Manulife Financial Exec Insights: New Business Strain, Capital

On Thursday, Manulife Financial Corporation (NYSE:MFC) reported its first quarter earnings and discussed the following topics in its earnings conference call. Here’s what the C-suite revealed.

New Business Strain

Steve Theriault – Bank of America Merrill Lynch: I have a question for Mike and a question for Cindy please. Starting with Michael I think. Just trying to get a sense of the drivers of the decline and the strain and the sustainability. So maybe is there any way you can split out the decline, the sequential decline between hiring quarter interest rates and the impact of repricing. I guess what I’m getting at is, if rates remained where they are today, being lower quarter-to-date relative to Q1, can we realistically expect strain to be sustainable at Q1 levels. And then for Cindy if we go back to 2009 you took an C$800 million charge with respect to lapse assumptions I think about $500 million of that was attributable to the U.S. and Japanese VA businesses if memory serves at that point when you — I think you took the lapse assumption down to 1%. Again if memory serves and I think the message was that, that was pretty low and conservative. So just a couple of things there. As you review for Q3 really just a concern for the U.S. business or is it the VA business broadly and I know you are reluctant provide an estimate here because you are early on in the process, but I’m trying to get a bit of a sense as to the order of magnitude, for instance, if you took that lapse rate down to zero, what would that imply in terms of the worst case? Thank you.

Michael W. Bell – SEVP and CFO: Okay. Steve, it’s Mike, I’ll start and then hand it to Cindy. In terms of the new business strain, first, just to recap, the new business strain improved significantly relative to Q4 2011 and that was anticipated, and it was really driven as you noted by a handful of factors, not the least of which is the importance of the price increases that we implemented in 2011, and obviously a slight increase in interest rates in first quarter were helpful as well. Rather than been trying to disaggregate the quarter-over-quarter change which I think would be a fraught with in-precision. I think the more important question that I’ll answer is what do we anticipate in terms of strain going forward, and we do anticipate as long as rates let’s just say were flat with the end of the quarter for the remainder of the year, we do anticipate continued improvement in new business strain over the course of the year, and that’s driven by a couple of important factors, particularly for the U.S. business and the Canadian business. The first factor is the price increases that we’ve put into to affect. That had some improvement in – drove some of the improvement in first quarter of 2012, but it will drive even more of the improvement again based on constant interest rates in the remaining quarters of the year, so we’d expect to get additional uplift from those price increases. The other change would be the product mix as we’ve been selling more of the next generation of products. We expect lower strain in both Canada and U.S., and we’d anticipate seeing a boost on that in second quarter and also some additional boost in Q3 as the sales convert over to the new products. So, at the end of the day, not only do I believe that – again assuming interest rates are flat, obviously if interest rates drop, that’s another matter. But assuming flat interest rates, I would anticipate that the strain will actually improve further relative to Q1 as opposed to revert back if you will to Q4. The only other factor that I’d note for completeness is the volumes, obviously we benefited from some of the volume improvement relative to the new business expenses that’s always a wildcard in terms of implementing rate increases, but at this point our anticipation is that net-net that would be a positive. And then just before I turn it over to Cindy, I would just add Steve on the VA lapses. Again, I really suggest that you not overreact to the disclosure. Again, at the end of the day, the basis changes in third quarter will likely have a number of items both positive and negative. Again, it’d be early to try to gauge what that list is going to look like or what the impact is. Cindy, you want to add?

Cindy Forbes – EVP and Chief Actuary: Steve, its Cindy. In terms of the scope of this year’s review, we are focused on the U.S. It’s where we have the bulk of our experience. So, that is the scope of our review this year. We are looking at experience both before the financial crisis and after the financial crisis. In terms of the 2009, policy change, I think that maybe the 1% that you’re referring to maybe wasn’t related to VAs, but rather to universal (indiscernible) ultimate lapse rate. So there is not much you can do (indiscernible) extrapolating from that data point.

Capital

Robert Sedran – CIBC: A question on capital to start, I guess. Considering that sensitivities have come down so far and they are pretty much at your 2014 targets, can you help us understand what kind of number you are managing towards in terms of an MCCSR ratio? 225% is a very different ratio today than it would have been say 18 months ago and yet you still did a fair bit of issuance during the quarter. I know there are some redemptions coming up. I guess what I am trying to figure out is how much flexibility you have in terms of deployment and whether you consider drawing that down in an acquisition scenario?

Michael W. Bell – SEVP and CFO: Well Robert its Mike. I will start and see if Donald wants to add. First I appreciate your comments. They are on the money. That 225% is a very strong level particularly in light of the substantial hedging and you are absolutely right 225% today, is a lot stronger than 225% two years ago before the big increase in hedging, so you are absolutely right. And you are also right that the issuances that we did, we also did that in light of the possibility of redemptions going forward. Again I wouldn’t try to characterize it is managing to a specific number, I think it is multi-faceted as opposed to trying to manage it to a specific number. In terms of acquisition capacity as we’ve said before for smaller acquisitions that made economic and strategic sense, we believe that we could fund that with existing resources. For large ones it would likely require external capital. And again I wouldn’t try to put a specific number on it, but those guidelines remain unchanged. Don do you want to add.

Donald A. Guloien – President and CEO: Based on our economic capital models, one could infer that if we operate at a ratio of something like 150 we’ll be operating the credit quality equivalent roughly to AA company that’s 150. 225 we’re also, obviously substantially above that. We are conservatively run organization and we’ve got very conservative regulations here in Canada. We don’t frankly know where they’re going to go in the next few years and we’re going to hear on the conservative side until the such time that there is greater clarity. But we sleep pretty easy at night with the capital ratio that we’ve got now and the capital ratio below that, but again we don’t know with perfect clarity where capital rules are going they are normally changing here in Canada. This is not a uniquely Canadian phenomena, but I’m sure most of you are following Solvency II, Solvency modernization in United States. It’s a moving feast where they are going internationally. So it’s pretty tricky to determine. So we are going to air on the conservative side for next little while.

Robert Sedran – CIBC: Just a quick follow-up question on the adverse policy holder experience this quarter of the C$66 million if I recall correctly you did build the mortality reserve last year in United States and which I would have thought would have increased the capacity to absorb some of the negative experience. So did that move not go far enough or is this a different business and experience and Donald’s comments seem to indicate that he was reasonable comfortable that it wasn’t a recurring problem I am just curious what gives you that confidence.

Michael W. Bell – SEVP and CFO: Robert I’ll start and see if Jim Boyle wants to add, you are absolutely right we did strengthen the mortality assumptions. Now you may recall that we actually changed the scope of the curve in terms of the mortality assumptions last year as part of the basis change we were actually running better than anticipated in the early durations, it’s the later durations that were running higher. So again, the shape of the curve can also play an impact, it wasn’t all one way. Again our view, we’ve looked at that and it’s early to conclude, but everything we see would suggest that it is an aberration and that again this is going bounce around quarter-to-quarter. We would not view this as indicative of a new more permanent problem, but obviously, it’s something that we felt like it was significant enough to note as a notable item. We’ll see if Jim wants to add.

Jim Boyle – President, John Hancock Financial Services: I think that’s a pretty solid answer, Mike. All I would add is, it’s life and LTC, and in LTC, we did the major basis change a few years ago. We still feel comfortable with the assumptions there. I think you’ll recall that in the fourth quarter, we had claims gain in the long-term care, and this quarter, we had a slight loss, but a loss that was not inconsistent with losses we’ve had in the last few quarters. So, there is some lumpiness that we see there. On the life side, we saw a slightly larger number this quarter. We had a lot of debt claims, and it’s very hard to predict how debt claims were going to come in, but we suspect they are going to revert to more normal level. So, insurance companies periodically do see a lot claims in one quarter on life, and we did this quarter. So, again, we are not overtly concerned at this point. The business is generally operating as we expected.