Life Insurers Have to Be Able To Hedge Their Annuity Risk: Idea File
Don Dady says the products have to be different because the world is different.
A top annuity designer says annuities have to change along with the times.
Don Dady, co-founder of Annexus, said, in a recent interview, that interest rates are much lower than they used to be, and that the gap between what insurers pay holders of fixed annuities and what insurers earn on their own investments has narrowed.
Because investment spreads have narrowed, “no one can afford to offer the types of products we sold 10 years ago,” Dady said.
(Related: Equitable Adds a Loss Reverser Annuity Feature: Annuity Market Update)
But Dady said there are still ways to create useful new products.
“It’s been a really interesting age in product innovation,” Dady said.
Dady got his start as an executive at Legacy Financial Group.
He then helped Ron Shurts start Annexus, a Scottsdale, Arizona-based retirement income product design firm, in 2006. Annexus has helped companies like American International Group, Athene, Nationwide, Securian and Transamerica create products.
Recently, for example, Annexus helped AIG’s AIG Life & Retirement unit develop the X5 Advantage indexed annuity contract. One contract feature can double the amount of any interest credited to the annuity. Another feature can double the annuity income of a contract holder who keeps the annuity for at least 10 years and then becomes confined to a nursing home or other long-term care facility.
Here are five things Dady said about the annuity market, drawn from the interview
1. Hedging is important.
When a life insurer uses a “hedging arrangement” to manage annuity risk, that means it uses derivatives contracts or some other arrangement from an investment company to limit the amount of investment risk associated with the annuities it’s selling.
In the 1990s and early 2000s, many life insurers tried to support annuities with ordinary pools of investments.
“The insurance companies had no effective way to hedge their risks,” Dady said.
The result, Dady said, is that, once the 2007-2009 Great Recession rocked the investment markets, many big variable annuity issuers discovered that they had assumed too much investment risk.
2. The focus on index-linked variable annuities is likely to grow.
For a life insurer, starting with an investment index is a great way to create a variable annuity, because basing the product on an investment index simplifies the process of matching the annuity with a solid hedging arrangement, Dady said.
“It actually enhances the insurance company’s ability to create an options budget,” Dady said.
3. Dady says the annuity market is still a good market.
“We’re excited about the overall marketplace,” Dady said.”We really expect the momentum to continue to grow.”
The COVID-19-related social distancing rules may have caused temporary sales challenges, but buying an annuity is still an excellent way for retirement savers to limit investment risk while earning a decent rate of return, Dady said.
In theory, an individual could buy some of the types of products supporting an indexed annuity investment index, but “it’s almost possible for an individual investor to replicate what the insurance companies are doing,” Dady said.
Individual investors can’t get the some kinds of options contracts, and they can’t get the same kinds of institutional fee levels that life insurers can get, Dady said.
4. He thinks the Secure Act multiple employer plan (MEP) provisions will be great for annuities.
Dady said he thinks the new MEP market will create a great annuity sales opportunity for RIAs.
5. The annuity distribution channel mix is changing.
Dady said that, a few years ago, about 90% of the people he worked with had roots in the life insurance agent community.
Today, he said, RIAs make up a rapidly growing share of the people he works with.
Some of the RIAs have come up from the life insurance agent community, but more started out as registered representatives with large financial institutions, Dady said.
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