The economy has clearly changed and so has the role of annuities. Simply put, annuities have had to adapt, and fast. As advisors scramble to keep pace with the changing landscape, a look at the recent past will pay big dividends as we look to the future of the annuity market to see what may lie ahead in 2015 and beyond.
Before we get too far, let’s make sure we are all on the same page about our purpose in providing annuities. By its very design, the annuity is tasked with providing certainty for it’s owners-certainty against loss and certainty for longevity. When risk of loss intensifies in a more volatile market and risk of longevity in lifespan for owners heightens, those basic risks become much more expensive for carriers to hedge. It’s the equivalent of fighting a battle waged on two fronts.
Now, let’s begin with a quick look back. The annuity landscape changed dramatically when the stock market plunged in 2008. The years preceding 2008 saw an arms race of sorts in the variable annuity space. Each month, it seemed a new bigger and better rollup hit the scene. My, how times have changed! In fact, many of the changes coming in the variable annuity landscape are a direct result of re-pricing of risk introduced in 2008. While variable annuities continue to represent the largest piece of the annuity market, a look behind the numbers reveals that the types of variable annuities being sold is moving toward those with living benefits, namely income riders.
To many advisors who have been led to believe that variable and fixed annuities are the only two types of annuities to consider, it may be surprising to find that there is notable growth in fixed index annuities. In its third quarter study, Wink’s Sales & Market Report, indexed annuity sales were $11.4 billion. Sheryl J. Moore, President of both Moore Market Intelligence and Wink, Inc. stated:
“Third quarter year-to-date sales of indexed annuities are greater than they have been in any full year with the exception of 2013’s record-setting sales!”
The question one might ask is this: in the face of historically low interest rates, why are so many advisors steering clients toward indexed annuities? As with variable annuities, the answer is living income benefits. Longevity risks
Brad Johnson, Vice President with Advisors Excel, and coach to some of the country’s most successful advisors, points out:
“Variable annuities must contend with multiple factors when pricing guarantees. These include both market and longevity risk, while fixed index annuities and their underlying guarantees protect them from the higher costs of pricing guarantees against accounts that can fluctuate up and down based on market volatility.”
A variable annuity has to respond to both longevity risk and market risk, a combination that proved very challenging when markets saw deep declines. As a result, many variable annuities have been re-priced to accommodate this dual role. In many cases, the products have been re-tooled with higher internal costs and lower income account rollups and payouts to allow the carriers to remain profitable in these dynamic times.
Given this change in the market environment, what can we expect to see in the annuity’s future? At the risk of cliché, expect to see more change. Lower cost, ETF-based variable annuities are likely to play a role in tax diversification strategies within an investment portfolio. This lower cost structure may also allow for stronger income benefits than what we have seen with traditional mutual fund-like subaccounts that often contain high fees. These high fees have plagued variable annuity owners and are cause for meaningful change. As Brad Johnson shared: