How Economic Trends and Diversification Affected Life Insurance Investments

Interest rates in the United States have tended to move in cycles. There have been three major movements involved in these cycles: a downward trend from 1870 to the turn of the century, an upward movement from about 1900 to 1924, and another down swing which continued into the 1940s. The rate of interest earned by the Metropolitan passed through the same three periods of rise and fall. In the first few decades of the company's history the amounts available for investment were relatively small, with the result that the earnings fluctuated rather widely from year to year.
Yet it is clear from the data available that the general tendency was toward a decreasing yield. This might be due to a large portion of the United States being unable to buy even the most affordable life insurance that Metropolitan Life Insurance Company offered. With the reversal of the trend, the net interest earnings by the company increased quite steadily from 4 percent in 1900 to nearly 5.5 percent in 1924. Thereafter, however, the return on investments has tended to drop.
During the latter half of the 1920's the fall was gradual, declining from 5.4 percent in 1924 to 5.2 percent in 1929 and 1930. During the early years of the depression there was a greatly accelerated drop, and by 1935 the net income on Metropolitan investments was slightly less than 3.7 percent. Then, the decline leveled off. In 1941, the interest earned was 3.4 percent. The interest rates for each of the major classes of investment have followed the same course as that for all types combined. Their respective net returns, however, have differed.
They also differed between different types of life insurance, from the more affordable term life insurance to the long lasting whole life insurance. Considering the two major classifications of life insurance investment, we find that mortgage loans on city and farm property have yielded a higher return than has the bond portfolio. For 10 years prior to 1929 the interest earned on mortgage loans, deducting investment expenses and asset losses, was 5.5 percent, as against 5 percent for bonds and stocks.
However, at least a portion of the higher yield on mortgage loans represents a risk element for possible future losses and reduced return on real estate acquired through foreclosure. During the period from 1929 to 1941, inclusive, the corresponding net yield on mortgage loans and foreclosed real estate combined was 3.4 percent, as against 3.5 percent for bonds and stocks. The marked increase in government bonds in the company's portfolio, coupled with the decrease in investments such as mortgage loans, contributed toward lowering recent interest earnings.
The average rate on bond purchases during 1941 and 1942, excluding short term bonds, was only 2.7 percent. This demonstrated the serious impact of economic trends and current investment conditions on the cost of life insurance to the policyholders. Even though they didn't have to ask, "What is term life insurance?" or research the best whole life policy, they still could not afford much. In addition to considerations of safety and interest yield, life insurance company investments were made in accordance with the principle of diversification.
Neither law nor careful administration could absolutely eliminate the risk of loss and, in order to minimize it, life insurance companies spread their investments as widely as possible. The old adage of "not to put all of one's eggs into one basket" is a fundamental investment policy. Metropolitan funds, invested in more than 100,000 separate items which were widely diversified in character, and spread over many communities and enterprises throughout the United States and Canada. In fact, these investments covered every state and every Canadian Province.
Wide geographic distribution minimized the effect of adverse business or agricultural conditions in particular localities. Not only were the funds spread over a great variety of categories, but within each class as wide a distribution as possible is made. With the large sums of money held by the company, and with the experienced staff available, the Metropolitan could and did carry the practice of diversification to an extent which is impossible for an individual investor. The principle of diversification is also applied to maturity dates of investments.
Life insurance companies could predict with a fair degree of accuracy the amounts they will be called upon to pay in future years, and, therefore, could select their investments to mature over a period so that when such funds are needed there will be a constant flow of maturities. Care was taken, too, to provide a proper balance between long and short term investments, so that assets would neither be frozen nor require too frequent reinvestment. A diversified portfolio with reference to maturity dates will not only bring a steady income, but in case of emergency will provide securities which can be sold in a ready market without sacrifice.