A decade ago, the UK’s life industry generated new
business exceeding outflows, a positive situation that has reversed
dramatically, throwing the industry’s in-force business into
decline. While insurers have responded with cost-cutting
strategies, there is a limit to how long this will compensate for a
dearth of new business.
Go deeper with GlobalData
When assessing growth in the life insurance industry,
premium income paints only half the picture. The other half is
painted by outflows. In the case of the UK life industry, when this
other half is added the completed picture becomes concerning. The
Financial Services Authority (FSA) has been in the forefront of
sounding this warning.
The FSA’s concern revolves around
the life insurance industry’s aggregate net business flow which it
defines as premium income less claims incurred as a percentage of
claims incurred. In 2009, net business flow stood as high as a
positive 40.5% but in subsequent years began an almost
uninterrupted decline before turning negative in 2006.
Between 2006 and 2010, net business
flow averaged a negative 23%. This five-year period included the
boom years for premium income which reached a peak in terms of new
domestic business of £92.74bn ($147bn) in 2007 according to the
Association of British Insurers (ABI). In the same year, life
premium income stood at a record 15.28% of the UK’s GDP, according
to Swiss Re.
The FSA observes that the decline
in net business flow partly reflects diminishing levels of new
long-term savings from consumers, in particular lower contributions
to pension arrangements. In part, adds the FSA, this is due to the
effect of increasing amounts of money being withdrawn through
maturities, surrenders and annuity payments not being reinvested in
insurance products.
How well do you really know your competitors?
Access the most comprehensive Company Profiles on the market, powered by GlobalData. Save hours of research. Gain competitive edge.
Thank you!
Your download email will arrive shortly
Not ready to buy yet? Download a free sample
We are confident about the unique quality of our Company Profiles. However, we want you to make the most beneficial decision for your business, so we offer a free sample that you can download by submitting the below form
By GlobalDataThe FSA stresses: “The net flow is
now very much away from the life industry and back into the hands
of consumers.”
The FSA notes that a continuation
of the current trend of net outflows will, if not countered by
appropriate strategies, eventually place upward pressure on
insurers’ unit costs and erode 
profitability. This is a reality many UK life insurers have
come to terms with, with most of the larger ones having radically
restructured their business models over the past two to three
years.
Antonello Aquino, a vice-president
and senior credit officer at rating agency Moody’s Investor
Services, explained in a recent study that new business models are
focused on maximising cash flow generation and minimising new
business capital strain. To this end, insurers have been cutting
costs and focusing on high margin products (annuities and
protection), offering lower guarantees (so-called capital-light
products) and reducing upfront commission paid to financial
advisers.
Echoing the FSA’s concern, Aquino
noted that the largest part of the cash flows generated by the life
insurance industry are from what he terms the “monetisation” of the
value of in force (VIF) business.
Aquino stressed: “The challenge for
the industry is to ensure that the new generation of capital-light
products is able to secure a solid cash flow pattern in the long
term, and replenish the VIF monetised year after year by continuing
to write appropriate levels of new business.”
Moody’s outlook for the UK life
industry is negative.
Indicative of the underlying trend
in the UK life industry, data from the ABI shows that between 2005
and 2010, total in-force individual business, including group
pension schemes, fell by almost 8%, from £75.9bn to £69.9bn.
Arguably, investors’ relatively low
expectations of the longer-term growth potential of business models
being followed by many of the UK’s largest insurers is reflected in
the rating of their shares on the London Stock Exchange. For
example, Prudential is currently trading on a historic
price-to-earnings (P:E) ratio of 9.9 and Legal & General on a
9.1 P:E. Both are below an already depressed average P:E of 10.6
for the benchmark FT100 Index as a whole.
While Aviva is afforded a far
higher 12.4P:E rating it also offers the third-highest dividend
yield of any FT100 company, namely 6.9% compared to the FT100’s
average yield of 3.3%. Similarly, while Standard Life is trading on
12.4P:E it also offers a generous dividend yield of 5.8%, the
ninth-highest of any FT100 company.
A tough sell
On paper there is an abundance of
opportunity for life insurers to write new business in the UK.
According to Swiss Re’s UK Term & Health Watch 2011
study, there is a £2.4trn life insurance protection gap in the UK,
while Datamonitor’s Financial Services Consumer Insight
Survey in June 2011 found that 56% of UK adults do not have
life cover, almost 87% of people do not have critical illness cover
and 90% do not have income protection. Notably, according to ABI
data, total protection insurance premium income almost halved
between 2000 and 2010, from £40bn to just over £20bn.
Adding further evidence of a vast
potential market for the UK life industry, research from building
society Nationwide reveals that 47% of parents in the UK do not
have life insurance cover while 76% of parents do not have any
critical illness cover in place.
In its latest Family Finances
Report, insurer Aviva estimates that the number of families
with protection insurance has fallen over the past 12 months.
Specifically, while families with
life insurance was up from 39% in January 2011 to 40% in January
2012, the number with private health insurance fell from 15% to 12%
over the same period, those with critical illness policies fell
from 13% to 12% and those with income protection was down from 11%
to 10%.
This trend is symptomatic of the harsh economic conditions
being experienced in the UK. As the FSA notes, confidence among
consumers is low and their disposable income is under pressure as a
result of high levels of household debt, low earnings inflation and
adverse investment market conditions.
In addition, unemployment in the UK
has jumped. According to the Office for National Statistics, the
unemployment rate in November 2011 stood at 8.4%, the highest level
since January 1996. This represented 2.69m people unemployed, an
increase of just over 1m since November 2007.
In its Family Finances
Report, Aviva notes that while the average net monthly income
of UK families increased by 7% since January 2011 to £2,066, the
over-55 year old segment actually saw a decline of 4% in average
income. This was against the background of retail price inflation
of 5.4% in 2011.
Also of concern was that consumer
debt increased at a significantly faster pace than incomes in 2011.
Specifically, Aviva found that the typical family debt – excluding
mortgages – increased by 48% from £5,360 in January 2011 to £7,944
in January 2012.
“This shows that families are
building on their existing debts rather than clearing them,” notes
Aviva.
In addition, Aviva found that of
the 42% of families that are saving, the average monthly amount
being saved fell from £22 in January 2011 to £21 in January
2012.
Aviva’s study also reveals that the
typical person over 55 now has £11,153 in savings and investments,
which is 27% lower than the £15,262 average in December 2010.
“This is partly because more people
have found themselves dipping into funds to top up their income in
order to meet day-to-day costs,” notes Aviva.
Among the over-55 segment Aviva
found that the average level of accumulated pension savings was a
meagre £26,940. However, on a positive note, the average house
owned by the over-55s was worth £238,284 in December 2011 while the
average amount of equity stood at £223,112.
Pointing to what could become a big
growth area for insurers, Aviva commented: “It is likely we will
see a more widespread take-up of equity release in the future.”
Time for a
rethink
For UK life insurers serious about
increasing the level of new business there is potential, it would
appear. Drawing conclusions from a recent extensive survey of UK
consumers, employers and savings industry experts, Swiss Re
believes the life industry has an opportunity to boost its new
business flows. What is now present, emphasises Swiss Re, is an
environment in which consumers, shaken by years of financial
uncertainty, are likely to be more amenable to buying protection
and savings products.
“There is a marked change in
consumer awareness,” says Russell Higginbotham, CEO of Swiss Re in
the UK and Ireland. “We should build on this and help consumers
address their uncertainty by offering straightforward advice and
simple products which consumers will consider essential and bring
them to buy financial protection and invest in pensions instead of
the latest iPhone or other gadget.”
He continues: “We need to change
the way we think about how protection is understood before we
continue pushing the same old and rather tired propositions.
“Behavioural finance suggests that
simple products would help consumers. People will not buy what they
do not understand, but increasing understanding creates more
confidence which will help people make more informed choices.”
Indicative of the change in consumer thinking, in 2009
Swiss Re found that the main reason people gave for not buying life
insurance was that they did not think they needed cover. In its
latest survey, the main responses were that they saw reducing their
debt levels as a higher priority or that it was a matter of
affordability.
Affordability – or the perception
thereof – is a significant impediment to new business generation.
In Swiss Re’s latest survey, when consumers who had not bought life
insurance were asked why, 46% said they could not afford it.
Similarly, affordability was the
main reason put forward by 47% of consumers for not buying critical
illness and by 39% for not buying income protection. Only about 10%
of consumers replied that they had not thought about buying
cover.
Highlighting the need for more
effective education of consumers on insurance matters, a recent
survey by UK insurer Standard Life revealed that 48% of consumers
do not know what an annuity is. Among the younger 35 to 44 year-old
age group, an even higher 58% said they do not know what an annuity
is. Overall, women (45%) are less likely to say they know what an
annuity is compared with men (60%).
Of consumers who said they did know
what an annuity is, 24% believe they offer poor value for money
while 32% think there are more flexible retirement options
available.
Distribution reform
looms
Consumers under financial pressure
or merely disinterested in life products are not the only problems
insurers face. They also have to contend with looming reform of
their primary distribution channel, the independent financial
adviser (IFA).
Financial advice is free, the
majority of consumers in the UK believe. From 31 December 2012
onwards, they will learn that is not the case when the FSA’s Retail
Distribution Review (RDR) comes into force bringing with it a
switch from a commission to a fee-based remuneration structure for
financial advisers. Advisers will be obliged to tell consumers
upfront how much their services cost and reach agreement on a fee.
Consumers can also opt to have the cost deducted from their
investment.
How the change will impact insurers
remains to be seen. However, in a study, consultancy Accenture
noted: “Once enacted, RDR will, at a stroke, remove commission as a
competitive lever by which life insurers can control
distribution.”
Adding uncertainty, a survey of
financial advisers conducted on behalf of Zurich Financial Services
in late-2011 found that almost half fear customers may not be
prepared to pay a fee instead of commission for financial
advice.
In an attempt to boost
professionalism in the advisory sector, the FSA has also laid down
qualification rules for advisers. To continue trading after January
2013, they will need to have obtained at the very least the diploma
for financial advisers which, according to Scottish Life, is
equivalent to the first-year of university study.
Despite the year-end 2012 deadline
looming, there is still uncertainty on a number of issues related
to the implementation of the RDR and to the impact that it will
have on the IFA distribution channel.
Indeed, in July 2011, the
parliamentary Treasury Select Committee (TSC) called for the RDR’s
implementation to be delayed for 12 months. While in full agreement
with the FSA on the abolition of commission, the TSC noted “the
current timetable for reform risks putting large numbers of
experienced financial advisers out of business”. The TSC noted that
a 12-month delay would allow more advisers to meet the new
qualification.
There is little love lost between
the TSC and the FSA. Unsurprisingly, the FSA has not budged on its
deadline for the RDR, development of which dates back to 2006 and
which it estimates will cost between £1.4bn and £1.7bn during the
first five years of its implementation.
How many IFAs will opt to leave the
industry as a result of the RDR’s introduction is unclear but
earlier fears that there would be a mass exodus appear to have been
overly pessimistic.
According to Aviva’s Adviser
Barometer study of November 2011, 89% of IFAs now say they expect
to still be in business on 1 January 2013. An earlier survey
conducted by Aviva about a year ago indicated that up to a quarter
may leave the industry when the RDR takes effect.
Ultimately the FSA is unlikely to
have anything to do with the RDR once it is implemented. Under the
Financial Services Bill due to be promulgated early in 2012,
regulation of the RDR will be the responsibility of the proposed
Financial Conduct Authority (FCA).
The FCA was the subject of a report
published by the TSC in December 2011. Commenting at the time of
its publication, TSC chairman Andrew Tyrie, a member of parliament,
left no doubts as to his opinion of the FSA.
“We need a fresh approach to
regulation,” Tyrie said. “The plain fact is that the FSA did not
succeed in protecting consumers from spectacular regulatory
failures. The mis-selling of PPI [payment protection insurance] and
endowment mortgages are just two examples.
“The FSA is not only expensive, for
which the consumer always pays, but many have told us that it has
also become bureaucratic and dominated by a box-ticking culture.
The creation of the FCA is an opportunity to create something much
better.”
Pensions
conundrum
What are not getting any better in
the UK, it appears, are retirement prospects of workers. The
defined benefit (DB) pension scheme is in terminal decline and
although this offers significant business opportunity to insurers
in the risk transfer game it offers cold comfort to workers.
The plight of the current workforce
which is largely confined to defined contribution (DC) pension
schemes is highlighted in a study by consulting actuaries Barnett
Waddingham.
According to the firm, a member of
a DB scheme who joined at age 20 and is retiring now at age 60 can
expect to receive an annual pension of £21,070, based on a national
average annual salary of £31,600. A member of a DC scheme over the
same period on an 8% contribution of salary basis can expect a
pension of £13,330.
Barnett Waddingham specifically
chose an 8% of income contribution. This is because 8% is the
minimum contribution under the new auto-enrolment rules laid down
by the Pensions Act of 2008. Specifically, workers will contribute
a minimum of 4% of their income, employers a minimum of 3% of a
worker’s income, while tax relief will add a further 1%.
Auto-enrolment of workers into
occupational DC schemes is due to begin a phasing-in process of
some 10m workers in October 2012 and be completed in 2017.
Employers can choose between their own pension scheme or the
default scheme, the National Employment Savings Trust (NEST) while
workers have the right to opt out of auto-enrolment.
Barnett Waddingham’s grim
prognostication gets worse. The firm estimates that a 20 year old
entering a DC scheme now can hope to receive an annual pension in
current money terms of only £6,440, 40 years hence.
This far lower expected pension is
the result of expected improvements in longevity (which equals
lower annuity rates) and lower expected investment returns. Even if
the member was to pay contributions for an extra five years and not
draw pension until age 65, the projected pension in today’s money
would only increase to £9,300.
Commenting on the study, Barnett
Waddingham consultant Malcolm McLean says: “These figures show the
stark reality of the pension divide between past and future
generations.”
He stresses that there is more to
the sorry story.
“I don’t think anyone should be in
doubt about the extent of the pensions crisis we are facing.
Millions of people are currently making no financial provision at
all for their old age and seemingly have neither the ability nor
the inclination to do so.”
Even auto-enrolment is unlikely to
provide a complete answer and may also be “too little too late for
many people”, says McClean.
“Everything seems to depend on a
successful outcome for auto-enrolment which in turn depends rather
unpredictably on the willingness of individuals to remain enrolled
and not opt themselves out.”
He adds: “There are no equivalent
plans, as far as I am aware, for the self-employed or those
otherwise outside of employment.”
How auto-enrolment will affect
insurers is unclear. Provided there is not an overwhelming
preference for NEST or a mass opt-out, the potential in terms of
business at least is significant. According to Aviva, 72% of family
heads are not saving through a workplace pension scheme. However,
74% of the non-savers would be happy to join a scheme if their
employer matched their savings.
“Auto-enrolment is going to mean
big changes for many families in the UK,” notes Aviva.
On the NEST option, it is notable
that life insurers do not feature among initial NEST fund managers.
The selected managers are: UBS Global Asset Management, State
Street Global Advisors UK and BlackRock UK Institutional
Business.
Indicative of the potential opt-out
rate, a survey of corporate advisers conducted by Aviva in November
2011 revealed that 20% of advisers believe that half of all
employees will opt-out, a further 59% expect an opt-out rate of up
to 30%, while only 2% expect there will be no drop out.
However, even if auto-enrolment was
to be a complete success, the inadequacy of future pensions as
reflected in Barnett Waddingham’s estimates would appear to present
a further big opportunity for the life industry in the retirement
savings arena.
Ultimately, a key determinant of
the success of auto-enrolment and the UK life industry’s broader
new business growth potential will be a resumption of solid
economic growth and rising employment and disposable income.
Chances of these drivers materialising in the immediate future
appear slim.
Ominously, the National Institute of Economic and Social
Research (NIESR) has declared the UK to be back in recession. The
economic analysis think tank forecasts that the UK’s GDP will
contract by 0.1% in 2012 and, providing the euro crisis is
resolved, recover by 2.3% in 2013. Unemployment is predicted to
rise to 9% in 2012 before easing to what the NIESR warns will still
be an economically damaging 7% in 2014.
