How to Measure the Financial Strength of a Life Insurance Company

There are four independent agencies that measure the historical, current and projected financial strength of insurance companies.

The financial strength of every life insurance company must be measured by one of the four independent rating agencies – A.M. Best, Fitch, Moody’s and Standard & Poor.

Each has its own rating scale, its own rating standards, its own population of rated companies and its own distribution of companies across its scale. Each agency uses numbers or pluses and minuses to indicate minor variations to help differentiate between rating classes.

Since each agency has its own set of rules and regulations, there is often a discrepancy in a rating from one agency to another. This is why you should consider a company’s rating from at least two different agencies before judging the overall financial strength of said insurance company.

Keep in mind that agencies can announce changes of ratings for any insurance company on any given day. This is both beneficial for the consumers and the insurance companies.

The elements that principally measure a company’s current financial strength are:

  • capital
  • liquidity
  • asset/liability values
  • ·and insurance/investment risks

When researching various insurance companies, do not solely rely on what insurance companies say about their ratings from these agencies. This is because companies are likely to highlight a higher rating from one agency and ignore a lower one from another agency, or select the most favorable comments from a rating agency’s report.

In order to use the ratings from more than one independent agency efficiently, you need to understand how each agency’s rating code differs from the others.

Below is an example on how each agency’s rating code differs:

  • A.M. Best = A+ is top rating out of 15 categories
  • S&P = A+ is 5th highest rating out of 24 categories
  • Fitch = A+ is 5th highest rating out of 19 categories
  • Moody’s = lacks an A+ rating and top rating is “AAA”

While rating codes of each agency may differ, the criteria used to reach these rating decisions have a large degree of commonality. They involve elements that are quantitative and elements that are largely qualitative.

Because a rating is an evaluation of the company’s ability to meet obligations maturing in the future, even the quantitative elements (which are typically based on past performance) must be tempered by qualitative judgments.

These four independent agencies not only measure an insurance company’s current financial strength, but they also gauge whether the company’s financial strength is likely to increase or decrease in the future.

When evaluating future financial performance, these agencies will focus on the following aspects of an insurance company:

  • Management structure and performance
  • Strategic plan for the future
  • Market position
  • Underwriting system and skills
  • Current marketing efforts
  • Competitive advantage(s)
  • Ability to finance

A full analysis and understanding of a life insurance company’s current and future financial positions requires much more information than just published financial statements.

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