Flattening sovereign yield curves, particularly in the U.S. and Germany, are depriving insurance companies of cash-flow return on their investments. I've written about the dangers posed by flat sovereign yield curves to global capital infrastructure before, and falling yields for U.S. and German notes today provided a good excuse to raise this important issue again.
The problem this poses for insurance companies is also a conundrum for the Federal Reserve. Since the failure of Lehman Brothers in 2008, the Fed has lowered short rates and used quantitative easing and operation twist to lower long rates. The idea was that eventually, the cost of capital would decline enough that lenders would lend and borrowers would borrow, especially for homes and autos. That would increase economic activity, allowing long rates to rise and widening yield spreads across the curve.
The problem is it hasn't worked, and it doesn't look like it is going to work anytime soon. Now that the private capital markets have pushed the 10-year Treasury below 1.5%, the best another operation twist can do is maintain those levels. But that will not be enough to stimulate borrower demand, especially for mortgages. Therefore, it's logical for the Fed to broaden the classes of assets banks can park on their balance sheets to include more mortgage-related products, with the goal of driving mortgage rates down even faster.
The par 30-year fixed-rate mortgage is 3.5% at Wells Fargo (WFC), which has become the marginal rate setter for U.S. mortgages. That rate could be driven to 3% or lower very quickly if the Fed makes that a target. For the insurance industry, this process will set the clock ticking on how long it can continue to operate without causing imminent solvency issues.Maintaining insurance industry viability, however, is not the Fed's direct mandate. If the industry becomes insolvent because of a flat yield curve, it will almost certainly have to be given access to the Fed's capital in the future. That process may also involve a TARP-like federal intervention, and that could require nationalizing the industry, similar to what happened to AIG (AIG) in 2008.
Select the service that is right for you!COMPARE ALL SERVICES
Jim Cramer and Stephanie Link actively manage a real portfolio and reveal their money management tactics while giving advanced notice before every trade.
- $2.5+ million portfolio
- Large-cap and dividend focus
- Intraday trade alerts from Cramer
- Weekly roundups
Access the tool that DOMINATES the Russell 2000 and the S&P 500.
- Buy, hold, or sell recommendations for over 4,300 stocks
- Unlimited research reports on your favorite stocks
- A custom stock screener
- Upgrade/downgrade alerts
Jim Cramer's protege, David Peltier, identifies the best of breed dividend stocks that will pay a reliable AND significant income stream.
- Diversified model portfolio of dividend stocks
- Alerts when market news affect the portfolio
- Bi-weekly updates with exact steps to take - BUY, HOLD, SELL
All of Real Money, plus 15 more of Wall Street's sharpest minds delivering actionable trading ideas, a comprehensive look at the market, and fundamental and technical analysis.
- Real Money + Doug Kass Plus 15 more Wall Street Pros
- Intraday commentary & news
- Ultra-actionable trading ideas
Our options trading pros provide daily market commentary and over 100 monthly option trading ideas and strategies to help you become a well-seasoned trader.
- 100+ monthly options trading ideas
- Actionable options commentary & news
- Real-time trading community
- Options TV