Life insurers spearhead share rally

Market: FTSE 100 index stages biggest one-day rise since November despite Standard Life bonus cuts

The FTSE 100 staged its first proper rally since November yesterday, with improved sentiment towards the embattled insurance sector helping the market recover from one of its worst months on record.

A move by the Financial Services Authority late on Friday evening to ease solvency regulations lifted insurance stocks, calming fears that they are being forced to sell shares to meet their liabilities. The insurance bounce back came despite more bad news for policyholders from Standard Life, which cut with-profit payouts by 15 per cent.

The FTSE 100 climbed 4 per cent, its biggest one-day gain since November, to 3,689.4 points, adding £29bn to the value of blue-chip companies. The index dropped 9.5 per cent last month, the second-biggest decline seen in January since its inception in 1984.

Insurers, which hold a vast part of their assets in equities, have been forced to offload shares to keep themselves above solvency margins set by the regulator. These dictate that insurers must hold assets worth at least 4 per cent more than their liabilities. As their equity assets have fallen, insurers are caught in a vicious circle of equity selling, which has caused the markets to continue spiralling downwards. The FSA on Friday said it would grant a solvency waiver to companies that apply to it for help, provided they have a recovery plan in place, such as reducing payouts further, cutting dividends, or closing to new business. This has eased the pressure on insurers to sell equities and alleviated fears that many will be declared insolvent.

"This takes some of the pressure off the market," Roger Hill, at UBS Warburg, said. "A combination of selling and hedge fund activity in the sector has not been very helpful. This at least allows insurers to take action to shore up their balance sheet in a more orderly fashion."

Aviva, Britain's largest insurer, yesterday closed up 9.6 per cent at 430.25p. Prudential finished 6 per cent higher at 403.75p, Friends Provident closed up 11 per cent at 98.25p, and Legal & General gained 7 per cent to 80.5p. The Britannic Group, which has borne the brunt of solvency fears in the sector and has seen its share price fall more than 80 per cent since the start of the year, ended up 3.8 per cent at 119p. The FTSE 350 Index's Life Assurance group was the biggest gainer in percentage terms yesterday, adding 7.8 per cent.

Standard Life, the UK's largest mutual insurer, is known to have been an active seller in the market to hedge its equity portfolio against further downturns. It has lost £4.5bn in the equity market in the past year, despite reducing its exposure to equities to 55 per cent from 67 per cent. Its heavy investment losses meant payouts for its 2.1 million with-profits policyholders were yesterday cut by an average 15 per cent. A 25-year pension policy maturing today will pay out £500,414, compared with £586,959 in October, when payouts were last reviewed.

Standard is also nursing a bill of more than £1bn to pay guarantees on a third of its with-profits policies, which are draining away capital. These guarantees, which promise to pay policies either 3 or 4 per cent a year, have cost Standard up to £3bn in the past two years to fund. They are now proving difficult for the company to continue to honour without a further radical shift out of equities to fixed-income investments.

The exit penalty for anyone surrendering their Standard policy has been lowered to 15 per cent from 20, but anyone cashing in their policy will not have their payout smoothed against the market downturn.

Standard's 1.3 million mortgage endowment policyholders are also in line for bad news. The poor investment conditions mean Standard is writing to tell them a promise made by the insurer to pay off their mortgage may be all but worthless. Standard promised endowment policyholders that provided its with-profits fund made a return of 6 per cent a year, it would make up any shortfall between the endowment and the mortgage. "We have clearly not made 6 per cent return per annum," Simon Douglas at Standard said.