(FORTUNE Magazine) – THE LIFE INSURANCE industry, that source of death benefits, annuity payments, and other purported dependables, isn't supposed to have earthquakes. Yet it fissured in mid-April, when regulators in California seized a big, severely wounded insurer belonging to First Executive Corp. of Los Angeles, and New York regulators mobilized to impound another. The insurers -- both named Executive Life -- have $15 billion in stated assets, which makes this by far the largest collapse in the industry's history, nearly four times the size of Baldwin-United's $4 billion fall. This mess also appears to fortify the notion, much discussed over the past year, that insurance companies are poised to go the way of the savings and loans. Though dramatic, this view definitely overstates the problem. The industry has a stronger mix of companies than did the S&Ls, and fewer knaves to cause trouble. Nonetheless, all life policyholders, no matter what carrier is responsible for their coverage, should view the First Executive catastrophe as a stern warning that they cannot take the safety of their policies for granted. Seizures of small life companies occur often, without much public notice. Last year 30 were taken over. The crunch now is that the difficulties of a few big insurers are making news. First Executive is the prime exhibit, but another conspicuous example is Equitable Life Assurance, a $60 billion institution that is the industry's third largest. Its afflictions include a deeply distressed real estate portfolio. Equitable has acknowledged that it is searching urgently for a capital infusion of $500 million to $1 billion. The outlines of the First Executive crisis make clear how costly a failure can be to policyholders and to the industry. On their books, the two Executive Life companies have policyholder liabilities of $13 billion and an uncertain amount of assets available to cover them. If there is a shortfall, some of the burden will surely fall on the policyholders. They are protected to an extent by a bailout system that the life industry has in place. The system, though, is weak and convoluted. In the interests of protecting its own future, the industry may in the end have to construct ad hoc arrangements that will funnel more money to the policyholders. That's what it did after Baldwin-United failed in 1983. The industry's cost then was a relatively light $50 million. This time it is easy to imagine a bill 20 times that much. One reason the damage could mount is First Executive's idiosyncratic profile. The company is actually a kind of cross between an insurer and a bank. It made its mark by offering deposit-type products that paid above- market interest rates, which it covered by investing heavily in junk bonds that paid still higher rates. At the end of 1990 the company owned junk with a carrying value of $9 billion, an estimated market value of $6 billion, and a realizable value probably well below that if a sale were forced. Though junk always threatened to wedge First Executive into deep trouble, Chairman Fred Carr, 60, elected to go pell-mell for growth. He paid his high rates principally on annuities and on certain types of big-dollar products, including guaranteed investment contracts, known as GICs, sold typically to companies investing their employees' savings. First Executive also became the leading seller of a kind of annuity called a structured settlement. When a + court case involving a serious physical injury to a plaintiff is settled, the plaintiff often agrees to be compensated by a specially tailored, or ''structured,'' series of payments that stretch far into the future. The defendant may then satisfy his obligation with an annuity from an insurer like First Executive that takes over the responsibility for making the payments. Are you getting the picture? Some of those on the hook at First Executive are seriously disabled. Fred Carr has long had a host of severe critics, some of them predicting he would surely meet disaster. But he slid along with relative ease until late 1989, when the world soured suddenly for his pal Michael Milken, whose best customer he was, and for the junk bond market. Many knowledgeable Executive Life policyholders began pulling out money by surrendering their policies, withdrawing the cash values, or signing up for policy loans. But many didn't have the sense to escape, or couldn't: Holders of annuities that are making payments, of retirement annuities bought by corporations to cover their pension obligations, and of GICS are locked in by their contracts. Even so, cash poured out and new business dried up. By early 1990, First Executive appeared to be facing grave, and possibly intractable, problems. But it took a full year for California and New York regulators to act. When they finally stirred this spring, First Executive had suffered surrenders and withdrawals of about $5 billion, reported a loss for 1990 of $366 million, and acknowledged that the surplus -- or equity -- of the Executive Life companies had dwindled to a pittance. In late March the company's outside auditor, Price Waterhouse, also said that various regulatory and financial pressures had raised ''substantial doubt'' as to whether First Executive could continue as ''a going concern.'' So PW refused to express an opinion on the 1990 financial statements. In the regulatory moves now under way, Executive Life of California has been put into conservatorship, a legal step signifying that state regulators have taken over responsibility for running the operations and for figuring out how to deal with all those policyholder liabilities. The regulators could get some help from Altus Finance, a big French financial services concern, which is interested in buying Executive Life. Meanwhile, the regulators will be trying to staunch the flow of blood from the company. Hoping to buy time, they immediately placed a moratorium on customers cashing in or borrowing against their policies. They may try to disqualify certain liabilities -- particularly $1.8 billion in exotic GICs that Carr and Milken cooked up and that may not be considered policies under California law. And they are hastening to assess Executive Life's assets. In a supreme irony, the expert who has been hired to appraise the junk portfolio is Joseph Bencivenga, who once headed Drexel Burnham Lambert's junk bond research and now works at Salomon Brothers. On a second front, the Executive Life companies are continuing to make normal payments to annuitants and beneficiaries -- and in the short term there is sufficient cash to do that. But the question looming for the regulators is just how much money can be extracted from the Executive Life junk bond portfolios and at what speed. The answer will depend partially on the health of the junk market and the urgency with which the Executive Life companies need to muster cash. But if the regulators determine they can't cover the liabilities, they will turn to the so-called state guaranty funds -- a jerry- built system of safety nets. All the states but Colorado, Louisiana, and New Jersey have life insurance guaranty funds. Pots of money do not exist, however. They are assembled when needed, by means of assessments made on the life companies operating in each state. All told, the funds have the authority to make assessments totaling about $3 billion a year -- a big figure when compared with the industry's estimated 1990 net income of $18 billion. IN GENERAL, each state takes care of its own residents and would make an assessment only if it had Executive Life policyholders to rescue. Any policyholders in states that do not have guaranty funds will be left out in the cold. The states where Executive Life did the most business are California, Florida, Illinois, New York, and Texas, which together have an assessment capacity of about $900 million a year. But California will pay only 80% of what an individual is owed, and only up to a maximum of $250,000. New York imposes no haircut and pays up to $500,000. That amount, however, will not satisfy all Executive Life policyholders. An affluent lot in general, they include many with policies worth much more than $500,000. Among others likely to be short-changed are the GIC policyholders that did their business with Executive Life of California. That state's guaranty law bars coverage for GICs, on the ground that these are bought by financial sophisticates who should know better than to entrust their money to unreliable insurers. New York's guaranty fund, however, covers GICs up to $5 million. Those receiving payments under structured settlements sometimes have safety nets of their own. Take Charles R. Wallace, 21, of Chicago, who lost a leg seven years ago when he was hit by a police car. Under the settlement he made with the city, which in turn bought a First Executive annuity, Wallace is currently getting $3,500 a month from Executive Life of New York, and the payments will increase to $17,500 a month in 1997. He is also due several lump sums, including a $1,250,000 installment in 2014. If he lives to 73, his life expectancy when the settlement was made, his payments from Executive Life are scheduled to total $13,295,000. But what if Executive Life cannot pay? Fortunately, in 1985 Wallace's lawyer, Philip Corboy, also of Chicago, secured the city's written agreement that it would reassume responsibility for the payments if Executive Life failed to make them. ''I just thought that was good lawyering,'' says Corboy. ''I wasn't smart enough to have doubts about Executive Life.'' In fact, he later bought a couple of $10,000 Executive Life annuities for his grandchildren to help cover their college expenses. So the Corboy grandkids and the city of Chicago could conceivably line up together to tap the guaranty funds. BEYOND THE FUNDS stands a last resort: the life insurance industry in its totality. In the Baldwin-United precedent, the industry, to preserve its reputation as a haven for customers' money, contributed its $50 million to a $300 million rescue partly financed by brokers who had sold Baldwin-United policies. In the end, no policyholder lost money, though some suffered delays in getting their due and also earned lower interest rates than they had been promised. At bottom, what First Executive tells you is that the rates offered by insurers to attract business may say more about their safety than the letter grades given the companies by rating agencies. If a promised interest rate on a policy looks too good to be true, that's just what it might be. The same goes for the stories that aggressive insurers tell their shareholders, and no one should know that better than those who own First Executive stock. In mid- 1989 the price was $17 a share. This year in April, the stock was selling for less than 50 cents. The man who greased the slide, Fred Carr, owns 1.1 million shares. So perhaps there is some justice visible in this mess -- but not much.