“You Don’t Manage by Models.”

An astute judgment call helped the nation's largest life insurer steer clear of the subprime crisis. An interview with William J. Wheeler, EVP and CFO, MetLife Inc.

You haven’t mentioned accounting.

I understand accounting about as well as a layman can, but I have to rely on people who work for me about our accounting policies, as well as actuarial issues, which can be very significant. You have to realize that this is a team sport.

How did your risk-management function hold up during the financial crisis?

I don’t want to sound Pollyannaish, but we came through it pretty well. A lot of people like to say that risk management is all about having great economic-capital models and value-at-risk models. We’ve always taken a different attitude. We have those tools, but they’re just tools. You don’t manage by models; you have to make judgments. Do you just rely on the rating agencies to tell you what’s a AAA bond, or do you do your own credit work and make your own credit calls? That’s what I call real risk management, and we did that.

How did you avoid the subprime meltdown?

We started to reposition our portfolio in 2004, and we reduced our exposure to anything related to the housing cycle. Then, in the summer of 2005, our chief investment officer and his team made a presentation to the board. They said that we were in a housing bubble and that the subprime market had really deteriorated. We continued to buy Alt-A [mortgage-backed securities], but we mainly bought super-senior Alt-A, and we almost stopped buying CMBS [commercial mortgage-backed securities]. You can argue that maybe it was a year early, but it was a great call.

When the crisis hit, we owned $2 billion of subprime RMBS [residential mortgage-backed securities]. Most of the vintages were from 2005 and earlier. The old vintages of subprime have held up well. Our actual losses from those particular securities are quite low.

Were you concerned about the outcome of the government’s stress test?

I wasn’t very worried, but I was curious about what would happen. For instance, we originate a lot of commercial mortgages, and today we have roughly $35 billion of commercial mortgages outstanding. People are worried about that asset class, and we spend a lot of time explaining that the quality of our portfolio is very high. So we were curious: Would the federal government agree with us? The answer is that they projected losses of a little over 2% in our commercial mortgage portfolio over the next couple of years — 2% of $35 billion, which is $700 million. That was not inconsistent with our own analysis.

Can you put that 2% in perspective?

Relative to the other financial organizations in the stress test, it was the lowest number by far. Their average loss in that asset class was more than 10%.

How big is MetLife’s overall investment portfolio?

We have a $338 billion general account, which makes us one of the largest fixed-income investors in the world.

MetLife backs a proposal by the American Council of Life Insurers [ACLI] to stop using the rating agencies’ ratings for residential mortgage-backed securities. Why?

Our capital adequacy is measured by risk-based capital, so we have to hold a lot more capital against something that’s rated BB versus AAA. The rating agencies moved virtually every nonagency RMBS from 2006 on — whether it was subprime, prime, or Alt-A — from AAA to below investment grade. That caused a significant capital strain for everyone in our industry that holds these securities. Rather than go through [an appropriate] analysis, the rating agencies just decided to downgrade everything. The ACLI’s proposal is to hire an outside firm to analyze these securities and come up with new risk ratings that are better linked to what the real losses are likely to be.

MetLife holds around $43 billion in RMBS?

That’s right. Most of that is agency RMBS, which is not affected by this. These are relatively short securities. Eventually, most of them will pay; very few will default. Losses will be relatively nominal, but it’s going to be a pretty big capital drain for two or three years.

What is your outlook for the economy?

We’re expecting a fairly weak recovery. Usually you get a much bigger bounce coming out of a recession, but we think that this bounce will be relatively modest, because consumers are probably not going to spend the way they did during the last 10 or 15 years. Before, the savings rate was close to zero; now, consumers are saving. But higher savings should help us. People are still buying insurance products, and if anything, those products are becoming more important to them.

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