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3 Reasons the Annuity Party Could Keep Going

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What You Need to Know

  • Average yields on pretty good bonds have climbed over 3.4%, from below 3.2% earlier in the year.
  • Defaults on the the kinds of bonds and loans life insurers hold have been low.
  • Affluent baby boomers are still here, and still retiring.

U.S. individual annuity sales looked great in the second quarter, and analysts see reasons why the numbers could continue to look great for at least the next few quarters.

The third quarter of 2021 ended Sept. 30, and publicly traded insurers are getting ready to release their earnings, and their annuity sales totals, in the next few weeks.

COVID-19 is still here, interest rates are still low, and year-over-year comparisons will get tougher once the comparisons are with quarters when the economy started to recover, rather than with the grim second quarter of 2020.

But here are three reasons some analysts are cautiously optimistic.

1. Rates are looking a little better.

An annuity is really an investment burrito.

The life insurer’s contract serves as the flour tortilla.

The meat or protein is typically some combination of investment-grade corporate bonds, mortgage loans, mortgage-backed securities and derivatives, with private equity investments and other alternative assets playing the part of the cumin and the cilantro.

When yields on the assets inside the annuity burritos are low, insurers have a hard time earning enough on their own investments to pay annuity holders an attractive rate.

Rates fell to low, low levels in the wake of the COVID-19 pandemic and pandemic-related lockdowns but are now starting to come back up.

To balance investment safety concerns and a need for decent returns, life insurers tend to buy bonds that have investment-grade ratings — but just pretty good investment-grade ratings, not the very best ratings. One tracking index for bonds with pretty good ratings, the Moody’s Seasoned Baa Corporate Bond Yield index, shows that yields fell below 3.2% several times in the past year but have recently increased to more than 3.4%.

2. Borrowers are looking stronger.

Analysts once feared that pandemic-related disruption would lead to a huge wave of defaults.

Government support and the underlying strength of the borrowers helped keep that from happening.

Fitch Ratings recently reviewed the results of its latest annual life insurer survey, and it concluded that life insurers’ investment portfolios have come through the pandemic in good shape.

“Losses in commercial mortgage loans are expected to emerge, but industry exposure is generally diversified and of high quality,” Fitch said in a summary of its report.

Analysts have worried about problems with “alternative assets,” such as private placement bonds and private equity investments. The argument is that those assets may be high in quality but could be hard to turn into quick cash in a crisis.

But alternative assets have been performing well this year, and life insurers appear to have more than enough liquid assets to handle any problems with getting cash out of alternative investments, Fitch said.

Nigel Dally and Bob Huang, securities analysts at Morgan Stanley, have cited life insurers’ strong investment portfolios as a reason for suggesting that their own stocks might be undervalued.

“The industry overall faced very little in terms of credit losses,” Dally and Huang wrote in a recent commentary.

3. Affluent boomers are still here, and still retiring.

COVID-19 has killed about 1 in 500 Americans, and about 1 in 140 people over age 65.

The pandemic has increased the death rate for higher-income people as well as for lower-income people.

But most retirees and near retirees have survived the pandemic, and mortality has been much lower for higher-income people. That means higher-income people who are retiring now face about as much longevity risk now as they did in October 2019, before COVID-19 began making headlines.

(Image: Shutterstock)