Life Insurance Investments - Considerations that Should Govern Companies
in Making Their Investments
The investment of life-insurance funds is important chiefly because of
the fact that the companies must maintain reserves (which we have seen represent
advance collections from policy holders) for all the contracts issued on
the life and endowment plans, and that their obligations under these contracts
do not mature as a rule until the distant future. Since these reserve funds,
constituting over four-fifths of the total funds held by American companies
to-day, serve as a guarantee for the payment of claims, it is of the utmost
importance that the greatest care should be exercised to conserve them properly
against loss. This is especially true since the mission of life insurance
is a peculiarly sacred one, the insured relying upon it in the great majority
of instances as the principal means of protecting his dependents against
want. The great majority of contracts, as already noted, will run for many
years before maturing and an increasingly large number have for their purpose
the provision of a certain income for the beneficiary for life, thus in
ever so many cases involving an obligation on the part of the company which
will extend over a period of fifty or seventy-five years. Life-insurance
protection to be real must be absolutely reliable, and life-insurance funds
must, therefore, be invested with such care as to preclude during all this
time the possibility of failure on the part of companies to meet their obligations.
Almost the greatest calamity that can be imagined is the inability of a
company to meet its contracts on which the insured has paid premiums for
years and upon which he is placing dependence, and thus leave unprotected
the home which it is the fundamental purpose of life insurance to "hedge
against the loss of the earning capacity of the breadwinner.
But while the absolute security of the principal is the chief consideration
that should guide companies in making their investments, four other factors
should also be borne in mind. Briefly enumerated these are:
1. It should be the purpose of the companies so to make their investments
as to yield the largest return consistent with absolute safety. Needless
to say life-insurance investments must give a return at least equal to the
rate which has been assumed for premium and reserve computations. But this
rate is so low at present, being only 3 or 3½%., that the companies
investments may easily be made to-day to yield a higher rate and thus reduce
the cost of insurance to the policyholders who contribute the funds. To
accomplish this purpose safely investments should be so distributed, both
as regards the number and classes of investments, that the company may secure
the benefits of the law of average and have a loss in one investment balanced
by a gain in another. As a rule, adverse tendencies in one class of investments
will be equalized by favorable tendencies in another.
2. It should be the purpose of companies to invest a considerable proportion
of their funds in long-term investments. Such a course will not only lower
the expense of maintaining the investments, but is apt to secure a better
yield over long periods of time.
3. Since the companies have followed the practice of issuing contracts
which promise loan or cash surrender values upon demand by the insured,
they should protect themselves against any unusual demand of this character
by investing a fair proportion of their funds in securities which are readily
convertible into cash.
4. But with the exception of surrender values and policy loans, and the
latter we have seen are now often subjected to a sixty- or ninety-day restriction,
life-insurance companies are practically exempt from the dangers connected
with demand obligations. In this respect they differ essentially from banks
and other financial institutions which accept deposits subject to demand
and must, therefore, fortify themselves against unusual withdrawals in time
of emergency by keeping most of their funds in the form of liquid assets.
A life-insurance company chief liability, on the contrary, is for the payment
of death benefits and maturing endowments, and such payments can be estimated
with remarkable precision. Not only may life-insurance companies therefore
invest a large proportion of their funds in long-term securities but the
greater part of their investments need not be so readily salable for cash
as those held by most other financial institutions. Since their daily claims
can be estimated accurately it is also unnecessary for the companies to
keep large and unproductive cash balances on hand.
Sections in Chapter 26.