With the U.S. population growing older and baby boomers hitting retirement age, life settlement plans are likely to see a boost in the coming years. These plans allow life insurance policyholders to sell their existing policies on a secondary market for a negotiated cash amount that is more than the cash value of the policy but less than the net death benefit. This has industry participants forecasting substantial growth in the sector and searching for opportunities to expand their platforms, even into in the capital markets.
The estimated life settlement potential is $90 billion to $140 billion per year between 2007 and 2016, according to data from Conning Research cited in a Legacy Benefits presentation for Houlihan Lokey in April.
And this trend could become increasingly relevant as the U.S. population ages. In 2020, there will be an estimated 30 million in the 65- to 74-year-old age group, 20 million in the 75- to 84-year-old age group, 3 million in the 85- to 99-year-old age group and a small number in the 100-years-and-older age group, according to a National Institute on Aging report, which cited data from the United States Census Bureau.
Late last month, Legacy Benefits hired Mark Hirshorn, previously director of U.S. securitization at Fortis Securities, to head its capital market efforts. Hirshorn will develop and market life settlement-based products and structures while establishing relationships with clients, the firm said.
"We have hired a very qualified professional as our director of capital markets to pave the way on the capital markets front and leverage our ability to aggregate these policies," said Zohar Elhanani, chief operating officer at Legacy. "This year we expect that our firm will underwrite policies with about $20 billion in death benefits."
In 2004, Legacy Benefits Corp. was the first life settlement provider to originate and securitize a portfolio of life settlement assets totaling $70 million, underwritten by Merrill Lynch and rated âA1'/âBaa3' by Moody's Investor Service. The weighted average age of the policyholders was 77.
"This was a big accomplishment because the rating agencies were very cautious about how to rate such an asset class," Elhanani said. "There was also the question of what the collateral was valued at in order to generate the right type of rating."
To hedge the mortality risk, Legacy partnered with Merrill Lynch to buy an annuity against each life settlement policy that it had purchased. The annuities generated the cash flows needed to pay the interest costs as well as the premiums, keeping the policy in force for as long as that person was alive.
"It kept the structure whole and we were able to aggregate enough policies in spite of having to pay more for the annuity and the purchase price for the asset itself, as the market was less competitive than it is today," Elhanani said. He noted that the transaction was rapidly accepted by institutional investors.
Mixing It Up
Since then, the industry has really been looking to securitize these assets but also eliminate the need for the hedge from annuities by increasing the size and diversification of the pools. For example, any potential deal now would have a much larger pool with many more lives. It would also be more diversified among age groups, among smokers and nonsmokers, among females and males, and among other groups.
But given the current market conditions, the rating agencies have taken a hands-off approach. Partly this is because of a 2005 deal gone awry with Ritchie Capital Management. The firm had agreed to buy life insurance products from Coventry One but later sued the company for trying to conceal unlawful conduct and accusing the firm of bid rigging and fraud. This was after a yearlong investigation into the life settlement industry by former New York Governor Eliot Spitzer when he was the state's attorney general, a probe that led to charges against Coventry of bid rigging and accepting commissions to reduce the amount owners received for their policies.
However, in a highly risk-averse market desperate for liquidity, life settlement deals might be just the medicine.
"In the future, we feel that this asset has tremendous appeal to the investment community given the fact that it is noncorrelated," Elhanani said. This is in part due to the fact that the asset value of the portfolios and their cash flows are based on mortality curves and actuarial calculations rather than on any direct macroeconomic impact. "The fact that oil prices are going up doesn't really affect this asset class," he said.
The life settlement payment is calculated based on the person's life expectancy, estimated premiums to keep the life insurance policy in place and the amount of the policy, among other factors.
Elhanani noted that his firm is being contacted by many institutional investors, including CDO fund managers, who are looking to build a diversified pool of assets that don't have direct correlation to the market, and so they are considering the addition of life settlements to their portfolios.
Legacy Benefits is also considering establishing a fund and other financial products that have longevity risk elements. "We know how to buy; we need to further expand our market to reach the investment community interested in this asset class," Elhanani said.
The company is currently licensed in 29 states and focuses on purchasing insurance from higher-net-worth individuals with policies averaging $2 million in death benefits. The largest business volume comes from big states such as New York, California and Texas.
In January, Mofet Holdings made a strategic investment in Legacy Benefits, buying a 50% stake in the company. (Mofet, like its parent company Kamen Holdings, is a public company in Israel.) The capital infusion will be used to expand the breadth of the settlement plans that Legacy currently purchases.
At the time of the investment announcement, Meir Eliav, founder and president of Legacy, said that purchasing life insurance policy portfolios or blocks is more attractive from an investor standpoint than individual policies. "Investors are recognizing that the purchase of a block of policies minimizes ramp-up and immediately generates fully realized returns because the portfolio purchasing process is completed in a short time frame. Therefore, the acquisition of a quality portfolio generates a significant premium," he said.
Eliav is also a founding member and past president of the Life Settlement Association, formerly the Viatical and Life Settlement Association of America.
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