurance company, it belongs to the insurance company and may never be returned. The insured gives up all control and access to the money and if they change their mind or have an emergency need for cash, they are out of luck.

That means an individual age 55 could deposit $50,000 or more with an insurance company and if they don’t live to age 85, they lose all the money deposited. The only chance they have to get their money back is to live. Even then, if the insured does live to 85, and dies a year or two later, the funds are lost. In fact, insurance companies anticipate that so many of those who buy the policy will not live to collect any benefits they count on using these forfeited funds to pay those who do live. (In fairness, some companies do offer the insured options that would, under certain circumstances, allow for a return of this premium, but the costs are so prohibitive they virtually eliminate the basic value of these policies.)

There are other problems with the policy as well. For one thing, benefits are set and guaranteed at the time the policy is purchased. With current interest rates at such low levels, this may be the worst time to buy a policy that locks in current rates for, what could be, 30 years or more. Any increase in investment rates between now and when benefit payments commence (if they ever do) would benefit the company, not the policyholder. Another concern for the policyholder could be inflation. A guarantee of $50,000 a year income may seem good today, but what will its value in purchasing power be in 30 years?

There is another issue a potential purchaser of these longevity policies should consider. It is what investors call the “credit risk.” When buyers deposit their funds with the insurance company, they are taking the credit risk that the company will be around in 30 years and will be able to meet its obligations. This is a relatively low risk decision, but if the insurance company mismanages the investments backing these policies, if more people live than anticipated live to receive benefits and those receiving income live longer than planned, the insurance company could be squeezed to meet its promises.

So what is someone who is concerned about the economic costs of living too long to do?

Well truth be told, these “longevity insurance” policies are not all that revolutionary and are not worth the cost or the risk the insured must assume in order to receive benefits. In effect, the core of these policies is a single premium deferred annuity. In a single premium deferred annuity the insured makes a single deposit of funds, allows those funds to accumulate over time and then, at a later date, can elect to receive an income for as long as they live. The risk the insured is taking by purchasing this type of policy is that it is impossible to know exactly what the income will be when they elect to receive it.

What makes the longevity policy unique is that the insurance company will guarantee what that income will be. That’s great. But the costs applied by the insurance company to receive this benefit are just not worth it. The insured must give up the right to get their funds refunded if their needs change. If they need cash for unexpected purchases or emergencies, they must find it elsewhere. If they die before receiving any benefits, their family receives nothing. They have only one chance to receive income and that is they must hang on until they reach 85 and if they die a month before or a month after income starts, that’s the end of the income stream. All these costs and limitations outweigh the value of the insurance company’s guarantee as to what the income will be at age 85.

In the Meantime, Here’s the Smart Choice

Until the insurance companies gain the experience and desire to develop improved iterations of longevity insurance, the consumer is better served by purchasing a traditional single premium deferred annuity. This keeps all the options on the side of the consumer, while still offering a guaranteed income to cover the cost of longevity. The only risk for the consumer has is not knowing exactly what that income will be when they elect it, but that risk is slight and is a fair exchange for the high costs of current longevity insurance policies. This is the best way, at least for now, to enjoy your longevity, for as long as it lasts.

 

Hot Money May Cause the Life Insurance Industry to Crash and Burn

Cash is God in the life insurance business and some companies seem to be willing to sell their soul to the Devil to get it.

The appeal, power and profitability of the life and annuity insurance industry have eroded almost to the point that the industry has not only lost its prominence, but its very viability as an independent competitor in the Insurance_Stabilityfinancial services market also is being questioned. These dire circumstances are forcing insurance companies to seek capital infusions from sources they would never have previously considered and to take actions that are an anathema to traditional insurance financial management. Both actions may, in the end, threaten the very survival of the companies, but even worse is the risk that these activities may leave policyholders holding the bag and cost the taxpayers billions in bailout bucks.

There is no more cogent evidence of this state of affairs in the life insurance industry than a recent article in The Wall Street Journal which reported that the New York Department of Financial Services has issued subpoenas to a number of large private equity firms, seeking information about recent investments they have made in the life insurance industry. Regulators may be curious about this activity because the business model of private equity firms – relatively short term high returns – is so contrary to the business model of insurance companies. Just a few weeks later The New York Times reported that the New York Department of Insurance is investigating actions by insurance companies characterized as “shadow reinsurance” that are intended to artificially reduce the amount of capital and reserves needed by insurance companies.


In simple terms, here is the problem: The financial model for the life insurance industry is diametrically opposite to that of most industries. When a typical company makes and sells a product, it reports an immediate profit. When a life insurance company manufactures and sells a policy, it reports an immediate loss; a loss that may not be recovered for several years. As a result, for non-insurance companies, growth creates new capital, while a growing life insurance company consumes increasing amounts of capital. For most companies, a return on invested capital can be measured in a single fiscal year, while for a life insurance company a return on invested capital could take decades.

Capital Requirements Magnify the Issues

When it comes to managing capital needs, life insurance companies face still another financial complication. The nature of life insurance is an uncertain, long-term liability. Actuarial tables notwithstanding, the insurance company never really knows when it will have to pay or how much its future liability to the policyholder may be. With this in mind, state regulators require insurance companies to set aside and maintain a reserve of capital to meet these future liabilities. This requirement ties up capital for decades that further limits capital available for growth.

In the past, there were a number of strategies life insurance companies used to effectively deal with its capital requirements. For one thing, the insurance industry was sheltered from competition because banks and investment firms were prohibited from offering insurance products. This isolation allowed the insurance companies free rein to compete with each other to carve up the available business unfettered from free real competition from outside the industry. This meant that consumers could not comparison-shop for products based on price – as all products were priced on the same basis – and all products produced very high profit margins for the companies. This situation permitted insurance companies to use the profits emerging from existing business as “capital” to invest in new business.

Traditionally, the largest life insurance companies were not publicly traded, but were rather “mutual” companies, LifeInsurancetheoretically “owned” by the policyholders. This structure immunized the insurance company from any real pressure to show a return on invested capital, especially in the short term. In addition, the life insurance industry shared and passed around its capital among companies, in the form of reinsurance. Companies that had capital, but were not growing as quickly as others, would “loan” their capital to another company, in exchange for participating in the future profits of the business. This was facilitated because both companies were willing to accept a long term – maybe over decades – return on this capital.

There’s Trouble Ahead

But then, late in the 20th century, the life insurance industry experienced what was, in effect, a cataclysmic polar shift in its world. The life insurance industry was ravaged by a perfect storm when, in rapid succession, a maelstrom of events dramatically changed the insurance landscape.

First, there was a rush by the largest insurance companies to convert from a mutual to public structure. As a result, the short-term demands of the public market forced the management of these companies to shift, as never before, from long-term strategies to short-term, top-line sales and bottom-line results.

Then, another bomb shell: The restrictions keeping banks and investment firms out of the insurance industry were repealed and this opened the door to stiff new competition for insurance companies. The combination of increased competition and focus on short-term results caused insurance products to be marketed more as commodities – with price being the motivator – a change that significantly squeezed profit margins for insurance companies. On the heels of all this the financial crisis thundered in swamping insurance companies with hundreds of millions of dollars in investment losses at a time when interest rates for new investments dropped to virtually zero.

These were catastrophic events for an industry that always needed to wisely husband its capital and sold products that were “interest sensitive.” The fallout from this chain-reaction of events also triggered a significant reduction in the valuation of insurance companies, making it even more difficult to raise capital.

Just when things couldn’t get worse . . .

In short, just when the insurance industry needed capital the most, it ran out of capital. Companies lacked the cash required to support new business, causing them to scale back on sales. At the same time, reinsurance companies exited the market; they needed to retain all available capital to support existing liabilities.

In response to this confluence of crises, insurance companies began taking one or more of three different actions:

  • Raising capital from private equity investment firms.
  • Engaging in “financial engineering” in an effort to reduce capital requirements.
  • Moving away from the very core of insurance – the guarantee that risk of loss would be covered – by offering investment-type products that transfer the risk to the policyholder.

Any one of these actions – let alone the combination of all three – has the potential to fundamentally change the very nature of the insurance industry and threaten the future of any company that employs them. And here’s why.

It may seem like a match made in heaven: Private equity firms are flush with capital to invest and the insurance Private-Equity-Firmsindustry are desperate for fresh capital. The problem is that the business model for these two groups is not a match, let alone a heavenly one. Private equity firms seek a return on invested capital that is as much as three times higher than the normal return insurance companies can expect to achieve. Even more conflicting for the insurance industry is that private equity firms seek to be in and out of their investments within a five- to seven-year time frame, while insurance products barely break even after five years.

Another challenge for insurance companies that accept private equity capital is that these firms expect to begin receiving dividends on their investment almost immediately. The management of insurance companies that accept private equity capital will soon find they are constrained to meet the requirements of private equity and take actions that are antithetical to sound insurance management. And it could be the policyholder who ends up paying the price for this arrangement.

As mentioned above, reinsurance companies have traditionally been a reliable source of long-term capital for insurance companies, but reinsurance companies are also strapped for cash and have virtually withdrawn from the life and annuity market. In response to this, as the New York Times article pointed out, many of the largest public insurance companies have discovered a “creative” way to overcome the lack of capital available from reinsurance – they have started their own reinsurance companies.

In simple terms, these companies have set up wholly-owned reinsurance companies in states that have lower capital reserve requirements or fewer investment limitations than does the company’s state of domicile. The “parent” company then transfers large blocks of business to this “captive” company; thereby reducing the amount of reserves that have to be maintained to meet future liabilities. Voilà!, with a jurisdictional sleight-of-hand, new capital is magically created out of thin air. This may be all well and good, but should the reserves being held by the “reinsurance” company be insufficient to meet future liabilities (the reserves, after all, may amount to no more than a “conditional letter of credit” from the parent company), then once again the policyholder, or ultimately the taxpayers, could be left holding the bag.

The final action that some companies are taking is, in effect, to get out of the insurance business. Companies are developing products that are more akin to investments than insurance. This is accomplished by transferring the risk for what the future benefits may be from the insurance company to the policyholder. (For example, selling variable annuities and variable life as opposed to guaranteed life or annuities.) In other instances, companies are transferring the longevity risk – how long the benefits will be paid – from the company to the policyholder. Both of these actions have the effect of reducing the amount of capital needed to write new business and the amount of capital needed to be held in reserve. In effect, we are seeing the largest life insurance companies morph into investment companies, right before our eyes.

The Moral of the Story … 

Putting it all together, it is not implausible to foresee a scenario in which the financial services industry contracts into two players – banks and investment companies, with insurance benefits sold as an ancillary benefit on the side. This may be the most logical direction, but is does not portend good things for the life insurance industry as a viable competitor in the financial services industry.