Nature and Merits of the Various Types of Investments

Having enumerated the several classes of life-insurance investments we may next pass to a more detailed discussion of their nature and relative merits. For this purpose the several types of assets may be considered conveniently in the order of their importance:

Bond investments. These are principally of two kinds, viz, the bonds of standard railroad companies and government, state, and municipal bonds. Standard railroad bonds not only meet the requirements of safety, but usually run for long periods, yield a fair return, are readily convertible into cash, and in most instances, although subject to considerable market fluctuations, show a tendency to increase in value in the course of years. To ascertain the security of such bond issues it is necessary to examine the reports of railroads for a series of years with a view to noting the increase or decrease of gross earnings, the nature, stability and future prospects of this traffic, the expenditures for maintenance and improvements to keep the property in the best working condition, and the extent and stability of the net earnings as measured from the standpoint of the requirements of the particular bond issue under consideration. The utmost care is exercised to select only such issues as are fortified, judging the matter from the standpoint of a series of years, with a big margin of safety as regards net earnings. Bonds of public utility enterprises and of industrial corporations are not regarded with much favor by the conservative companies. The first, as a rule, depend too much upon legislative franchises and are therefore subject to political attacks; while the latter are too dependent upon good personal management and too severely affected by business depressions.

State, municipal, county, township and school district bonds are regarded by many writers on the subject as constituting probably the best class of life-insurance investments., Although the issues are frequently not large, the companies often succeed in securing all or nearly all of the issue when it is offered for competitive bids. The interest yield is, as a rule, somewhat higher than that obtained on good railroad bonds and the issues usually run for considerable periods of time. Most of the issues, however, are not listed and therefore, although having the advantage of being comparatively free from market fluctuations, are not so readily converted into cash as listed bonds. But, as has been seen, a life-insurance company is not under the necessity of having. a very large proportion of its resources in the form of liquid assets. It may, therefore, supplement its holdings of railroad bonds with a considerable line of municipal and other public bonds. The attractiveness of railroad and government bonds to insurance companies is indicated by the fact that, whereas such investments aggregated only about 22%, of the total assets of the companies in 1890, this%age had increased to 40.8%, in 1913. An examination of the assets of some of the largest companies doing a foreign business also shows a liberal holding of low interest-bearing foreign government bonds, a fact chiefly attributable to the laws of certain countries which require insurance companies, if they wish to transact business there, to invest a certain proportion of the reserve value of policies in securities of that country.

Real-estate mortgages. This type of asset represents over one-third of the total assets of life-insurance companies. Such investments, when carefully placed and when restricted to desirable classes of property, constitute a safe and excellent investment for life-insurance funds. They yield a better return than do standard railroad bonds, and are not subject to such frequent market fluctuations as listed securities. Usually the states limit such investments to one-half the appraised value of the property given as security. Most of the companies also follow the practice of confining such loans to improved property, i.e. ordinary residences, cultivated farms, and business properties which yield a satisfactory income and are available for general use. Properties devoted to special uses, such as hotels, theaters, churches, factories, expensive residences, etc., are generally excluded. While possessing the advantage of a high interest yield combined with great safety, real-estate mortgage investments require special supervision and a considerable outlay in the form of investment expenses. As previously noted, many of the companies possess a real-estate loan department which is charged with the responsibility of keeping the mortgaged premises under observation and of seeing that the buildings are kept in proper repair and that all taxes are paid. Care must also be exercised in ascertaining the completeness of the title to the mortgaged premises, and any other mortgages and incumbrances that may stand against the property.

Premium notes and policy loans. The nature and remarkable growth of such loans have already been discussed,3 and need not again be referred to at length. They represent advances to the policyholder, the policy itself being assigned to the company as security. Since such loans are limited to the reserve value of the policies, and in many instances to less, they are really advances against cash deposits made by the insured to the company, and are, therefore, absolutely safe. Usually 5 or 6%, interest is charged on the loans and the insured usually has the right to repay the loan at will or to continue the same indefinitely. Should a policy on which a loan has been made be surrendered or lapsed the company deducts the total indebtedness from the surrender value.

Real-estate holdings. Such holdings include all property that has come to the companies by way of foreclosure proceedings on mortgages held or which is required for the convenient conduct of their business. The ratio of such holdings to the total assets of the companies is to-day only 3.5%, although in 1910 the ratio stood as high as 10%. Serious abuses were at one time connected with this form of investment, such as, for example, the construction of large office buildings chiefly for advertising purposes but which yielded on the investment even much less than the assumed rate of interest, and the renting of quarters in said buildings to interested parties for long periods of time at nominal rents. To prevent such abuses many of the states have enacted laws which restrict real-estate investments to property necessary for the convenient conduct of business, and which require that such property as may be acquired through the foreclosure of mortgages must be sold within a stipulated number of years.

Stock investments. This form of investment has been the subject of much adverse criticism during recent years, and the ratio of corporate stocks to the entire assets of the companies was only 1.8%, at the close of 1913 as compared with nearly 6%, in 1900. Not only did some of the companies, although not obliged by law to omit such investments, advertise the fact that none of their assets were invested in stocks, but the states are showing a distinct disposition to enact legislation prohibiting the investment of life-insurance funds in such securities, or in loans whose collateral consists of stock to one-third or more of its value. Various considerations have led to this type of legislation. Life-insurance funds are considered as trust funds and should, therefore, not be invested in speculative securities. The New York insurance investigation of 1906 also showed clearly that, if insurance companies are allowed to invest in stocks, it becomes possible for some of their officials to organize and finance banks, trust companies and other corporations for purposes of private gain. It is also argued that stock ownership amounts to engaging in the business of the corporation whose stock is held, and-in this respect it should be noted that much of the stock owned by life-insurance companies consisted of bank and trust company stocks, the amounts held being frequently so large as to give the company control over said banks or trust .companies or at least a heavy representation on their boards of directors. This situation various legislatures considered highly undesirable. Life-insurance companies, it was felt, are organized to write insurance and not to engage (by virtue of stock control) in banking, railroading, and other business enterprises.

Cash in offices and banks. Although amounting in 1890 to over 4%, of the total assets, this item had decreased to 1.6%, in 1913. This item at one time also lent itself to much abuse on the part of certain companies which kept large sums on deposit in certain financial institutions with which their officers were affiliated at a rate much below that assumed for premium and reserve computations. The balances at present are not disproportionate to the amounts usually kept on hand in most other lines of business. The business of life insurance, we have seen, is so certain in its financial operations that it is unnecessary for companies to retain large sums in cash. It should, therefore, be the policy of a well managed company to avoid large cash balances by investing promptly its net income.

Unpaid and deferred premiums. The proportion of assets invested in this form was only 1.4%, at the close of 1913. Very few businesses, it has been asserted, "carry so little in uncollected accounts".

Collateral loans. Generally speaking, these loans are not favored by the companies and to-day represent the very small ratio of only A%. Such loans are much better adapted to commercial banks than to investment institutions which make a specialty of investing in bonds and real-estate mortgages. They seldom run for more than a year and in many instances for only six months, require frequent renewal, and necessitate an adjustment of the interest to meet current rates. The collateral required usually consists of approved railroad bonds and standard dividend-paying stocks with a current value 20%, in excess of the amount loaned.