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Appreciating The Value Of The Annuity's Insurance Elements

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For nearly two decades, a large part of the financial press has trashed annuities. They have claimed annuities are too expensive, offer worthless and unnecessary benefits, and are generally not good for consumers.

Today, these same financial writers are trashing the annuity industry for being too generous with benefits offered to annuity purchasers and they wonder if the industry can survive such expensive guarantees.

If there were a Nobel Prize for talking out of both sides of the mouth, these financial writers would win, hands down.

Let’s break down the issues. Are the guarantees that have been provided to purchasers of annuities expensive to the insurers issuing the contracts? You bet.

Could anyone have projected a financial meltdown that would see the various stock market averages drop to the extent they have? Of course not.

Will annuity insurers suffer financial pain as they fulfill the guarantees they sold? Again, you bet. But through all this pain, the guarantees offered with various types of annuities will do exactly what they were designed to do: protect consumers against unforeseen hazards.

The financial press has always viewed annuities as merely a form of tax-deferred investment. It has never understood the annuity’s insurance elements and has refused to give these elements any value. Now that these insurance features are likely to provide salvation to large numbers of annuity owners, the financial press is crying doom for annuity insurers. So much for even-handed journalism.

We have often noted in these columns that the true nature of annuities as insurance products has been poorly understood. In many instances, annuities have been sold merely as tax-deferred investments, with little discussion of the insurance benefits inherent in the product.

Certainly, the development of special guarantee riders in the past 15 years has prompted greater discussion of the insurance elements. Yet, the financial press has routinely criticized these guarantees as unnecessary, perhaps in the mistaken belief that the stock market will always rise.

The suffering of annuity insurers is likely to be prolonged and perhaps even get worse as the current financial tragedy plays out. Will the industry survive? You bet. The industry may be leaner, more consolidated and more aware of the cost of the benefits attached to its products, but it will survive and eventually even thrive, as in the past.

The reason for this prediction is that annuities are absolutely necessary to financial well-being. The fact that annuities sold over the past two decades are now, in this financial crisis, performing exactly the function they were designed to perform speaks volumes about the product’s value.

Future iterations of annuities will undoubtedly be re-priced, at least for the guarantees attached to the product, taking into consideration the current crisis that the industry’s actuaries could not have predicted. Despite what is likely to be higher prices for these guarantees, they will still provide security to investors that are almost impossible to obtain with any other type of financial product.

During the Great Depression, average Americans changed their habits in reaction to the closing of the banks, massive unemployment and lack of financial liquidity. This will happen again in response to the current financial crisis.

It is very likely that consumers will observe the benefits of annuity guarantees and flock to the products in the future to avoid the problems of owning investment vehicles without insurance guarantees. This is likely to be a boon to the life insurance industry in general and to the annuity segment of it in particular.

Where does the annuity industry stand today? A statement by Winston Churchill describing the status of World War II sums it up. “This is not the beginning of the end,” he said, “but it is the end of the beginning.”

That, we believe, is the current stage of today’s financial crisis. There will be more bad news; more household names that will go under; more pain and suffering will follow for everyone.

But those in the annuity industry can look to the future in confidence that the products it designed and sold did exactly what they were designed to do; and that huge numbers of Americans have had their retirements protected and have received the benefit of their bargain with our industry. It would be nice if other segments of the financial services industry could make similar claims.