Michael Zagari

Incorporating Participating Insurance Into Your Wealth Strategy Mix

In my opinion, most investors, experienced or not, have a difficult time spotting investment opportunities. Some investors tend to have tunnel vision and stick to the same investment type. Balanced mutual fund buyers buy more balanced mutual funds. GIC buyers buy more GIC’s, etc. Others chase returns by purchasing past performance. 

It’s so much easier to buy a fund that made 20% last year compared to a fund that lost 20%. But is that really a sound investment framework? Absolutely not. 

Buying past performance is a recipe for failure. However this week’s article is not about that but rather investment opportunities within the life insurance space. Yes, life insurance.

The cost of accessing capital is going up via higher interest rates. Individuals and corporations need to pay more to borrow to consume, purchase a home or expand their businesses.

This scenario might not be ideal for our economy. But insurance companies need to hold reserves in risk-free assets and back their liability commitments. Higher interest rates are certainly helping their balance sheets.

The chart below is the last 6-month performance of Manulife, Sun Life and Intact – provided by Y-Charts. 

One of the benefits of higher interest rates is that insurance companies generate a higher return on conservative investments that back their liabilities. 

The chart below shows Manulife’s unpaid loss reserve which is the insurer’s liabilities. This accounting metric reflects an insurer’s financial obligations with respect to the insurance policies it has issued. 

In short, insurance companies have two major liabilities which are loss reserves and unearned premium reserves. Loss reserves are an insurance company’s best estimate of what it will pay in the future for claims. 

Naturally, these reserves need to be kept within a risk-free asset class. Not just from a prudent business model but also based on minimum capital test. The minimum capital test is required by the Government of Canada, Office of the Superintendent of Financial Institutions. 

When an insurer underwrites a new policy, it records a premium receivable and a claim obligation. The premium receivable is an asset, and the claim obligation is a liability.

The liability is part of the unpaid losses account, represented by the loss reserve.

So, what exactly does this all mean? I believe this type of environment is ideal for participating life insurance contracts. 

Participating policies are insurance policies that participate or share in the profits of the insurance company’s participating (par) fund. Apart from guaranteed benefits, they also provide non-guaranteed benefits.

The insurer guarantees the assured sum. They pay it when the policy matures, when you pass on or when you become totally and permanently disabled (if this benefit is provided) during the policy period.

The non-guaranteed benefits may include bonuses and cash dividends. They depend on the performance of the par fund’s investments; the number of claims on the fund and the expenses that the fund incurs. In other words, you deposit funds into the contract that has two components – cost of insurance and cash value. You can build a considerable amount of wealth inside these policies and on a tax deferred basis. 

Below is chart that outlines Manulife participating account smoothed yields. The common theme in this chart is that during higher interest rate environments, the yield was higher and during cheap borrowing periods where interest rates were near zero, the yield dropped. 

So why not invest in a variety of insurance company stocks directly instead of buying an insurance contract? Beyond its insurance protection feature, a participating life policy has a tax-advantaged investment component that can help you build a larger estate than you could in a taxable account with stocks. The cash value that accumulates in your policy grows free of annual taxation which can accelerate the compounding effect over a longer period.

Although these payments are not guaranteed, most companies have rarely skipped a year of distribution through a mechanism called smoothing or smooth yield. Basically, insurance companies take higher than expected profits from previous years and apply them to years of volatility. The smoothing effect combined with higher interest rates makes participating policies attractive because you get exposure to that bucket of higher-than-expected returns in the past with the benefit of bonds paying higher rates today.

The standard deviation since 1985 is shown at 2.5 which means smaller variance between data and statistical average is more reliable. Conversely, a high standard deviation means that there is a large variance between the data and the statistical average and is not as reliable. 

Notice the risk profile/standard deviation between the par fund (2.5) and the 5-year GIC (3.2) are almost the same however the par fund produced nearly double in returns?

What is this week’s takeaway?

With higher interest rates likely to stay with us for a while and the days of cheap borrowing behind us, I believe investors should consider participating insurance contracts to build their wealth. The risk and return profiles are attractive, tax deferral benefits are also attractive including the ability to draw income in the future.

Having an insurable interest such as estate taxes or replacing your partner’s human capital potential should also be included in your financial planning.

Check it for yourself – what you’ll discover might surprise you. 

Have a great weekend!

Talk soon,

Michael Zagari


Nothing on the website shall be construed as an offer to buy or a solicitation of an offer to buy any services or products. Commissions, trailing commissions, management fees and expenses may be associated with investments. Products are not guaranteed, their values change frequently, and past performance may not be repeated. Mandeville Private Client Inc. is a member of the Investment Industry Regulatory Organization of Canada and a member of the Canadian Investor Protection Fund.

This publication contains the opinion of the writer. The information contained herein was obtained from sources believed to be reliable, but no representation or warranty, express or implied, is made by the writer, Mandeville, or any other person as to its accuracy, completeness, or correctness. This publication is not an offer to sell or a solicitation of an offer to buy any securities. The information in this publication is intended for informational purposes only and is not intended to constitute investment, financial, legal, tax or accounting advice.

I do not hold a beneficial long position in the shares of Manulife, Intact or Sun Life either through stock ownership, options, or other derivatives. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with any company whose stock is mentioned in this article.

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