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How MetLife and AIG Can Make Up for Hedge-Fund Losses

MARKETWATCH 1:50 PM ET 5/5/2016

Symbol Last Price Change
MET 42.62up -0.92 (-2.11%)
QUOTES AS OF 01:50:12 PM ET 05/05/2016

For insurance companies, higher rates can't come soon enough. But simply waiting for them to arrive doesn't constitute a strategy.

Years of rock-bottom rates have suppressed the investment returns available to insurers. That has pushed them to take on additional risk by allocating more capital to alternative investments like hedge funds.

Unfortunately, that strategy isn't bearing much fruit. This week, quarterly results from two of the biggest U.S. insurers reflected poor returns (http://www.wsj.com/articles/weaker-investment-income-stings-insurers-results- 1462396729) from alternative investments.

At AIG(AIG), first-quarter operating income fell by 54% from a year earlier. The company blamed most of that decline on market losses, which AIG chief Peter Hancock said were largely due to hedge funds. Earlier this year, he had said the company had "a very negative experience" (http://blogs.wsj.com/moneybeat/2016/02/12/aig-plans-to-move-billions-out-of- its-hedge-fund-investments/) in hedge funds in recent years.

MetLife (MET) reported a 19% decline in first-quarter operating income. This was partly due to weak performance in its alternative-assets portfolio, which includes private equity and hedge funds.

Both companies have announced plans to reduce their hedge-fund holdings. AIG said it would cut its exposure in half, to $5.5 billion by the end of 2017 from $11 billion at the end of last year. MetLife(MET) said it would lower its holdings by two-thirds (http://blogs.wsj.com/moneybeat/2016/05/05/metlife-joins-aig-in-scaling-way-back-on-hedge-funds/) in around two years, to just $600 million.

If taking on more risk doesn't work, what are insurers to do? One of the few available levers is to cut costs. As MetLife(MET) chief Steven Kandarian said on his company's earnings call Thursday, "We must focus on what we can control...we must address our cost structure."

But MetLife's(MET) strategy to achieve this is unclear. The planned spinoff of its retail business will raise costs for both units by sacrificing economies of scale. Mr. Kandarian said the two companies will eventually have a lower cost base than the combined company does today, but didn't offer specifics.

AIG, which has been under pressure from activist investors to improve returns, is making progress on costs. In an otherwise dispiriting quarter, one the few positives the company highlighted was that operating expenses were down 5% from a year earlier.

That is welcome, but insufficient. If they are giving up on earning higher returns through alternative investments, insurers have no choice but to tighten their belts even more.

It is a case of them having to make hay even when the interest-rate sun isn't shining.

-Aaron Back; 415-439-6400; [e-mail]


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05-05-161350ET
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