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Annuities: Finding certainty in an uncertain world

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Talk all you like about how such factors as the interest rate environment, equity market volatility and baby boomer product tastes are impacting the annuity marketplace. When it comes down to it, the factor that today has the biggest hand in shaping both the supply and demand sides of this $150-billion annual market is purely psychological. It’s called uncertainty.

On the demand side, a deep-seated uncertainty among investors about the adequacy and safety of their retirement nest egg is driving them to annuities to gain access to a wildly popular breed of optional feature known as the living benefit, through which they can obtain an insurance company’s guarantee of principal protection or income for life.

Uncertainty also has a grip on annuity suppliers. The escalating risk-management pressure that living benefit guarantees place on the balance sheet is prompting insurance companies to rethink their annuity product lines as well as their overall approach to the annuity market.

And in the middle of it all stand advisors like you, trying to stay plugged in to the client mindset while keeping pace with supply-side developments so you’re in position to match clients with the right type of annuity and annuity features. Read on to arm yourself with the essential annuity insight you’ll need to maintain a competitive edge amid all the uncertainty.

The supplier shuffle

An aversion to assuming additional living benefit-related risk is motivating big-name insurers like John Hancock and ING to scale back their variable annuity (VA) activity. “We have seen a lot of carriers pull out of the marketplace,” says Kevin Loffredi, vice president at Morningstar, Inc., in Chicago.

Their withdrawal leaves a void that other insurers appear poised to fill, observes Scott DeMonte, principal at VA Edge, an annuity-oriented consulting firm in Syracuse, N.Y. “I think you’re going to see new players like Midland National and mutual companies like Nationwide and Ohio National getting more involved in the [variable annuity] market. It’s a good opportunity for them, because they weren’t in the middle of the living benefits arms race, so they don’t have those liabilities on the books.”

It’s also worth noting, DeMonte says, that without such liabilities, these newcomers may be in a position to offer richer living benefits than those offered by traditional VA providers.

For some carriers, it’s a matter of reallocating resources. “Some traditional variable annuity carriers are really looking hard at the indexed annuity space,” says Loffredi, naming Pacific Life and Genworth as examples of insurers that lately have shifted focus to index annuities.

Symetra and Hartford Life are two others to recently play up their indexed annuity offerings. And according to some observers, other big VA players—perhaps even MetLife—may soon follow suit.

De-risking persists

Discontinuing certain products and living benefits is one way for insurers to manage VA market risk. But the more popular route among carriers today is to de-risk the living benefits they continue to offer. “Their biggest issue right now is the sustainability of living benefits,” says DeMonte.

Though most of today’s living benefits are decidedly less rich than in years past, they cost almost double what they did just several years ago, he observes.

That’s apparently not deterring investors, notes Loffredi, pointing out that some form of living benefit is elected with roughly 90 percent of new VA contracts.

The continued popularity of living benefits leaves insurers with the difficult task of striking a balance between risk management and investor appeal. “The living benefits are very near and dear to these insurance carriers,” Loffredi notes, “so they’re really having to get creative.”

New hedging twists

That creativity has already begun to surface via a range of new product and feature designs and strategies geared toward managing risk—that of the insurer as well as the investor.

Much of that innovation is occurring at the sub-account level. Take, for example, the new guaranteed lifetime withdrawal benefit (GLWB) that Ohio National offers with its ONcore variable annuities. Not only does it offer an 8 percent annual accumulation rate and a highly competitive annual payout of 5.25 percent starting at age 65, it also features an advanced volatility-management strategy developed by risk-management specialist Milliman that incorporates TOPS exchange traded fund (ETF) portfolios from ValMark Advisers and futures-based equity positions into the annuity’s sub-accounts. The TOPS-Milliman hedging strategy is designed to allow investors to capture 75 percent of upside market movements while exposing them to just 25 percent participation in downside movements.

More annuity providers are constructing hedged VA sub-account portfolios around instruments such as ETFs, and then requiring investors to allocate a portion of contract funds to those hedged portfolios. Essentially, it’s a move by insurers to transfer a greater share of the risk-management responsibility associated with living benefit guarantees downstream to investors. For investors, the upside of shouldering that additional responsibility is the potential for richer benefits and lower fees on features such as a GLWB.

AXA Equitable uses a similar philosophy with its Retirement Cornerstone VA, which features a non-guaranteed, equity-invested sub-account alongside a sub-account comprised of guaranteed investments that are designed to underpin the product’s optional income and death benefit guarantees. The contract holder decides when to activate the guarantee; when they do, funds are automatically shifted into the guaranteed sub-accounts.

LBs in the FIA space

Not surprisingly during these uncertain times, the living benefits (LBs) arms race is spilling over into the fixed index annuity market, where withdrawal and income guarantees are fast becoming a fixture. 

Recent estimates by LIMRA show that optional living benefit riders are available with close to 90 percent of FIA products, and that when those options are available, they’re elected more than 60 percent of the time.

“Those income riders are very popular with indexed annuities,” says Bill Kauffman, CLU, ChFC, vice president for financial products at Senior Market Sales, an independent marketer based in Omaha, Neb. “Easily 80 percent of the indexed annuities that we handle have an income rider on them”

FIAs attract the broker-dealer crowd

Independent advisors who are active in the fixed index annuity space better brace for more competition. The ability to package downside protection with upside potential, plus an income guarantee is drawing more sellers into the FIA space, says Kauffman. “Two years ago, registered reps for the most part were adamantly against indexed annuities. Now they’re saying, ‘OK, I’ll look at them, because safety with upside is something my clients are telling me they want.’ They’re looking for a product that lets them come out from behind the desk and provide a solution to all the volatility and risk clients face today.”

What’s more, says Kauffman, registered reps don’t need to overhaul their business model in order to sell FIAs, but rather can integrate them with other established aspects of their practice.

Loffredi sees acceptance of FIAs rising sharply among large broker-dealers, and wirehouses in particular. “Wirehouses tend to be conservative with the products they put on their shelves,” he explains, “and if they’re offering fixed indexed annuities, then you can expect everybody else will start doing it, too.”

What clients want: A home for qualified money

Capturing the hundreds of millions of dollars in qualified assets destined to come into play as more members of the baby boomer generation become seniors and hit the magic distribution age of 70.5 is a captivating issue these days for advisors and annuity providers alike.

Indeed, qualified sales of variable annuities continue to outpace non-qualified sales by more than two-to-one. According to LIMRA International, about 70 percent of people under age 70 who purchase a VA are using qualified funds to do so.

“People who are getting close to that 70-and-a-half point are wondering about their RMDs and they want their advisors to provide solutions,” explains Kauffman.

More annuity-based solutions are at hand. For example, Western & Southern’s Variable Annuity for Roll Over Only Money (VAROOM) is aimed squarely at retirees seeking a home for qualified rollover money. It’s structured as a VA inside an IRA, and in keeping with the de-risking trend in the VA market, it puts a heavy emphasis on ETFs among its sub-account investment options.

What clients want II: Safe havens

Uncertainty rears its head again, with equity market volatility putting a premium on principal protection. “People today are saying they’re more concerned with not losing money than they are with capturing as much upside as they can,” says Kauffman.

That explains the growing appeal of fixed index annuities and the built-in principal protection they provide. It also explains why single-premium immediate annuities (SPIA) are gaining appeal among senior investors, according to Kauffman.

Lately, he says, a dual annuity strategy that incorporates a SPIA to provide income and an FIA to access upside market potential is resonating with safety-minded clients. Such a combination may work especially well as a home for non-qualified assets that otherwise would be stashed in under-performing vehicles such as a CD, he adds.

What clients want III: Retirement income planning & solutions

The elephant in the room for today’s 60- and 70-somethings and their advisors is retirement income. People are genuinely worried their nest egg won’t prove large enough to last through retirement. And they’re relying on their advisors to provide multifaceted solutions.

“Income planning is huge,” says Kauffman. “Advisors have to have the ability to help people move from the accumulation to the distribution phase. Consumers expect their advisors to know something about annuities and their income guarantees, but also about Social Security, even about Medicare. Most advisors don’t know much about this stuff. They don’t want to mess with it. But those who do will set themselves apart. They’ll be able to provide added value, and they’ll do well because of that.”

Parting Wisdom: Pounce on guarantees, lest they disappear

Given the uncertainty surrounding annuity-based lifetime income guarantees and the overall state of flux in the living benefits market, the time to lock in a living benefit for clients is now, says DeMonte of VA Edge. “I would advise compelling your clients to take a look at these guarantees and to do it now because in a year or two, these products might be vastly different, and not nearly as attractive as they are now—or they might not be there at all.”