U.S. insurers, the biggest buyers of corporate bonds, are struggling to escape the hole they dug for themselves in the 1980s, Standard & Poor's Corp. says.
Dogged by sour investments and anemic capital, the industry will likely face more ratings downgrades over the next two years, the agency says in this week's issue of CreditWeek.
And policyholders, already running scared now that troubles at Executive Life Insurance Co. and First Capital Life Insurance Co. have made headlines, are unlikely to regain their confidence any time soon.
"We're in a very sensitive atmosphere from a psychological point of view," said Robert Mebus, managing director at Standard & Poor's. "It seems people are in a run-on-the-bank mode."
On the asset side of their balance sheets, insurers are paying dearly for a keen appetite for high-yield bonds and real estate in the 1980s.
Even if the U.S. economy pulls out of its slump in the second half of 1991, "insurers may feel the pinch of their asset quality problems for an even longer period," the agency said.
Many companies are already repositioning their portfolios out of riskier securities, Mr. Mebus noted.
"We've had, of late, a reasonably good junk bond market, and institutions have been selling into that strength," he said. "They're moving away from junk ... and are looking for other places to pick up spread, particularly mortgage securities.
"I think you'll see more people playing the yield curve in the mortgage market instead of just holding to maturity," he said.
To police the industry's investments, the National Association of Insurance Commissioners recently capped insurers' junk bond holdings to 20% of their assets, ending months of squabbling in the industry. The group, which represents insurance regulators from all 50 states, placed that limit on bonds it rates NAIC-3, the equivalent of double-B or worse.
But many insurers stretched their capital thin over the past decade, and operating leverage is still on the rise because of their huge write-offs, the agency said. And wit many companies starign at potentially huge claims from AIDS, insurers may see their capital cushions deteriorate further.
Others have noted that the past decade's volatile interest rates, which have battered banks and thrifts, hit insurers hard, too.
"It's fair to say that they are not the next S&Ls, but they share a problem with other financial institutions," said Richard W. Kopacke, vice president and economist at the Boston Federal Reserve Bank, which recently sponsored a conference on the insurance industry. "For 150 years, interest rates hardly moved between 4% and 6% -- then came the 1970s."
While volatility hit thrifts first and hardest, "insurers were not immune either," Mr. Kopacke said. In that situation, institutions "tend to do one of two things: skimp on capital or take riskier positions. Ther's evidence of both among insurers."
Facing these pressures, "marginal insurers will be forced to exit the business or consolidate with stronger competitors," Standard & Poor's said, noting that more than 100 of the insurance companies that were operating in 1988 were not by mid-1990. "Ultimately, however, losses should be well below those experienced by banks and savings and loans."
Goldman Launches ABS Index
Goldman, Sachs & Co. yesterday announced it has launched the first index dedicated to the $140 billion asset-backed securities market.
The Liquid Asset-Backed Securities Index, designed to represent the market's most liquid issues, will include securities backed by car loans, credit card receivables, and home equity loans.
Securities chosen for the index will be at least $500 at launch, have a maturity of at least 10-years and a fixed-rate coupon, carry triple-A ratings from two agencies, and be registered with the Securities and Exchange Commission.
About 67% of asset-backeds issued over the past four quarters would have qualified, Goldman said.
"The primary motivation was there wasn't a benchmark in the market for people to evaluate the sector," said Scott M. Pinkus, partner in charge of fixed-income research, adding that the ability of investors and issuers to take a position in particular securities in the index may ultimately boost the market's efficiency.
From an issuer's standpoint, the index can be used as a tool to hedge spread risk, Mr. Pinkus said, pointing to typical yearend and quarterend spread widening that comes as corporations flock to securitization.
"Issuers can essentially lock in ABS spreads today by shorting the index, creating a forward market in asset-backeds as there is in the mortgage market."
Eventually, the index could lead to other derivative products, such as options on asset-backed securities, he said.
Yesterday's Market
Bereft of new supply, investment-grade corporate bonds languished in light trading, leaving prices little changed.
Despite steady rates and historically tight spreads, corporate borrowers sat out the session.
"The calendar exists, and spreads are so tight they're giving people the bends," and George A. Ashur, director of corporate bond research at Chase Securities Inc. "People are trying to figure out where they want their duration to be."
In the high-yield bond market, most issues withstood a 52-point slide in the Dow Jones industrial average to end virtually flat.
Among the day's gainers, bond of Chiquita Brands International climbed 1/4 point on news that the company filed for a public offering of 4.75 million shares of common stock. Late in the day Chiquita's 11 1/2s of 2001 were trading at 101 1/4.
