One of the challenges in evaluating indexed universal life products is determining how the individual pricing components affect policyholder values. An illustration can help, but different features, caps and participation rates affect the amount of gain the policy experiences due to gains in the underlying index. There are potentially complex combinations of these that can make two illustrations under scrutiny as different as night and day. To shine a light on these available combinations, we featured policy caps and participation rates (current and guaranteed), as well as the crediting methods dictating when gains are applied to the policy’s value, in the last Full Disclosure excerpt.
There is something else to be aware of when comparing indexed policy illustrations. As can be seen from the accompanying chart, illustrated crediting rates range from 4.75% to 9.50%. A policy with a higher illustrated crediting rate would have better prospective performance in an illustration, but what are these rates based on and are they realistic? For years we have asked participating companies how these rates are derived. Most insurers often use a “lookback” of the historical performance of the underlying index (such as the S&P 500 Index) for a certain period, then apply the current participation rate and cap available now to calculate a credited rate.
When collecting the data for the newest indexed UL edition, we asked how each policy’s current illustration crediting is derived and, if applicable, over what historical period. As seen in the chart, some companies perform this function similarly. Others perform it very differently, and two companies don’t do it at all. But even answers that are the same can still be somewhat ambiguous. For instance, two companies may utilize a 25-year lookback, but from when to when? As we well know, a shift of even two quarters in a 25-year period can mean a big difference in historical return.
If all of these variables in indexed UL policy pricing and design are giving you a headache you are not alone. The key to any kind of analysis is the more information, the better. A sample policy is important to use with any illustration as is asking the right questions of your wholesaler, or better yet, the company providing the illustration. It is tempting to highlight the best parts of the contract while ignoring elements less attractive or confusing. A “whole contract” policy analysis shows how the puzzle pieces of indexing option, crediting method, participation rate, caps on gains, and illustration rates fit together.
The chart in this excerpt includes illustrated values on a current basis based on a Male Age 40 with a best nonsmoker class (representing at least 15% of the contracts issued) paying a $7,500 annual premium and a $1,000,000 policy. If our specified premium of $7,500 is too low to illustrate the policy for this age and face amount, the policies are blended with term insurance if available. The death benefit type is level; however, a column is included with a true increasing death benefit for each policy to indicate which are designed to generate maximum death benefits.
Internal rates of return (IRRs) figures included in the main chart indicate which products are designed to be more efficient in producing cash values, death benefits, or providing an all-around solution. The IRR can be applied to cash values as well as death benefits, and we measure both at a policy duration of 30 years. Those seeking to analyze the relationship between cash values and death benefits will find the IRR measurement a useful tool. It’s easy to see, using the provided IRRs, which policies are built to generate death benefits, which is why it would be unfair to compare them under a level death benefit only.
Also included at the end of the current illustration chart are the minimum level premium on a current basis to endow the policy (cash value equals death benefit at maturity) and minimum premium to carry it (cash value equals lowest cash values at maturity). With the advent of longer maturity ages, we have assumed that these figures are to this age but will clarify this in future reports. All data is current as of July 1, 2009. Full Disclosure covers UL insurance products twice a year and features both fixed and indexed policies. This newest excerpt features values and features for indexed policies only. Traditional UL was covered in the Sept. 21 issue.