What lies ahead as the index annuity industry, now nearly 12 years old, enters its teenage years? Here are some factors to consider.
The NASD factor. In August 2005, the National Association of Securities Dealers, in its well-publicized Notice to Members 05-50, changed the industry landscape.
At the suggestion of the NASD, many broker-dealers began requiring their affiliated registered representatives to sell indexed annuities through the B-D rather than outside the B-D. In many cases, B-Ds limited surrender charges to 10% and 10 years, and limited commissions to a level consistent with other broker-dealer-sold products. Some B-Ds required simpler product designs. They also applied company rating requirements to selected products.
In the process, “clean and simple” has become the characteristic of the leading index annuity products. This has shuffled market share of some of the top players and changed some practices, too. However, the industry has adapted.
The insurance regulation factor. The National Association of Insurance Commissioners is also moving to tighten regulation of index annuities.
With the leadership of the Iowa and Minnesota insurance departments, initiatives are proceeding to strengthen model regulations in the areas of suitability, marketing materials, and agent training.
The leading index annuity insurers, representing over two-thirds of the industry, have already committed to business practices that would be expected to meet requirements of the anticipated regulatory changes. Any new regulations should have only a limited impact on the industry.
The product identity factor. The industry has taken the initiative to rename the product as a “fixed index annuity” (FIA) in lieu of equity index annuity (EIA), its original name. The purpose is to reduce misperceptions by purchasers that the product is an equity product. This certainly does not solve all communication problems, but it is a big step in the right direction.
What of the future? Index annuities have established a solid position. According to various industry figures, the product now accounts for roughly 40% of fixed annuity sales and 13% of all annuity sales. They should be expected to maintain that position.
Although other regulatory actions cannot be predicted, the industry’s current resilience and repositioning suggest it has the capability to adapt to new requirements.
By all accounts, sales by independent agents have dominated distribution.
Sales through banks have shown attractive growth and should grow more strongly once the flat yield curve is replaced by a more favorably shaped positive yield curve. The focus on clean and simple products will also fit well in the bank market.
There will be specific requirements for agent training prior to selling index annuities. This should not be burdensome and should serve to strengthen the industry’s image and the trust placed in it.
As is common with products in the teenage stage of the development cycle, the most significant changes will be in added benefits. Several insurers now offer guaranteed lifetime withdrawal benefits (GLWB) in their index annuities, and many more can be expected. These features guarantee the availability of specified lifetime withdrawals regardless of amount of indexed interest credited.
Design differentiation will be important to insurers. The GLWBs should position index annuities in the mainstream of retirement income products as the insurance industry responds to the emerging needs of aging baby boomers. (In fact, GLWBs may emerge as the leading retirement income product, whether on a variable annuity, an index annuity or a mutual fund.)
However, consumers also need immediate annuities and deferred income annuities. A share of these products should be indexed because of the upside potential they provide for retirees who do not want to put principal at risk.
A significant concern of retirees is the risk of needing long term care. Combination products that integrate LTC benefits into annuities are being offered on fixed-rate annuities; the combination approach fits equally well with indexed annuities. This convenient method of providing reduced-cost LTC benefits should be expected to be a standard optional benefit on indexed annuities.
Going forward, the greater unknown is the size of the market and the rate of growth. Indexed annuity sales are heavily influenced by perceptions about equity market returns and the shape of the yield curve. If equity markets show stability and interest rates return to a positive slope, indexed annuities will resume their growth and possibly increase their market share.
The major question is: When will the pieces fall into place?