Your Money: No happy new year for with-profits

The recent modest revival of the stock market is slowly encouraging investors to return to equities. At the same time, many will undoubtedly be hoping that their battered holdings will soon start to appear a little less bleak.

The recent modest revival of the stock market is slowly encouraging investors to return to equities. At the same time, many will undoubtedly be hoping that their battered holdings will soon start to appear a little less bleak.

With-profits investors are waiting for life insurers to announce their latest bonus statements in the coming weeks, with Norwich Union kicking off on Tuesday. But investors expecting their funds to get back on track, delivering higher bonus payments, are in for a shock.

With-profits funds have slashed regular and final bonuses in the past couple of years, as their underlying asset shares have fallen in line with stock markets. But even though there has been some uplift in equities, the indications are that further bonus cuts are inevitable. And, even worse, the Institute of Actuaries is predicting that payouts will continue to fall for some years yet.

The "smoothing" effect employed by most with-profits funds - the reason many investors are attracted to them in the first place - is to blame for this situation. A little of the investment return is held back during a bull market so that, should a bear market strike, bonuses can be bolstered.

Bonus rates and payouts may have been cut in recent years, but many life offices haven't reduced them as much or as quickly as investment earnings suggest they should have done. And many insurers have made payouts higher than advisable in order to mollify maturing policyholders. So further cuts will be needed to balance this out.

Another problem for many with-profits funds is that they have reduced equity and property holdings in favour of fixed income to minimise the effect of falling equity prices and to prop up their own solvency levels. But if the equity market does see a sustained recovery, such funds will lose out, as equities tend to produce higher returns than fixed-income stocks in the long term.

On top of all this, Standard Life policyholders may be panicking over news that the life insurer is engaged in an ongoing row about its solvency with the Financial Services Authority (FSA), the City regulator. The row centres on new accounting regulations the FSA is introducing and the way Standard Life calculates its liabilities. The FSA's concern is thought to relate to the company's structure, because the entire business is pooled in its with-profits fund. Rather than the insurer lacking the capital needed to meet its liabilities - as was the case with Equitable Life.

m.bien@independent.co.uk