“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.

When the federal government subjected the country’s 19 largest bank holding companies to a stress test last spring, one company in the test stood out: MetLife. That’s because MetLife is better known as a diversified life insurer, the nation’s largest. With assets of $535 billion, it may be too big to fail, but failure is an extremely remote possibility for MetLife, which passed the stress test with ease (it was the only one of the 19 banks that didn’t take money from the government’s Troubled Asset Relief Program). Not that MetLife has been immune to the recession: operating earnings of $1.6 billion for the first nine months of 2009 were down 39% from the same period a year ago, despite an 18% improvement in the third quarter.

A healthy respect for risk is key to the insurer’s strength. “As an insurance company, we always manage risk, but in the last five years we’ve really taken that to a different level, in terms of how we analyze it, how we measure it, how we report on it, and how it drives our strategies,” says William J. Wheeler, MetLife’s CFO and executive vice president. A big payoff from the increased vigilance was that, unlike so many other investors, MetLife saw the housing bubble inflating and reduced its exposure to the bubble before it popped.

The 48-year-old Wheeler was an investment banker for 10 years before he joined MetLife in 1997 as treasurer to help with its demutualization and initial public offering. “But after the IPO in 2000, I was advised that if I wanted to move up, I needed to get broader experience,” he recalls. Subsequently, he became CFO of the insurer’s institutional business before assuming the finance chief’s chair in 2003. “I think of a CFO as being a little bit of a jack-of-all-trades,” says Wheeler, adding with a laugh, “You could also add to that ‘master of none.’”

How did your background as an investment banker prepare you for MetLife, first as treasurer and ultimately as CFO?

The transition was very interesting. I was hired to help guide MetLife through demutualization and prepare it to be a public company. I had had experience doing that at Donaldson, Lufkin & Jenrette, where I covered the insurance industry. DLJ’s former parent, The Equitable, had gone through demutualization and I had worked on that. As treasurer, the skill sets are similar in terms of capital-market transactions and so on, but there’s a very big difference between being an investment banker and a CFO. Obviously, as a CFO you still pay attention to the capital markets and financial transactions, but there are lots of things that being an investment banker does not prepare you for at all.

Such as?

For one, managing a lot of people. Investment bankers aren’t known for their great management skills. And technology. The importance of technology for a major financial-services company is huge, and the amount of our budget that is spent on technology initiatives is huge. I would also include a lot of the softer aspects of the job, such as human resources.

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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