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What's Limiting Innovation In The World Of Index Annuities

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The business environment usually drives change. In the life insurance world, for instance, years of rising interest rates that negatively affected cash value life sales drove insurers to create universal life products.

The millennium bear market resulted in an explosion of variable annuities offering risk reduction riders.

And, the fixed annuity world decided to make index-linked annuities available when the developers’ crystal ball foresaw a prolonged low interest rate period that would penalize stated-rate annuity returns.

However, aspects of today’s environment are limiting the development of truly cutting edge products in the index annuity world. The result is that carriers are now merely tweaking existing concepts.

Which aspects present hurdles?

For one thing, interest rates did not act like they were supposed to. Usually in an economic recovery, short-term rates rise first followed by a period of increasing long-term rates, but this time the second part didn’t happen. Short rates went up; long rates were stagnant.

This is a problem because higher long-term interest rates would have given index annuities more income to fund the flexibility to experiment with new crediting methods.

Yes, there were a few attempts to introduce new crediting strategies this year. However, the low-rate environment meant these attempts were not able to become sufficiently competitive and were not copied by the industry.

Low long-term interest rates retarded development of new products.

Then there is the desk drawer regulatory rule informally known as “10/10.” This had an impact on product development. Essentially, it limits annuity surrender periods to a maximum of 10 years and the first-year charge to 10%.

Even though the rule is only being used by a handful of states, its impact is being strongly felt. Often, the net result is development of products with simpler and older designs, fewer bells and whistles, and less innovation.

An exception would be one Midwestern carrier’s creative response. It met 10/10 criteria by using a death benefit bonus/persistency bonus rider. This fascinating new rider provides an immediate bonus on the death benefit portion that begins converting to a cash value persistency bonus beginning in policy year 11. The annuity owner receives a bonus without the higher surrender charges typically associated with traditional bonus products.

That innovation aside, the net effect of 10/10 on cutting edge products has been a limiting one.

Then, too, there is the combined effect of having high bank interest rates and low annuity interest rates available at the same time. This polarity has caused many index annuity carriers to try the spaghetti-against-the-wall approach to product tweaks.

However, none of these truly represent thinking outside the box. Instead, the tweaks are rather like applying bandages to an existing package.

For example, some index annuity carriers have borrowed guaranteed benefits from the VA side by offering guaranteed lifetime withdrawal benefits (GLWBs) on their index annuities and, in 3 instances, offering guaranteed minimum death benefits (GMDBs). Can a guaranteed minimum accumulation benefit (GMAB) be that far away? A couple of index annuity carriers have even started emulating traditional fixed multi-year guarantees annuities (MYGAs) with their fixed bucket strategies.

There are new ideas waiting in the wings–innovations that hopefully represent a new direction for index annuities. Several carriers we speak with have product concepts that will stretch the existing playground. What is needed is a business environment that permits carriers to regain the cutting edge.


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