In the last 10 months, many external forces have imposed stress on the annuity world. The responses taken by insurers may suggest a direction for continued success.
Equity markets have slid 20% since their recent high in October 2007 and have experienced volatility as well. The immediate impact has been on variable annuities, which grew minimally in 1st quarter 2008 and were flat in 2nd quarter 2008.
Though that’s not good news to the VA industry, those numbers do show that sales today are not as dependent on equity returns as in past years–e.g., when the markets of 2000 and 2001 saw sales declines in double-digit percentages.
What is the fundamental difference between 2008 and 2001 that might explain this? A big part of the answer is the presence of living benefit guarantees on VAs, such as guaranteed minimum withdrawal benefits, guaranteed lifetime withdrawal benefits, guaranteed minimum accumulation benefits and guaranteed minimum income benefits. These features have the impact of allowing potential purchasers to feel comfortable with buying VAs, even during a period when they might not have done so in the past.
Obviously, other differences from 2001, such as demographic changes and decreased focus on defined benefit plans, are present too. But living benefits still account for some of the stable VA sales environment.
The increased focus on VA guarantees prompts another question: how are insurers managing the risk of the guarantees, particularly during volatile periods?
The vast majority of insurers writing VAs with living benefits are using hedging in one form or another. The volatile equity markets of the last 10 months have applied a significant test to the dynamic hedging of VA guarantees. But apparently, VA hedge programs are largely performing as expected, according to a recent Milliman survey of 16 of the top 25 VA insurers. The respondents were a mix of United States, European and Asian insurers representing $468 billion of assets under management. Most (88%) reported gains or unanticipated losses of 10 basis points or less.
As the sliding equity markets have made VAs less attractive to some potential annuity buyers, they have made traditional fixed annuities (FAs) and fixed index annuities (FIAs) relatively more attractive. Here, changes in investment yields have been even more important. Based on industry statistics, FA sales in 2nd quarter 2008 were up more than 50% over the same year-earlier period. FAs virtually doubled, but FIAs rose approximately 5%.