Sagging Real Estate Investments Worry Insurers

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By Peter Passell With real estate values going downhill and banks nationwide struggling to avoid being buried in the slide, anxieties are focusing on yet another group of lenders: life insurance companies.

Last week, Travelers Corp. acknowledged large losses on its real estate investments and chopped its dividend.

The news prompted worried investors to sell Travelers shares as well as those of other major life insurers with sizable holdings of real estate and ``junk bonds,'' sending their stock prices sharply lower.

Some analysts warn that troubled assets have grown so large at dozens of insurance companies that they could face the prospect of bankruptcy - especially if the economy weakens further.

But most experts believe that a wave of bankruptcies putting large numbers of policyholders at risk remains unlikely. Even a lesser crisis of confidence in the life insurance industry, however, could tighten the credit noose on many business borrowers, deepening and lengthening the now-likely recession.

``It would be disaster to lose a major source of capital,'' concludes Eden Sarfaty, the head of the National Organization of Health and Life Insurance Guarantee Associations.

Until the last decade, life insurance was the most predictable of financial industries. Much premium income was invested in bonds, mortgages and real estate, all of which were susceptible to fluctuations in value.

But the death benefits and minimum investment returns promised to policyholders were based on such conservative assumptions that honestly managed insurance companies ran little risk of being unable to pay their obligations.

But since the early 1980's, said Terry Lennon, a senior official in New York State's Department of Insurance, ``life insurers have been forced to change because other financial institutions changed.''

Banks and savings and loans were freed to pay depositors any interest rate they chose, and the competition for savers' dollars grew hotter.

Companies guaranteed higher returns to policyholders, cutting margins for investment error. Yet in an effort to maintain profits, they sank more money in riskier assets, notably bonds from less-than-blue-chip borrowers.

IDS Financial Services in Minneapolis estimates that ``junk bond'' holdings now represent 6.4 percent of life insurers' assets - a sum roughly equal to the industry's net worth.

As important, life insurers spread their nets wider in search of cash. Fixed annuities, effectively tax-deferred certificates of deposit, were marketed to tax-conscious investors. And guaranteed investment contracts - promises to pay fixed returns over periods as long as 10 years - were sold by the billions to pension funds.

Much of this new business wqs profitable. But it increased the probability that insurers would end up owing a lot of money at high interest rates, even as the income on their investments was falling.

The savings and loan industry was trapped in just such a predicament in the early 1980s. Without the sense of security conferred by federal insurance, many would have lost the confidence of depositers and been unable to attract new cash to meet old obligations.

IDS concludes that life insurers are now highly vulnerable to economy-wide shocks that raise interest rates, or force corporate borrowers into bankruptcy or undermine the value of commercial real estate.

To test the degree of vulnerability, they estimated the likely losses of each of the 100 largest companies in the event of a moderate or a severe economic downturn.

In the ``moderate loss'' scenario, 18 would be at risk of insolvency, leaving state guarantee funds to pay policyholders about $3.1 billion. The ``severe loss'' scenario predicts that 34 companies might fail, with a total loss as high as $11. …