Uncertain cycle of life assurance

LIFE insurance companies are supposed to project a warm glow of security. The industry would like us to think of it as a comforting presence in the background of our lives, ready to pay out our pensions and protect our families if we pop off prematurely.

But now many of the companies themselves are looking distinctly insecure.

The FT life assurers' index has almost halved since the start of last year as fears have steadily grown over their solvency. Companies face a raft of problems. At the root of their difficulty is a simple financial imbalance: liabilities are growing because the population is living longer, while assets are falling because of two years of slumping stock markets.

At the same time, the industry is facing the threat of a strict clampdown by regulators. The Financial Services Authority is understandably anxious about the sector after the Equitable Life disaster. It is watching insurers like a hawk.

Long-standing consumer concerns over the lack of transparency and high charges in with-profit products are also coming to a head. A Treasury-sponsored review by former Lloyd's boss Ron Sandler is expected next month and the industry is fearing draconian measures.

Some of the best-known names in the business are now in a worrying state. Most of the anxieties centre on Royal & SunAlliance, which has moved into general insurance but still has a large life business. Two of its funds, the £11bn RSA Life and Pensions and the £9bn SunAlliance and London are among the worst capitalised life funds in the UK.

Abbey National faces deep-seated difficulties in its Scottish Mutual life arm, which has £300m of exposure to guaranteed annuity rate (GAR) policies. It has been forced to pump in another £150m of cash to bolster capital ratios. Friends Provident is also laden with GAR liabilities.

Even the most respected names are not immune. CGNU, which now wants to be known as Aviva, is the owner of the Norwich Union brand and Britain's biggest insurer. Analysts at Schroder SSB reckon its funds 'do not look particularly strong'.

Thankfully, at least the Prudential appears to have lived up to its name and to have kept a strong cushion of capital. Legal and General's umbrella is not leaking yet, either.

One of the ironies of the situation is that, in the Alice-in-Wonderland world that is life assurance accounting, the supposed remedies actually seem to make the problem worse.

Forcing life assurers to switch more of their assets from shares to bonds to meet regulatory capital requirements, for example, could drive equity values down further, requiring them to switch more of their assets ... you get the picture. The weaker companies are terrified of sparking off a self-fulfilling prophecy of doom, and are making light of their woes.

Analysts are not expecting a whole string of Equitable-style disasters. But the truth is that no one really knows whether some of the weaker insurers are solvent or not.

Solvency calculations are based on a whole set of assumptions about the future that may turn out to be wildly off the mark. To make matters worse, companies facing financial strain use cunning accounting ploys, such as counting future profits as today's capital.

Investors without an actuarial qualification - and the time to pore over 300 page long regulatory returns - have little hope of getting a realistic picture.

German dramatist Bertolt Brecht said that when prayer doesn't work, insurance is a comfort. It's time for the insurers to start praying.