for the Life Insurance Industry New York, NY November 6, 2009

Thriving in an Economic Downturn: What Lies Ahead? 20 th Annual lexecutive Conference for the Life Insurance Industry New York, NY November 6, 2009 Steven N. Weisbart, Ph.D., CLU, Senior Vice President and Chief Economist Insurance Information Institute 110 William Street New York, NY 10038 Tel: (212) 346-5540 Cell: (917) 494-5945 stevenw@iii.org www.iii.org

Presentation Outline Isn t the Downturn Over? The Housing Market: Still a Source of Downward Pressure A Full-employment Economy? It s Many Years Away Interest and Inflation Rate Expectations The New Financial Anxiety Individual Life Insurance: Status Report Sales, Lapse, Policy Loan Trends A Financial Security Budget Target? Q & A

Wait a Minute: Isn t the Downturn Over?

8% Real Quarterly GDP Changes (annualized), 2005:Q3-2010:Q4F Q Red bars are actual; Yellow bars are forecasts/estimates Spike due almost entirely to the weak dollar (growing exports and slowing imports) 6% 5.4 4% 4% 2% 0% 3.1% 2.1% 1.4 4% 0.1% 3.0% 1.2% 3.2% 3.6% 2.1% 1.5 5% 3.5% 2.4% 2.6% 2.7% 2.8% 2.9% -2%.7% -0..7% -0. -4% -6% -8% The Q1:2009 decline was the steepest t since the Q1:1982 drop of 6.4% -2.7% -5.4% -6.4% 05 5:3Q 05 5:4Q 06 6:1Q 06 6:2Q 06 6:3Q 06 6:4Q 07 7:1Q 07 7:2Q 07 7:3Q Sources: US Department of Commerce, Bureau of Economic Analysis (actual) at http://www.bea.gov/newsreleases/national/gdp/gdpnewsrelease.htm Blue Chip Economic Indicators 10/09 issue (forecasts). 07 7:4Q 08 8:1Q 08 8:2Q 08 8:3Q 08 8:Q4 09 9:1Q 09 9:2Q 09 9:3Q 09 9:4Q 10 0:1Q 10 0:2Q 10 0:3Q 10 0:4Q

Total Industrial Production, monthly Mar 2001-Sept 2009 (Index 2002=100)* Index 113 110 March 2001- November 2001 recession Recession began December 2007 Hurricane 107 Katrina 104 101 98 Industrial production turned up in July 95 Jun 09 Mar 01 Jun 01 Sep 01 Dec 01 Mar 02 Jun 02 Sep 02 Dec 02 Mar 03 Jun 03 Sep 03 Dec 03 Mar 04 Jun 04 Sep 04 Dec 04 Mar 05 Jun 05 Sep 05 Dec 05 Mar 06 Jun 06 Sep 06 Dec 06 Mar 07 Jun 07 Sep 07 Dec 07 Mar 08 Jun 08 Sep 08 Dec 08 Mar 09 Sep 09 Source: http://www.federalreserve.gov/releases/g17/ipdisk/ip_sa.txt. *seasonally adjusted 5

U.S. Nonfarm Private Employment, Monthly, Nov. 2007 Sept. 2009 Millions 138.5 138.0 137.5 137.0 136.5 136.0 135.5 135.0 134.5 134.0 133.5 133.0 132.5 132.0 131.5 131.0 130.5 130.0 138.0 Nov 07 138.1 1 Dec 07 138.0 Jan 08 137.9 Feb 08 137.8 Mar 08 137.8 Apr 08 137.7 7 May 08 Employment peak; recession starts 137.6 June 08 137.6 Jul 08 137.4 Aug 08 137.0 Sep 08 136.7 Seasonally adjusted. Source: US Bureau of Labor Statistics Oct 08 13 36.2 Nov 08 135.1 Dec 08 134.3 Jan 09.7 133 Feb 09 133.0 Mar 09 Job loss is slowing. Only 263,000 jobs lost in September 132.5 Apr 09 132.2 May 09 131 1.7 Jun 09 131.4 Jul 09 131.2 Aug 09 130.9 Sep 09

But Problems Remain Housing is Still a Source of fdownward dpressure

High Ratio of Unsold-Homes Inventory to Sales Will Likely Keep Prices Falling Millions of Homes, Annual Rate 8 7 6 7.1 6.5 Inventory of unsold homes # of house sales fell; inventory was roughly constant number of homes sold # of house sales is slightly higher 5 4 3 2 2.8 3.5 4..0 5.7 3.7 4.9 3.6 4.49 3.8 4.71 3.6 4.55 9 4.66 3. 3.9 4.72 3.8 4.89 4.1 5.24 3.6 5.10 1 0 05 06 07 08 Jan n-09 Feb 09 Mar 09 Apr 09 May 09 Jun 09 Jul 09 Aug 09 Source: http://www.realtor.org/research/research/ehsdata

Index* 210 Many People s Main Asset (Their Home) Has Lost 6 Years of Appreciation 200 Home prices in July 2009 190 were about equal to August 2003 180 170 160 150 140 130 120 110 100 Jan n-00 Jan n-01 Jan n-02 Jan n-03 Jan n-04 Current recession began in Dec 07 July 2009 index value was 144.23: home prices were 30% below their July 2006 peak *Case-Shiller Home Price Index (20-city composite); January 2000=100. Not seasonally adjusted Source: http://www2.standardandpoors.com/spf/pdf/index/cshomeprice_history_072820.xls Jan n-05 Jan n-06 Jan n-07 Jan n-08 Jan n-09

Shadow Inventory of Unsold Homes: It s Worse Than You Think Zillow.com s latest Homeowner Confidence Survey (published August 18, 2009) asked homeowners how likely they would put their homes on the market if they saw signs of a turnaround in the next 12 months: Very likely, 8% (7.5 million homes) Likely, 9% (7.5 million homes) But Adam York, economist for Wells Fargo Securities, contends that t the amount of homes that t have not yet been listed for sale could be around 4-5 million. Source: http://zillow.mediaroom.com/index.php?s=173

Millions More Foreclosures are Likely [A]ny modification program seeking to avoid preventable foreclosures has limits, HAMP included. Even before the current crisis, when home prices were climbing, there were still many hundreds of thousands of foreclosures. Therefore, even if HAMP is a total success, we should still expect millions of foreclosures, as President Obama noted when he launched the program in February. Source: Treasury Assistant Secretary for Financial Institutions Michael S. Barr, Written Testimony on Stabilizing the Housing Market before the House Financial Services Committee, Subcommittee on Housing and Community Opportunity (emphasis added)

At Midyear 2009, Over 40% of Subprime Loans Were Delinquent or in Foreclosure (2005:Q1-2009:Q2) 2009:Q2)

The Percent of Delinquent Prime Loans and Prime Loans in Foreclosure Is Still Rising Sharply (2005:Q1-2009:Q2) 2009 Q2)

Fewer People/ Organizations are Borrowing

Households and Businesses Are Still Deleveraging g Percent Change in Debt Growth (Quarterly since 2004 at Annualized Rate) 16% Home Mortgage Consumer Credit Business Corporate 12% Corporate deleveraging 8% 4% 0% -4% Consumer desperation? Personal (mortgage) dl deleveraging -8% 2004 4:Q1 2004 4:Q2 2004 4:Q3 2004 4:Q4 2005 5:Q1 2005 5:Q2 2005 5:Q3 2005 5:Q4 2006 6:Q1 2006 6:Q2 2006 6:Q3 2006 6:Q4 2007 7:Q1 2007 7:Q2 2007 7:Q3 2007 7:Q4 2008 8:Q1 2008 8:Q2 2008 8:Q3 2008 8:Q4 2009 9:Q1 2009 9:Q2 Source: Federal Reserve Board, at http://www.federalreserve.gov/releases/z1/current/z1r-2.pdf

A Full-Employment Economy is Still Many Years Away

Unemployment and Underemployment Rates: Rocketing Up in 2008-9 January 2000 through September 2009, seasonally adjusted Percent Traditional Unemployment Rate U-3 18 Unemployment + Underemployment Rate U-6 16 14 12 10 8 6 4 2 Jan-0 00 9.8% Sept. 2009 unemployment rate (U-3) was the highest monthly rate since 1983. Peak rate in the last 30 years: 10.8% in Nov-Dec 1982. Jan-0 01 Jan-0 02 Jan-0 03 Jan-0 04 Jan-0 05 U-6 went from 9.2% in April 2008 to 17.0% in Sept. 2009 Jan-0 06 Source: US Bureau of Labor Statistics; Insurance Information Institute. Jan-0 07 Jan-0 08 Jan-0 09

U.S. Unemployment Rate Forecasts Quarterly, 2009:Q4 to 2010:Q4 10.5% 10.0% 10.1% 10.0% 99% 9.9% 10.3% 10.3% 10.3% 10.1% 10.1% 9.8% 9.8% 10.2% 9.5% 9.6% 9.6% 9.0% 8.5% Unemployment tis now expected dto peak in late 2009:Q4 or 2010:Q1. 9.2% 8.9% 09:Q4 10:Q1 10:Q2 10:Q3 10:Q4 10 most pessimistic consensus/midpoint 10 most optimistic Sources: Blue Chip Economic Indicators (10/09); Insurance Info. Inst.

When Might All of the Lost Jobs Be Regained? 2016? Source: Wall Street Journal, October 9, 2009, p. A3

Interest Rates Will Likely Stay Low for the Foreseeable Future

2009-2010 Inflation Forecast: Low Rates Ahead 6% Following Average inflation rate, 1992-2007: 2.67% 4.9% 5.1% July 1990-5% March 1991 Following March recession 2001-November 4% 3% 2% 1% 3.0% 3.2% 2.9% 2.8% 2.4% 2.6% 19% 1.9% 1.5% 3.3% 3.4% 2001 recession 1.3% 3.8% 3.8% 3.0% 2.8% 2.5% 2.3% 19% 1.9% 0% -1% -0.5% 90 91 92 93 94 95 96 97 98 99 00 01 02 03 04 05 06 07 08 09F10F Sources: US Bureau of Labor Statistics (actual, blue bars); Blue Chip Economic Indicators, 10/2009 issue, (forecasts, yellow bars)

Theory: Re-ignited Inflation Won t Threaten Until the Economy Returns to a Full-Employment Level Likely Likely a Few Years Away The markets are starting to worry that the flood of money for the recovery will re-ignite inflation (the spread between 10-Year TIPS and 10-Year T-Notes is widening). Source: Cooper, Hints of Recovery And Fears of Inflation, BusinessWeek, May 11, 2009, p. 8

Bond Yields Tend to Reflect Expected Inflation, but the Relationship is a Loose One 10% 8% 6% CPI-U % Change July 1990- March 1991 recession U.S. Treasury 10-Year Note Yield March 2001- November 2001 recession Forecast 4% 2% 0% 90 91 92 93 94 95 96 97 98 99 00 01 02 03 04 05 06 07 08 09F 10F -2% Sources: US Bureau of Labor Statistics (history); Blue Chip Economic Indicators, 10,/2009 issue (forecasts)

Net Rate on L/H General Account Assets Tends to Follow 10-Year US T-Note L/H Net Rate, Gen'l Acct 10-Year Treasury Note 14% 12% 10% 8% 6% 4% 2% 980 81 82 83 84 985 86 87 88 89 990 91 92 93 94 995 96 97 98 99 000 01 02 03 04 005 06 07 08 19 19 19 *estimates/forecasts from October 2009 issue of Blue Chip Economic Indicators Sources: ACLI Life Insurers Fact Book 2008, p. 34; http://federalreserve.gov/releases/h15/data/annual/h15_tcmnom_y10.txt 19 20 20 09* 10* 0 201

What s the Longer- Term Forecast for Interest Rates?

Will Federal Deficit Spending Ultimately Re-ignite Severe Inflation? $400 Federal Deficit ($ Bill) 4% $200 dfiit deficit as % of fgdp 2% $0 -$200 0% Fed deral Deficit -$400 -$600 -$800 -$1,000-2% -4% -6% Defici t as % of GDP -$1,200 -$1,400 -$1,600 Deficit hit $1.6 trillion in FY 2009 (11% of GDP), by far a post-ww II high -8% -10% -$1,800-12% 1969 1975 1980 1985 1990 1995 Source: White House OMB Mid-year Budget Report at http://www.whitehouse.gov/omb/assets/fy2010_msr/10msr.pdf 2000 2005 2010 2015 2019

In the 70s and 80s, When the Deficit Rose, Only High Interest Rates Dampened Inflation 16% CPI Annual % change 6% deficit (-surplus) as % of GDP 14% 5% 12% 10% 4% CPI 8% 3% 6% 4% 2% 0% 2% 1% 0% 1970 1975 1980 1985 1990

Will Inflation and Interest Rates Repeat the 1980-85 85 Pattern? L/H Net Rate, Gen'l Acct 10-Year Treasury Note 14% 12% 10% 8% 6% 4% 2% 1 980 81 82 83 84 1 985 86 87 88 89 1 990 91 92 93 94 1 995 96 97 98 99 2 000 01 02 03 04 2 005 06 07 08 09F 201 10F 11F 12F 13F 14F 201 15F 16F 11 17F 18F 19F Forecasts: Office of Management and Budget, Mid-Session Review, Fiscal Year 2010. http://federalreserve.gov/releases/h15/data/annual/h15_tcmnom_y10.txt ; I.I.I. speculation for 2016-19

How Well Are Most People Handling Recent Circumstances?

Not Well They re Living Close to the Edge

How Long Could You Go Without Your Job Before Experiencing Significant Financial Hardship? 40% up to 1 week 35% up to 1 month Pe ercentage 30% 25% 20% 15% 10% 5% 11.9% 26.3% 36.3% 36.8% 21.9% 15.6% 14.5% 7.9% 18.8% up to 4 months up to 1 year over 1 year 10.0% 0% families with children families with no children Source: Jacob Hacker, The Great Risk Shift, rev. ed., Oxford University Press, New York, p. 102, citing a Gallup survey published in April 2003. Hacker notes that these results are after controlling for demographic variables such as age, income, race, education, and gender.

Trend: Growing Chance That a Family s Income Will Drop By 50% or More The income instability risk has been rising for three decades Even at tits most recent best (at the height of the prosperity of the 1990s), the risk level exceeded all pre-1980 levels Source: Jacob Hacker, The Great Risk Shift, (New York: Oxford University Press), 2006, pp. 2, 14-15.

Ordinary Life Insurance Lapse Rates, 1996-2008 Was the 2002 spike 9.0% in lapse rates related to the March 2001- November 2001 8.0% recession? 2008-09 recession; curve will likely continue up in 2009 7.0% 6.0% 5.0% 4.0% 7.1% 6.7% 6.5% 6.6% 6.4% 6.5% 6.4% 61% 61% 62% 61% 61% 62% 5.9% 6.0% 6.1% 6.1% 6.2% 6.1% 6.1% 6.2% 6.2% 6.0% 5.9% 5.9% 5.7% 5.6% 5.4% 4.9% 4.9% 5.1% by number of policies by amount of insurance 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 Sources: NAIC Annual Statements, p. 26 line 15 (lapses) and average of lines 1 and 21, from National Underwriter HighlineData; I.I.I. calculations

Billions in Loans Policy Loans Increase During/Following a Recession, but Also in Boom Times Policy Loans Nominal GDP GDP, Billions $120 $16,000 $100 July 1981- November 1982 recession July 1990- March 1991 recession $14,000 $12,000 $80 $60 March 2001- November 2001 recession $10,000 $8,000 $6,000 $4,000 $40 $2,000 198 80 198 81 198 82 198 83 198 84 198 85 198 86 198 87 198 88 198 89 199 90 199 91 199 92 199 93 199 94 199 95 199 96 199 97 199 98 199 99 200 00 200 01 200 02 200 03 200 04 200 05 200 06 200 07 200 08 2009 9* Sources: http://www.bea.gov/national/xls/gdplev.xls, ACLI Life Insurers Fact Book 2008, p. 11.

The Older Generations Might Boost Economic Growth and Life/Annuity Purchases by Continuing to Work

More Workers Are Delaying Their Planned Retirement Percent 100% 90% 80% 75% 89% 84% 79% 70% 66% 2003 60% 2004 50% 2005 40% 32% 2008 28% 30% 16% 21% 2009 18% 20% 10% 0% % who changed retirement tage in % who changed dto delay retirement t past 12 months Source: EBRI Issue Brief No. 316, (April 2009), p. 14

Age When Workers Plan to Retire Percent of Workers 60% 50% 40% 30% 20% 10% 0% 50% 41% 37% 26% 31%31% 26% 23% 11% 22% 18% 31% 10% 5% 6% 0% before age 65 at age 65 age 66 or older never retire 1994 1999 2004 2009 Source: EBRI Issue Brief No. 316, (April 2009), p. 14

Past and Projected Labor Force Participation Rates, by Age Group Participation Rate 75% 50% 69.6% 70.1% 58.2% 63.5% 2006 2016 25% 0% 28.8% 34.6% men 55-64 women 55-64 men 65-74 women 65-74 men 75+ women 75+ Source: Mitra Toossi, Labor force projections to 2016: more workers in their golden years, Monthly Labor Review, November 2007, Table 3. 19.2% 25 5.1% 9.5% 14.7% 4.4% 7.6%

Labor Force Participation, Ages 55 and Over, 2006:Q2-2009:Q3 2009 Q3 Labor Force (millions) 15 Labor force participation by workers especially women age 55 and over has grown in spite of the current recession. 13.6 13.8 13.8 14. 1 14.2 14.3 14.3 14.3 14.2 14.2 14 men women 13.2 11.4 13.2 11.6 13.4 11..8 13.4 11.9 12.0 12.2 12.3 12.5 12.5 12.6 12.8 12.8 12..9 13..0 13 12 11 2006 006:Q2 2006 006:Q3 2006 006:Q4 2007 007:Q1 2007 007:Q2 2007 007:Q3 2007 007:Q4 2008 008:Q1 2008 008:Q2 2008 008:Q3 2008 008:Q4 2009 009:Q1 2009 009:Q2 2009 009:Q3 Source: US Bureau of Labor Statistics, http://www.bls.gov/web/cpseed6.pdf seasonally adjusted quarterly averages

People Over 60 are Increasingly Buying Individual Life Insurance They re the only age group like this

% Change vs Prior Y 16% 14% 12% 10% 8% 6% 4% 2% 0% -2% -4% -6% -8% Percent Change* in Applications for Individual U.S. Life Insurance Policies, May 2007- Sep 2009 The 0-44 age group still represents the majority of the premium volume, but this has been declining over time. May 07 Jul 07 Sep 07 Nov 07 Jan 08 Mar 08 *vs. same month, prior year Source: MIB Life Index, monthly releases May 08 Jul 08 Sep 08 Nov 08 Jan 09 Mar 09 May 09 Jul 09 Sep 09 Ages 60 and over is the only group consistently increasing life insurance applications. ages 0-44 ages 45-59 ages 60+

Not Just Retirees: Many People Don t Know Where They re Going or How to Get There Source: National Underwriter (L/H), June xx, 2008, p. xx

Cover Art for July/August 2008 Issue of AARP Bulletin Source: AARP Bulletin, Vol. 49, No. 6 (July/August 2008)

Conclusion: People Need Help Constructing ti Their Own Financial Safety Net

Step 1: Give Them a Spending Target What Percent of Income Should People Spend to Assure Their Financial Security?

As a Percent of Personal (Gross) Income, Personal Insurance Premiums Are Down 8.2% 8.1% Personal Insurance Premiums include all Life, A&H, 8.0% Annuities, and Personal Property/Casualty Insurance. 7.9% 7.8% 7.7% 7.6% 7.5% 7.4% 2001 2002 2003 2004 2005 2006 2007 2008 Sources: http://www.bea.gov/national/xls/gdplev.xls, Best s Aggregates and Averages, Life/Health, 2009 Edition, p. 173 and Property/Casualty 2009 edition, p. 573., I.I.I. calculations

L-H Industry Profitability

L/H Industry Net Income, 1995-2008 Billions $45 $40 $35 $30 $25 $20 $15 $10 $5 $0 -$5 -$10 -$15 -$20 -$25 -$30 -$35 -$40 -$45 -$50 -$55 $19.2 $21.7 $20.9 $22.2 $18.0 $13.6 $9.8 $4.1 $32.2 $35.9 $36.2 $31.9 $26.6 2006 net income rose only 0.8% despite 10.5% net premium growth, because surrenders grew 20.4%, disability benefits grew 21.6%, and total expenses grew 13.1%. -$50.6 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 Source: NAIC Annual Statements, p.4, line 35, from National Underwriter HighlineData.

Effect of Realized Capital Gains/ Losses on Net Income, 1995-2008 $40 $35 $30 $25 $20 $15 $10 $5 $0 -$5 -$10 -$15 -$20 -$25 -$30 -$35 -$40 -$45 -$50 -$55 $13.6 $19 9.2 $21 1.7 $18.0 $20 0.9 $22 2.2 $9.8 $4.1 $2 26.6 $32.2 $36.0 $36.2 $31.9 -$51.7 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 L/H Net Income L/H Realized Capital Gains (Losses) Source: NAIC Annual Statement data, Summary of Operations and Exhibit of Capital Gains (Losses) from Highline National Underwriter

Life Insurer Operating Expenses, (excl. Commissions) 1995-2008 $ Millions $200,000 $150,000 $100,000 $105,804 $126,5 541 $14 42,590 $165,243 $14 46,149 $193,0 067 $127,7 711 $116,27 72 $132 2,938 49,795 $1 $122,7 711 $14 41,920 $1 154,559 $121,4 432 $50,000 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 Source: Best s Aggregates and Averages, Life/Health, 2009 Edition

Summary & Conclusion The capital markets are still weighed down by the housing market and lenders reluctance to lend Given the present and likely future unemployment picture, the economy is unlikely to show signs of recovery in the near term Sales of individual life insurance policies have been trending down for 6 years Trend toward increasing labor force participation by those over 55 seems likely to continue These people have been increasingly buying life insurance

Insurance Information Institute On-Line If you would like a copy of this presentation, please give me your business card with e-mail address