sigma 2/2024: Life insurance in the higher interest rate era

The surge in interest rates to 15-year highs dramatically improves the outlook for life and annuity insurance. After more than a decade of weak demand driven by low interest rates, profitability is recovering as rises in government bond yields improve investment returns and margins on life insurance products. We expect the operating result for insurers in the largest eight life markets to rise by more than 60% in the five years to 2027, as investment income rises by 40%.

In contrast, the sector missed its cost of capital by nearly 5ppts per year on average in the post-global financial crisis decade. Life insurance stock market indices, a forward-looking proxy for profitability expectations, are now outperforming wider markets as investors recognise the benefit of higher rates. Long-duration business should see the greatest profitability gain in the long term, given compound interest.

Low interest rates made life savings products less attractive. Real premium growth for saving business fell below global economic growth in the decade after the global financial crisis, to just 1.1% annually on average. Today, consumers are moving quickly to buy life products that will secure them higher retirement incomes. We anticipate strong, annuity-driven growth in the life savings market as the interest rate reset makes savings products more attractive. US fixed annuity sales will likely reach a new record again this year, after sales in 2023 were more than twice as high as in any other year before 2022.

The demand boost should help to mobilise the huge private savings needed to narrow the retirement savings gap between current pension assets and the amount populations need to securely fund retirements. We estimate the retirement savings gap for six advanced economies, China and India, at USD 106 trillion in 2022 values.

After only USD 300 billion of premium growth in the entire decade 2010–2019, we predict life insurers will gain USD 1.5 trillion of savings premiums in the 10 years from 2025, to reach USD 4 trillion savings premiums by 2034.

Rising interest rates transformed the competitive and operational environment for life insurers from a low growth, low profitability business to one of higher growth and higher returns, especially for asset-intensive business. As a result, the life industry is shifting from returning excess capital to shareholders to a mode of needing sustainable capital growth to support the growth in asset and biometric risks.

In the low-interest rate years from 2009 until rapid monetary tightening in 2022, stock insurers pivoted into capital-light products and used reinsurance transactions to divest their legacy liabilities. Private equity (PE) firms acquired many of these legacy annuity book assets, recognising that low interest rates created an opening for asset managers to generate outperformance from life and annuity portfolios by investing in higher-yielding illiquid and private assets.

PE-owned insurers’ acquisitions gave them stable funding to develop their investment operations and grow their assets under management (AUM) and earnings. For some, insurance assets are now a large share of their total AUM. We estimate that more than USD 1 trillion of life assets have transferred to PE-owned insurers globally since 2009. They own roughly 25% of US individual annuity liabilities and are growing in markets such as Japan.

However, PE-owned insurers face increasing competition from insurer-owned asset managers, as insurers expand their own asset management capabilities, which have benefited from the rise in unit-linked business. We expect further expansion and competition in asset management, with more hybrid product launches.