Abstract
Although life insurance insolvency has not been a serious problem in the past, the incidence of such insolvencies is increasing. The scope of this paper is to review the financial operations of life insurance companies in order to detect variables which will be helpful in identifying potential insolvencies. Three multivariate analyses are used in this paper: Multidiscriminant Analysis (MDA), nonparametric analysis and a logit analysis. The NAIC-IRIS Tests, the decomposition measures, and other financial ratios were found to be accurate measures for classifying failures in a multivariate framework one and two years prior to insolvency. The analyses correctly classified between 82 and 91 percent of the life insurance companies one and two years prior to insolvency. Cross-sectional validation on 31 publicly traded life insurers indicated that these large insurers are reasonably safe. All these life insurers were correctly classified as solvent companies. However, further analyses of these models and a prospective probability model indicates that more than one type analysis may be required for measuring the probability of failure.
This is a preview of subscription content, log in via an institution.
Buying options
Tax calculation will be finalised at checkout
Purchases are for personal use only
Learn about institutional subscriptionsPreview
Unable to display preview. Download preview PDF.
References
Altman, E. I. 1968. “Financial Ratios, Discriminant Analysis, and the Prediction of Corporate Bankruptcy,” Journal of Finance (September): 589–609.
Amemiya, T. 1981.“Qualitative Response Models: A Survey,” Journal of Economic Literature (December): 1483–1536.
BarNiv, R. and A. Ravel, forthcoming.“Identifying Financial Distress: A New Nonparametric Approach,” Journal of Business Finance and Accounting.
BarNiv, R. and M. L. Smith 1987.“Underwriting, Investment and Solvency,” Journal of Insurance Regulation (June): 409–428.
Belth, M. J., Editor, 1984.“Thinking the Unthinkable -What Would Happen if a Big Life Insurance Company Were to Get into Financial Difficulty?”, The Insurance Forum (August): 29–31.
Best’s Insurance Reports, Life-Health 1987 and various previous issues. A. M. Best Co., N.J.
Booth, P. J. 1983. “Decomposition Measures and the Prediction of Financial Failure,” Journal of Business Finance and Accounting (Spring): 67–82.
Cooley, P. L. 1975. “Bayesian and Cost Considerations for Optimal Classification with Discriminant Analysis,” Journal of Risk and Insurance (June): 277–287.
Daenzer, B. J. 1984. “Insurers Solvency: Determining Which Companies Can Survive the Storm,” Risk Management (July): 22–30.
Dambolena, I. G. and S. J. Khoury 1980. “Ratio Stability and Corporate Failure,” Journal of Finance (September): 1017–1026.
DeHeuck, G. T. 1981. “Is Your Company Going to be a Survivor,” Best’s Review Life and Health Ed. (July): 20–30, 86–88.
Frydman, H., E. I. Altman and D. Kao 1985. “Introducing Recursive Partitioning for Financial Classifications: The Case of Financial Distress,” Journal of Finance (March): 269–291.
Gold, M. L. 1979. “Evaluating Life Insurance Company Performance,” Best’s Review Life and Health Ed. (January): 20–24.
Granger, G. L., W. J. Mason and S. Garrison 1987. “Life Insurance Company Liquidation, A Decomposition Analysis,” Paper presented at the ARIA Meeting, (August): Montreal.
Hammond, J. D. and N. Shilling 1978. “Some Relationships of Portfolio Theory to the Regulation of Insurer Solidity,” Journal of Risk and Insurance (September): 377–400.
Harrington, S. E. and J. M. Nelson 1986. “A Regression-Based Methodology for Solvency Surveillance in the Property-Liability Insurance Industry,” Journal of Risk and Insurance (December): 583–605.
Hershbarger, R. A. 1981. “Are the Best’s Rating and the NAIC Systems Effective,” Paper presented at the ARIA Meeting, (August): Kansas City.
Hershbarger, R. A. and R. K. Miller 1986. “The NAIC Information System and the Use of Economic Indicators in Predicting Insolvencies,” Journal of Insurance Issues and Practices (June): 21–43.
Kahane, Y. 1978. “Solidity, Leverage and Regulation of Insurance Companies,” The Geneva Papers on Risk and Insurance (December): 3–19
Kahane, Y., C. S. Tapiero and L. Jacque 1986. “Concepts and Trends in the Study of Insurer’s Solvency,” Paper presented at International Conference on Insurance Solvency, Wharton School (June).
Lev, B. 1971. “Financial Failure and Information Decomposition Measures,” In R. R. Starling and W. F. Bentz, Accounting in Perspective: Contribution to Accounting Thoughts by Other Disciplines, Southwestern Publishing Company.
Lev, B. 1974. Financial Statement Analysis: A New Approach, Prentice-Hall, N.J.
Maddala, G. S. 1983. Limited Dependent and Qualitative Variables in Econometrics, Cambridge University Press.
NAIC-IRIS Tests. “Using the NAIC Insurance Regulatory Information System,” Life and Health, National Association of Insurance Commissioners.
NAIC Targets Companies for Regulatory Attention, 1986. Best’s Review Life and Health Ed. (November): 6.
McFadden D. 1974. “Conditional Logit Analysis of Qualitative Choice Behavior,” In P. Zarembka, Frontiers of Econometrics, Academic Press, N.Y.
Ohlson, J. A. 1980. “Financial Ratios and the Probabilistic Prediction of Bankruptcy,” Journal of Accounting Research (Spring): 109–131.
Pinches, G. E. and J. S. Trieschmann (1974). “The Efficiency of Alternative Models for Solvency Surveillance in the Insurance Industry,” Journal of Risk and Insurance (December): 563–577.
Pinches, G. E. and J. S. Trieschmann 1977. “Discriminant Analysis, Classification Results and Financially Distressed P-L Insurers,” Journal of Risk and Insurance (June) 289–298.
Pritchett, S. T., R. P. Wilder and M. P. Schiller 1987. “Stock Life Insurer, Profitability, 1981–1985,” Paper presented at the ARIA Meeting, (August): Montreal.
Radcliffe, S. 1982. “Where Have All the Margins Gone,” Best’s Review Life and Health Ed., (April): 10–15.
Shaked, I. 1985. “Measuring Prospective Probabilities of Insolvency: An Application to the Life Insurance Industry,” Journal of Risk and Insurance, (March): 59–80.
Thorton, J. H. and J. W. Meador 1977. “Comments on the Validity of the NAIC Early Warning System for Predicting Failures Among P-L Insurance Companies,” CPCU Annals, (September): 191–211.
Trieschmann, J. S. and G. E. Pinches 1973. “A Multivariate Model for Predicting Financially Distressed P-L Insurers,” Journal of Risk and Insurance, (September): 327–338.
Zangwill, W. 1967 -1968. “Minimizing a Function without Calculating Derivatives,” Computer Journal, Vol. 10, (May to February): 293–296.
Zemijewski, M. E. 1984. “Methodological Issues Related to the Estimation of Financial Distress Prediction Models,” Journal of Accounting Research, (Supplement) 59–82.
Editor information
Editors and Affiliations
Rights and permissions
Copyright information
© 1991 Springer Science+Business Media New York
About this chapter
Cite this chapter
Hershbarger, R., BarNiv, R. (1991). Classifying Financial Distress in the Life Insurance Industry. In: Cummins, J.D., Derrig, R.A. (eds) Managing the Insolvency Risk of Insurance Companies. Huebner International Series on Risk, Insurance, and Economic Security, vol 12. Springer, Dordrecht. https://doi.org/10.1007/978-94-011-3878-9_3
Download citation
DOI: https://doi.org/10.1007/978-94-011-3878-9_3
Publisher Name: Springer, Dordrecht
Print ISBN: 978-94-010-5726-4
Online ISBN: 978-94-011-3878-9
eBook Packages: Springer Book Archive