NEW YORK (Reuters) Nov. 26 – Many U.S. life insurers are likely talking about possible mergers amid the economic downturn, but it may be a tough time to do many deals.

Life insurer companies could be in for losses from their commercial real estate portfolios and from guarantees in their variable annuities products. And volatile markets could lead to more investment losses.

In recent months, companies have scaled back the size of investments, trimmed dividends to hold on to cash and girded for possible rating downgrades, which would trigger higher capital requirements.

Investors have pulled out of the sector in droves, sending the Dow Jones U.S. life insurance index .DJUSIL down nearly 60 percent since the beginning of September.

Shares of Genworth Financial Inc have fallen about 90 percent in that period, Prudential Financial Inc is down about 75 percent, while MetLife Inc is off more than 55 percent.

As insurers look for ways to get through the crisis, consolidation could be one option. But experts have warned that mergers are not easy to do in the current environment.

It could be difficult for buyers to know the depth of a company’s problems, and few firms have the resources to buy something big, especially with their stock prices so low.

Moreover, potential buyers including foreign companies have other choices. American International Group Inc , for one, is trying to sell its assets, including its U.S. life business and part of its foreign life operations.

“There are going to be a lot more conversations than normal,” said Donald Light, an insurance analyst at Celent. “If the losses keep coming, the likelihood of acquisitions is going to go up.”

“At some point they may in effect say, ‘OK, to survive we need to be acquired,’” Light said.

One expert familiar with smaller companies in the sector — with market capitalization’s in the $3 billion to $4 billion range and smaller — said there were a lot of discussions going on in that group.

“You could have some of them looking for injections of capital,” said the expert, a financial services specialist in the private equity business who spoke on condition of anonymity. “You could have some of them trying to diversify their books of business more actively.”

POTENTIAL BUYERS

Potential buyers in the sector could include companies like MetLife, which has a current market capitalization of roughly $19 billion and is one of the largest life insurers.

MetLife recently moved to bolster capital with an offering that raised $2.3 billion. At the time, it said the sale would boost its balance sheet and give it some flexibility to pursue acquisitions as opportunities arise.

It did not discuss possible targets or deal sizes, but last month the Wall Street Journal reported MetLife had approached Hartford Financial Services Group Inc about a merger, but those talks did not lead to a deal.

Principal Financial Group Inc has been seen as an attractive takeover candidate due to its dominant 401(k) market share, but it appears less likely now, Goldman Sachs analyst Christopher Neczypor said in a recent research note.

“We believe the current lack of available capital across the industry likely means the number of potential acquirers has (been) dramatically reduced,” he wrote.

Capital and diversification were going to be the key drivers behind any mergers right now, said Lawrence Kaplan, a lawyer in the financial institutions group at law firm Paul Hastings.

“These are going to be almost offensive type of transactions, to hunker down to get through this economic uncertainty,” Kaplan said. “It’s not necessarily going to be, let’s be the insurer to everyone in the world. It’s making sure we can survive so that when growth opportunities present themselves, we can participate.”

EXPLORING EVERYTHING

Life insurers are trying to boost their capital levels from other sources as well. Some, such as Hartford and Genworth, have applied for funds under the U.S. Treasury’s $700 billion Troubled Asset Relief Program (TARP) rescue program.

The Treasury is expected to consider insurance company applications by the second week of December, Kaplan said, citing his conversations with regulators.

Some life insurers may also interest private equity firms, which in normal times are not drawn to the sector.

“Many of them are trading at 0.5 times book, 0.6 times book,” the financial services specialist said. “That might be an attractive enough case for private equity if somebody’s looking for a capital injection.”

The use of any additional capital will likely depend on management and the kind of bets it is willing to take. And some may want to use the money to strengthen balance sheets and focus on survival rather than taking big risks.

“People need to be exploring everything at this time because we are in such uncertain times,” Kaplan said. “Whether they pull the trigger is a different issue.”