Failure of Executive Life (1991)
A California life insurer seized in April 1991 after its high-yield bond portfolio collapsed, the textbook case of cheap liabilities funded by risky assets.
Executive Life built its 1980s growth on annuities and savings contracts crediting above-market rates, funded by a portfolio made up largely of high-yield bonds issued through Drexel Burnham Lambert. The mechanism was simple: the extra return promised to policyholders existed only by carrying credit risk that the balance sheet did not reserve for, since the risk premium was booked as earned income. When the market for those bonds collapsed in 1990, defaults ate into capital, and the publicity around the losses set off a wave of surrenders the insurer could meet only by selling its securities at the bottom. The failure shows that a life insurer can suffer a run much like a bank's, and that an unusually high credited rate is often the first sign of an unusually risky asset.
On April 11, 1991, California Insurance Commissioner John Garamendi seized Executive Life Insurance Company and placed it in conservatorship; its New York subsidiary was seized by the New York regulator on April 16, 1991. The sale of the bond portfolio to a group led by Altus Finance, a Crédit Lyonnais subsidiary, later led to prosecutions, resolved in 2003 with guilty pleas and more than 770 million dollars in payments.
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