One of the issues that nag at variable annuity advisors and distributors concerns the strength of the new guarantees, including living benefit guarantees, which are being positioned as critical to a client’s retirement income plan.
Specifically, will the guarantees perform as promised?
Now comes a research report from LOMA, Atlanta, that helps shed light on that question. Called Managing Guarantee Risk on Variable Annuities, an Introduction, it contains technical information geared for industry professionals who have been trying to understand the VA guarantee explosion.
Written by Jean C. Gora, manager of research and the Information Center at LOMA and reviewed by other LOMA experts and also several experts from the Society of Actuaries, Schaumburg, Ill., the 25-page document says 3 technical processes are needed to support VA guarantee management. These are stochastic modeling, financial engineering and hedging (see box below).
Further, the report says, to be successful in using these techniques, VA providers must have “significant” intellectual capital in their actuarial and investment departments and also “significant” systems resources, both of which are expensive.
Few insurance decision-makers outside of actuarial and investment departments are familiar with these concepts, LOMA says.
This lack of awareness is apparent, despite the fact that VA guarantees have become big business. (One trillion dollars in VA assets likely have some form of death benefit guarantee, and $500 billion of such assets may carry some form of living benefit guarantee, says the report, which extrapolated the data from the 2005 Annuity Fact Book, from National Association for Variable Annuities, Reston, Va. The report also says the independent distributors who now sell a lot of VAs believe they need the guarantees to make the sale.)
The lack of awareness is also evident despite the fact that VA guarantees present insurers with many risks (investment risk, interest-rate risk, etc), and customers with, as the report puts it, the need to know that their “VA funds will be available at withdrawal at levels specified under the guarantees.”
LOMA says it issued the report to fill the knowledge gap in this area.