Insurance Industry
Statutory analysis highlights
weakening capital trends
Darin C Arita, CFA
Research Analyst
(+1) 212 250-7321
darin.c.arita@db.com
Valerie Zhang, CFA
Research Associate
( ) 212 250-2861
valerie.zhang@db.com
Valuations remain low, but caution is still warranted
Life insurance stocks have rallied 80% on average from their November 20 lows,
but capitalization of the companies remains under pressure. Regulatory capital
levels are moving lower as operating earnings are declining and investment losses
are increasing. In addition, capital ratios are also under pressure from variable
annuity equity market guarantee exposures. Life insurers that have less equity
market exposure and stronger investment portfolios have faired better.
Deutsche Bank Securities Inc.
All prices are those current at the end of the previous trading session unless otherwise indicated. Prices are sourced from local
exchanges via Reuters, Bloomberg and other vendors. Data is sourced from Deutsche Bank and subject companies. Deutsche
Bank does and seeks to do business with companies covered in its research reports. Thus, investors should be aware that the firm
may have a conflict of interest that could affect the objectivity of this report. Investors should consider this report as only a single
factor in making their investment decision. Independent, third-party research (IR) on certain companies covered by DBSI's research
is available to customers of DBSI in the United States at no cost. Customers can access IR at
http://gm.db.com/IndependentResearch or by calling 1-877-208-6300. DISCLOSURES AND ANALYST CERTIFICATIONS ARE
LOCATED IN APPENDIX 1.
Industry Update
Top picks
Aflac Incorporated (AFL.N),USD42.12 Buy
Companies featured
Aflac Incorporated (AFL.N),USD42.12 Buy
Aflac Incorporated (AFL.N),USD42.12Buy
2007A 2008E 2009E
EPS (USD) 3.27 3.93 4.35
P/E (x) 16.3 10.7 9.7
Genworth Financial (GNW.N),USD2.55 Buy
Genworth Financial (GNW.N),USD2.55Buy
2007A 2008E 2009E
EPS (USD) 3.07 1.96 1.50
P/E (x) 10.4 1.3 1.7
Hartford Financial Services (HIG.N),USD14.97 Buy
Hartford Financial Services (HIG.N),USD14.97 Buy
2007A 2008E 2009E
EPS (USD) 10.99 4.70 5.95
P/E (x) 8.7 3.2 2.5
Lincoln National (LNC.N),USD17.03 Hold
Lincoln National (LNC.N),USD17.03Hold
2007A 2008E 2009E
EPS (USD) 5.15 4.95 5.05
P/E (x) 12.8 3.4 3.4
MetLife (MET.N),USD30.09 Hold
MetLife (MET.N),USD30.09 Hold
2007A 2008E 2009E
EPS (USD) 6.25 3.80 3.65
P/E (x) 10.4 7.9 8.2
Nationwide Financial Servic (NFS.N),USD51.39
Nationwide Financial Servic (NFS.N),USD51.39 Hold
2007A 2008E 2009E
EPS (USD) 4.78 2.73 4.05
P/E (x) 11.4 18.8 12.7
Protective Life (PL.N),USD9.42 Hold
Protective Life (PL.N),USD9.42 Hold
2007A 2008E 2009E
EPS (USD) 3.99 3.37 4.05
P/E (x) 11.3 2.8 2.3
Prudential Financial (PRU.N),USD27.28 Hold
Prudential Financial (PRU.N),USD27.28Hold
2007A 2008E 2009E
EPS (USD) 7.31 3.30 5.50
P/E (x) 12.8 8.3 5.0
Unum (UNM.N),USD14.76 Hold
Unum (UNM.N),USD14.76 Hold
2007A 2008E 2009E
EPS (USD) 2.20 2.50 2.50
P/E (x) 11.0 5.9 5.9
Global Markets Research Company
Recent investor days have helped
The investor days by the life insurers have provided some clarity and comfort on
capital strength; however, how the companies calculate their regulatory capital
ratios and excess capital positions is still opaque. It appears that life insurers with
variable annuity equity market guarantees should be able to weather the S&P 500
declining to 700, but should the equity markets fall below that level their regulatory
capital ratios could decline dramatically.
Statutory capital declining more than GAAP capital
We analyzed the statutory financial trends of the life insurers. Statutory operating
earnings and realized investment losses are following the similar story of
worsening that the GAAP results have experienced. Statutory capital levels,
however, have weakened much more than GAAP capital, and this has likely
continued in the fourth quarter of 2008. It is important to monitor this trend,
because the rating agencies and regulators pay more attention to statutory capital
than GAAP capital.
Many helpful charts and tables
Our report contains the following tables: historical statutory results including
annual results from 2001 to 2007, quarterly results over the past eight quarters,
organization charts illustrating the statutory entities, and statutory dividend
rules/capacity.
Aflac remains our Best Idea
Aflac has generated consistent statutory earnings, and it should be able to sustain
double-digit EPS growth even in this challenging environment. The company does
not have exposure to equity market guarantees, and its investment portfolio has
no exposure to subprime and Alt-A, and just $100 million of exposure to
commercial mortgages. Actions by governments around the world to bolster the
financial system and to limit damage to debt investors in financial companies
should also help.
Valuation and risks
Our target prices are based primarily on price-to-book multiples relative to
expected ROEs. We further discounted the valuations for those companies that
have thin excess capital margins and/or significant exposure to equity market
guarantees in variable annuities. Downside risks include further deterioration in the
equity and credit markets, rating agency downgrades, and the potential for
additional capital raises and dividend cuts. Upside risks include an equity market
rally, credit spreads narrowing, the US government providing capital to the
industry, easing of rules by insurance regulators, and improved disclosure.

This report analyzes the statutory financial trends of the life insurance companies. In an
environment where concerns about capital and financial strength ratings are heightened, it
becomes even more important to look at the statutory financial statements in addition to the
GAAP results. The rating agencies focus on statutory earnings and capital to develop their
ratings, and the insurance regulators use statutory results to dictate the amount of dividends
the insurance companies can pay to their parent companies.
Rating risk rather than solvency risk. Although the trend of statutory earnings and capital is
negative, we believe the risk with the insurers is the potential for ratings downgrades rather
than insolvencies. Management teams have taken steps to bolster the capital positions of
their insurance companies in an effort to preserve their financial strength ratings.
Nevertheless, we expect rating agencies to remain cautious as investment losses continue
and the equity market remains weak. The rating agencies, in our view, have yet to factor in
the capital pressure from variable annuity equity market guarantees in their rating analyses. If
for some reason the rating agencies downgrade the ratings, there do not appear to be any
ratings-based triggers for the life insurers we cover that would create a liquidity crisis.
The stocks, however, are likely to remain volatile. We expect the life insurance stocks to
fluctuate with the credit and equity markets in the near term. Long-term investors might be
able close their eyes, buy a basket of these stocks at these levels, and do well, as many of
the stocks are trading at or close to trough multiples. In the near-term, however, we believe
the life insurance stocks have greater risk to the downside than the upside as economic
conditions remain challenging. In addition, the stocks have rallied 80% from their November
20 lows, compared with a 17% increase in the S&P 500, suggesting that the stocks have
largely priced in some capital relief from the insurance regulators and capital injections by the
US Treasury. We would note that Canadian life insurance stocks and US bank stocks have
had a limited lasting positive effect after announcements of regulatory capital relief or
injections of government money as illustrated in Figure 2.