Outlook: Bad news for life assurance

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The Independent Online
Mysterious stuff, life assurance. If you bought a with profits policy in the mid 1980s, chances are you were quoted some impressive estimated maturity values. Unfortunately, these would almost certainly have been based on the heady annual bonus levels then being declared. If you've still got the estimate, look it up, because you are not going to get anything like as much as they said.

Several life assurance companies have already announced sharp cuts in reversionary bonuses this week and most others will be following suit shortly. How can this be? After all, the stock market had another record year last year.

Lamentably, it doesn't work like that. Throughout most of the 1990s overall rates of return, both on equities and bonds have been falling. It's our old friend deflation once more. Most life companies have desperately been trying to ignore this painful reality, digging into their free assets in an effort to keep bonuses high so as better to market their life policies. Then last year, there was a particularly big drop in returns on gilts, exacerbated by the removal of the tax credit on equity dividends. The moment of truth has now arrived.

Defenders of this old fashioned, paternalistic way of saving say it doesn't really matter. Lower returns are merely a reflection of lower rates of inflation, and in real terms the punter will end up with just as much money as he was quoted in the 1980s, when it was assumed inflation would remain high.

What's more, the annual bonus, decided by actuaries on the basis of what they think fair and reasonable, is what makes with profits life assurance different from unit linked forms of saving. It may be that life companies are now being too conservative in their bonus policy. If this proves to be the case, it will be reflected in more generous terminal bonuses when policies mature. Over the life time of the policy, the peaks and troughs are ironed out.

As even the industry's most die hard supporters concede, however, at a time when bonuses are being cut, it is hard to make people understand these merits. There will always be a sizeable market for with profits life assurance, but the latest round of bonus cuts will do nothing to enhance the already dented reputation of this opaque and sometimes fuddy duddy old industry.