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Exchanging Life Settlements for Mortgages as a Federal Stimulus Alternative

|Includes:Life Partners Holdings Inc (LPHI)

The link is a short elevator pitch a friend and I made in January 2010.  It never developed beyond what is there in the video. In terms of being a private start-up, there were good reasons it did not - relatively large initial investment, relatively low ROI upside, and it could take a many years to see returns.

That being said, it seems like a perfect business for the Federal government to carry out (not kidding).  Let me explain why.

Just like HUD offers people reverse mortgages, the government could tap into another financial asset many Americans have - their life insurance policy. During the period 1995 to 2008, life insurance sold to individuals totaled over $20.9 trillion and the lapsed and surrendered life insurance over that same period totaled $9.3 trillion.   Life settlements are the secondary market for life insurance that involves the policy holder forfeiting their policy in exchange for cash.  The total outstanding life insurance policies held as settlements approximated $31 billion as of 2008. That is a mere 0.26% of the estimated total $10.25 trillion of individual in-force life insurance.

When one financial asset class bubbles, others tend to bubble along with it.  Putting this amount of money into perspective:

  • The market cap of all publicly traded companies in the world is roughly ~$50 Trillion
  • The world annual GDP is ~$75 Trillion

Life insurance in America was a bubble, a bubble that has unwound ~.26%.

Rather than a need for cash, a great many Americans have the need for help with their mortgages.  As the labor market remains weak, and people are locked into underwater, or at a minimum, financially inopportune mortgage deals, many are struggling to pay their mortgages. Residential real estate delinquencies were 10.18% in Q2 2011, more than double their 2008 rate.

This unfortunate situation leaves an opportunity in the life settlement market.  If an organization took the time to do analysis on life insurance holders who also have mortgages, I'm sure they could find a vast list of candidates whose current financial circumstances likely make them willing to surrender their life insurance policy for an up-front payment of their mortgage. 

Mortgage Holder's Perspective

For these people the piece of mind from finally having sole ownership of their most tangible asset (their home) would be invaluable.  In addition, it would free them of the burden of paying their mortgages and the premiums on their life insurance.  Rather than struggling with interest payments, their cash would be freed for discretionary spending, subsequently raising their standard of living.

Investor's (Government's) Perspective

From the investor's perspective, they would eventually be collecting the maturity of the insurance policy.  Because hypothetically, this could be a public program, the government could expand its' candidate list to include even expected-return-questionable clients.  If the pertinent analysis performed (longevity risk, interest rate risk) by the investing organization is at least roughly accurate, the profit distribution from these investments converge to an annualized rate as the number of total settlements in the portfolio increases. 

Low interest rates means that the offers to people could be more enticing than otherwise, and it is my personal belief that many people would be interested in an exchange.  Compared to other federal stimulus programs the cost of these exchanges would be relatively low, and could even prove to be a profitable investment. 

Some very high-level assumptions to make an estimate of maximum total up-front cost:

Average value of mortgage exchanged: $100,000
Number of American over 65 years old: 36 Million
Percent Holding Life Insurance: 50%
Percent 65+ year olds holding mortgages: 15%

If every single person were eligible for the exchange, that would be a total initial investment of $270 Billion.  While this is obviously a daunting number, it is an absolutely maximum cost, and is still less than half the cost of either of the QE programs.  Further, it is an investment, and when the policies mature, the government would collect on the maturity value. The government could easily price offers so their expected portfolio return is greater than the returns from Treasuries. 

The Perspective of Economic Greater Good

Assets tend to bubble in tandem.  There is no doubt, in my mind, that as stock market assets were bubbling in the 90's and as real estate prices were bubbling after 2000, so did the value of life insurance policies.  In a strong labor market, people have a higher perception of their actual earnings potential.  Life insurance policies are sold indiscriminately, and if a person does have disposable financial assets, it does sound like a good idea - to assure your families financial security if something were to happen.  But if your own earnings power and circumstances are to change while you still are on this earth, you should be flexible enough to reallocate your assets.  In this case, the government just so happens to be the most able facilitator of this exchange. 

The banks would finally get the certainty of placing values on these mortgage assets - they would be receiving cash.  This cash would help the banks capital ratios, allowing them to lend more.  By keeping people in their houses, supply would be taken off of the market, thus helping real estate prices.  The combination of banks lending more and decreased market supply, would help those who choose to keep their mortgages by buoying real estate values.  The newly freed liquidity, no longer being thrown by individuals at their own mortgages, would stimulate discretionary spending, and thus the economy.  The government could target settlements for a healthy future profit scenario, or depending on their focus, loosen their NPV models and help unleash liquidity by freeing people of their mortgage burden. Finally, the mortgage holders would still have the freedom to choose whether or not they accept the exchange offer, so if they weren't interested, "no harm, no foul".


Mortgages were a bubble, life insurance was a bubble.  One has unwound the other has not.  An institution could help facilitate the balance of unwinding by exchanging mortgage cash-buyouts for life settlements.  I understand that there could be potentially huge conflicts of interests in terms of social programs, but from a strictly financial point of view it is a program that could make sense.  Certainly I realize that I am looking past intricacies of the life insurance and life settlement industries, but conceptually, I think it is something that could be explored.


Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.
Stocks: LPHI