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2007 Index Annuity Returns 1/08
If you could have bought the best performing annuity on the first of each month in 2006 your 12 monthly returns would have averaged 11.2% in 2007. If you were unlucky enough to pick the worse performers your average earned interest rate would have been 2.6%. The best and most consistent rate was earned by annuities using the monthly cap forward method with a 12 month low average of 7.8% and a high of 10.5%. Annual point-to-point designs also did well with a high average of 9.7% and a low of 3.8% - and the low was skewed by one product that maintained a 4.75% cap for the entire year (without the low boy the bottom APP return was around 5%. Averaging products with good participation methods performed competitively returning 6.8% to 7.2%, the worse ones credited 3.0%. Or, you could have simply put your money in a bouquet of trigger method index annuities and averaged around 5.5%. One point that needs to be stressed is the 6% to 10% earned on average on these annuities cannot be taken back. Most annuities credited at least 50% more interest than CDs for the period - many did much better - and no annuity owner has lost value due to the current mortgage mess. An index fund investor may have been up 20% in a year period ending 1 July 2007, but the index annuity owners that were credited 10% to 13% in July have not been looking over their shoulder in the recent market decline. Fixed Annuities Are Competitive With Taxable Bond Mutual Funds 2/08 I compared fixed rate annuity, fixed index annuity and taxable bond fund returns for five year periods beginning in 1992 and ending in 2007. My conclusions are that both fixed rate and fixed index annuities have been competitive with U.S. taxable bond mutual funds and that index annuities are better positioned to provide a no-market-risk alternative to these bond funds than traditional fixed rate annuities. From 1997 thru 2007 the taxable bond fund averaged 5.29% a year while the index annuity averaged 5.79% If you look at the period from 1997 through 2007 the 5-year annualized returns for the index annuities averaged 5.79%, the average taxable bond fund return was 5.29% and the average fixed rate annualized return was 4.73%. For the periods from 1992 through 2007 the average taxable bond fund return was 5.71% and the average fixed rate annuity return was 5.18%.
Best’s Review was the source of the earlier annuity data representing the initial and renewal rates for 56 carriers for the first four 5-year periods. Fixed rate annuity returns for later years are from Noel Abkemeier of Milliman, Inc. and reflect rates for annuities offered by “AA” or higher rated carriers not using MVA. I am indebted to Noel for sharing this information. The index annuity returns reflect reported annual reset returns ranging from 3 carriers for the period ending in 2002 to 18 carriers for the most recent figures. I have 5 year data for the periods ending in 2001 and 2000, but for only one index carrier and decided not to show it. The taxable bond fund data reflects the average annualized returns for taxable bond funds for the five year periods as reported by The Wall Street Journal. The index annuity data reflects 1 October to 1 October periods, all other data reflects 1 July to 1 July years.
Data Concerns
Stats – Annualized 5 Year Periods 1997-2007 The average fixed rate annuity return is 4.73% with a standard deviation of 0.590. The taxable bond fund average is 5.29% with a standard deviation of 0.408. The average fixed index annuity return is 5.79% with a standard deviation of 1.395 There is a negative .11 correlation between the index rate and bond returns, which could have important asset allocation implications if this negative correlation is demonstrated in future return comparisons. The data support that index annuities are a viable alternative to taxable bond funds
What Does It Mean * The Wall Street Journal,
Average Annualized 5-Yr Taxable Bond Fund Returns; 7/3/96,
7/3/97, 7/6/98, 7/5/99, 7/10/00, 7/5/01, 7/5/02, 7/7/03, 7/5/04, 7/5/05, 7/5/06,
7/3/07
4th Quarter Index Annuity Sales Slip 3/08
Total sales for 2007 were $25.2 billion
Average Commission The average indexed annuity issue age reported was 64 years old; average issue age ranged from 52 to 76.
Easy To Predict
4/08 It was easy to see coming The financial firms blithely ignored the reality that
many of the mortgages were worthless A reason for this oversight is they made themselves
believe the financial quants 99% rule. The 99% rule essentially says if a
possible outcome is more than four standard deviations from the average outcome
it can be ignored because this means the odds of the outcome happening are less
than 1% according to the model used. Since the likelihood of a liquidity crunch caused by bad
mortgages was 25 standard deviations away from the expected outcome (Index
Compendium Sep 07) it was treated as an impossibility. The shell game was
Company A sold the default risk on a package of mortgage bonds to Company B and
Company B would be responsible for paying off in case of a default. However,
because the risk of default was so low – the 99% rule – no one required Company B to actually have the money to cover
the risk. Since the default couldn’t happen, based on the computer models
supporting the 99% rule, Company C gladly lent money to Company B to pay for
this risk. Of course if a default did happen Company B would not be able to
payback the loans to Company C or cover the original mortgage investors in
Company A. Inflation The Economist
uses the Big Mac index to compare international prices; I use the Taco Bell
indicator. In 2003 you could buy a bean burrito from the Taco Bell value menu
for 99 cents. By 2004 the value menu had been revamped with the 99 cent bean
burrito replaced by this really gnarly 99 cent bean & rice burrito. The
nearest edible food was a new combo burrito for $1.19. Price of the new combo
burrito increased to $1.39 in 2006 and $1.59 in 2007.
The bottom line is five years ago I could get my Taco
Bell lunch for $2.10 with tax and today it costs $3.37 – a 60% increase or an
annualized inflation rate of 10% a year.
It is not only Taco
Bell prices that are up. The average family has seen their monthly gasoline bill
increase 140% during this time impacting all aspects of their life, and food
prices have soared due to poor global wheat harvests and a politician-driven
policy on gasohol. Rising prices and recession fears have caused some reporters
to dust off old articles on stagflation from the ‘70s
And annuity markets? Falling rates means that fixed annuity rates and index
annuity caps will continue to fall. The good news is bank rates will fall
farther and faster. The 5% fixed rate or 7% index cap that is meeting some sales
resistance today will turn into fast selling 4% fixed and 6% cap rates six
months from now because CD rates will be at 2%. The sales environment for fixed
annuities will steadily improve. Safety Commercial banks originated and purchased mortgage
packages and I think we will see several bank failures as a result. I also
believe that FDIC coverage will be provided for all covered deposits (tho
uncovered deposits in failed banks will get back less than a hundred cents on
the dollar). I have only looked at the balance sheets of a few annuity
carriers; some own suspect mortgage loans and some do not. I would not be
surprised to see an annuity carrier fail as the mortgage crisis fallout
continues. However, it is important to remember that insurance carriers look at
the financial world in a different way. Most of the financial
world seems to use that 99% rule where if the risk is less than 1% it is
ignored. By contrast insurance carriers are trained to look for hidden risk and
act accordingly. Insurers do not ignore 1% risks they target them and hedge to cover the
risk. This is why I believe fixed annuity carriers will generally weather this
financial storm better than banks. FDIC can borrow all the money they need from the Treasury,
so if a bank fails the insured deposits should be available the next day. State
Guaranty Funds are funded in arrears meaning that after an annuity carrier fails
other carriers are asked for any needed money. This means that even tho an
annuity covered by a Guaranty Fund would eventually be paid in full the entire
annuity balance may not be immediately available. Crystal Ball 2007
Index
Annuity Complaints Steady 4/08 There is a “but” in all of
this. Even tho the rate of complaints increased slightly from 2006 to 2007 for
all index annuity carriers if you exclude Allianz the complaints decreased.
Without Allianz the rest of the industry had a complaint rate of one for every
$145 million in 2007, down from $118 million the previous year. While all index carriers averaged one complaint per
$109 million of premium sold the top 25 carriers averaged one complaint per $111
million. The worst ratio for any individual top 25 index annuity carrier was one
complaint for each $50 million of sales. The National Association of Insurance Commissioners (NAIC)
gathers data on customer complaints from all of the state insurance departments.
This information is available on the Consumer Information Source (CIS) part of
their web site http://www.naic.org/cis/index.do on a company by company basis. I
reviewed and totaled the number of closed customer complaints for 2007 relating
to index annuities. I found no complaints for seven carriers.
Caveats Comment But
The Complaint Percentage Is Very Small Data Sources:LIMRA, NAVA, Annuityspecs.com Rainbow
Method 5/08 Do
rainbow methods run a better horserace? The Rainbow marketing appeal has been expressed by saying
that the annuitybuyer gets to bet on the race after it has been run and that
most of the bet will be put down on the horses that “win or place.” To
determine whether the different rainbow allocations may be a better horserace I
have run calculations going back to 1991 using April 2008 rates to produce
hypothetical returns for both rainbow and S&P 500 only crediting methods. I
attempted to compare rainbow methods with S&P 500 only methods within the
same or similar carrier products. Because index annuities are used, any years
with negative returns were replaced with zeros. A problem with most rainbow indices is short history. With the exception of DJIA and S&P 500 the other indices generally have been around less than 25 years, and I am unsure whether this provides enough track record to be meaningful. Three of the four carriers include the EuroStoxx 50 in their mix and this index has only been around for 6 years, with almost all of its history occurring in a bull market. However, I discovered that a composite index made up of half German DAX and half French CAC 40 values had a 0.99 correlation with the EuroStroxx 50 since its inception. In others words, a 50/50 mix of the DAX and CAC has essentially mimicked the EuroStoxx 50, therefore I have used my composite index as a proxy for the EuroStoxx 50 prior to July 2003. I examined rainbow products from AIG, Aviva, National
Western and North American Company. Rainbow products are also offered by
American Investors and Midland National, but these were basically the same as
the respective Aviva and North American ones. I picked products without bonuses
and with surrender periods of 10 years or less. These examples apply current
rates to 195 past rolling 12 month periods. The past does not predict the future
and all of these rates could change wildly in years to come, so the returns
should not be viewed as real numbers or investment advice. Finally, no index
sponsors or endorses any index product.
Comments The advantage of the rainbow method in having greatest
participation in the top performing index is handicapped by a cap. Capping the
rainbow method somewhat defeats the main attraction of using the method.
However, if the option cost of the rainbow method permits higher caps than the
S&P 500 alone might receive, then using the rainbow method would be
justified. In
all hypothetical cases the Rainbow method produced higher average returns The goal was to see which would have hypothetically
performed better – the Rainbow method or the S&P 500 only methods. I
discovered that in all cases the Rainbow method produced higher average returns,
but there is insufficient data to deduce whether this is due to any inherent
superiority of the rainbow method or simply an aberration in current option
pricing. The rainbow method is a legitimate addition to index
annuity methodology. I believe it provides the greatest potential interest when
offered without a cap, even when offered at lower participation rates or higher
spreads. However, if the rainbow method uses a cap, and the rainbow cap is
higher than the cap for the S&P 500 alone, I would pick the rainbow method
at a higher cap every time.
Savings
Bonds Are A Terrible Investment Now 5/08 Existing bonds have also taken a hit. Any Series EE bond purchased in the last 11 years is currently earning 2.74%. I Bonds were attractive because they gave you a fixed rate of at least 1%, plus extra interest that was index-linked to the rate of inflation. But any I bonds purchased today do not have an interest rate floor. If inflation stays low I Bond returns could be much worse than other safe money places because the fixed rate is zero. Today, it does not make sense to buy U.S. Savings Bonds.
First Quarter Index Annuity Sales
Drop
6/08
Average Commission Less than 18% of sales are in products with surrender periods of less than 10 years.
H.R. 5840 6/08 The main purposes of the bill are to give the Federal Government an insurance resource that could talk about international insurance regulatory issues, and advise Congress, the President and the Treasury about important insurance concerns. The big teeth in the law is it would give the Treasury Secretary the power to preempt state insurance laws if they were at odds with U.S. policy. The NAIC reaction to previous attempts at federalizing insurance regulation has been
to vigorously defend their turf, but not this time. NAIC proposed working with the Feds to fix problem areas and said they would be open to creating an
insurance self-regulatory body – regulated by NAIC – that would work with the Treasury.
The National Association of Professional Insurance Agents (are there amateur insurance agents?) does not like the bill, the National Conference of Insurance
Legislators (NCOIL) expressed concern, and the American Council of Life Insurers seems to like it. Nothing will happen with all of this in 2008, but a federal insurance department is closer than it has been before.
GLWBs
Comparison 7/08
I placed $100,000 in each annuity using an issue date of age 50. I then calculated the income benefit account value based on the product guarantees and multiplied the values by the respective payout factors at ages 65, 70, 75 and 80 to produce the annual lifetime payout. The result is a list of the initial lifetime payouts that would be received if each annuity only earned the guaranteed minimum. There is a little fudging. The guaranteed growth in some cases was the annuity contract minimum guarantee and many of these used floating rates; I used a 1.75% rate. Premium bonuses were ignored unless the bonus was built into the GLWB. And in cases where the rider cost could increase if the growth period was extended, I used the maximum permitted rider cost after the first 10 years. All numbers are believed to be accurate, but due to the fluid nature of the marketplace I will reserve space in the August issue to publish corrections.
Two Points: The
Living Benefit Balance Is Not A Cash Value To illustrate, if no interest
is earned and you withdraw 5% a year on $100,000, or $5,000, the money is gone
in 20 years. If by means of a bonus or growth guarantee the carrier says you may
withdraw 5% on $120,000 or $6,000 a year you are still spending your own money
until some time in the 16th year. If you die before 16 and two-third years you
receive zero financial benefit from the bonus or guarantee. Indeed, due to the
explicit or implicit costs of that GLWB you are worse off financially if you die
while spending your own money. However, if you live a long life the actual
benefit could be much greater than the bonus or guaranteed rate you were told. And The Payout Is
Not A Return But what if you receive $5,000 for 10 years and your heirs get $80,000? Then the real return is 3.3%. And what if you receive $5,000 for 10 years and your heirs get $50,000? Then the real return is 0%. My Comments On SEC
Release Nos. 33-8933, 34-58022; File No. S7-14-08 7/08
SEC
Release Nos. 33-8933, 34-58022; File No. S7-14-08 7/08 The SEC proposed rule would make all currently marketed index annuities securities. Why should index annuities be made securities? “We have determined that providing greater clarity with regard to the status of indexed annuities under the federal securities laws would enhance investor protection” What about Safe Harbor Guideline 151 saying when an annuity is not a security? “Indexed annuities are not entitled to rely on the safe harbor of rule 151 because they fail to satisfy the requirement that the insurer guarantee that the rate of any interest to be credited in excess of the guaranteed minimum rate will not be modified more frequently than once per year” According to annuity producers the overriding reason given for the purchase of index annuities is safety and avoidance of market risk – what is your exact opposite logic? “these
purchasers obtain indexed annuity contracts for many of the same reasons that
individuals purchase mutual funds...and open brokerage accounts.” Section
3.A Essentially the proposal says the future return of an index annuity is unknown therefore it is a security. The reality is the future is always unknown. A bank money market account rate floats from day to day, universal life insurance rates float from year to year, an I Savings Bond return varies based on the inflation rate, and even SEC registration prices are not locked in forever. And yet none of these are viewed as securities. The
proposal attempts to minimize the index annuity benefit that protects principal
and credited interest from market loss by saying the benefit does not eliminate
all risk. I submit that because of an unknown future it is impossible to
eliminate all risk in any aspect of life and is therefore an invalid criterion
to use. The criteria should be “can the consumer lose principal without taking
any action of their own”. “Should
the proposed definition apply to forms of insurance other than annuities, such
as life insurance or health?” Altho
the proposal only applies to index annuities there is nothing to stop the final
rule to cover any other type of insurance that bases pricing or returns on an
external index. If index life carriers are remaining quiet about the proposal in
the hope they will be ignored, I believe this ostrich strategy will fail. How would “small entities” be adversely affected? Adding
together the most conservative estimate of additional expenses to insurance
agents combined with lost revenues to marketing organizations, the proposal
could result in a loss of $852 million to insurance industry
distribution channels. Most of this loss would be incurred by small entities, it
would have a significant effect on the economy, and it would result in a major
increase in costs for insurance agents.
2008 – IndyMac Bank of Pasadena was an
aggressive asset gatherer and lender. On 11 July FDIC took control of the $19
billion dollars of deposits – including the $1 billion of uninsured deposits.
When the IndyMac dust settles the cost to the FDIC insurance fund is estimated
to be between $4 and $8 billion, which means there should still be at least $45
billion sitting in the FDIC piggybank to handle future bank failures. When A Bank Fails Uninsured depositors become creditors of
the bank. FDIC quickly paid out 50% of IndyMac uninsured balances to their
depositors. They should receive additional payments as assets are sold. They may
or may not get back 100 cents on the uninsured dollar and it can take years to
get the money (for my list of 21t century bank failures and what uninsured depositors received go to
http://safemoneyplaces.com/deadbank.htm)
How Safe Is FDIC? Should
You Become A Registered Investment Advisor? 8/08 Becoming a
registered investment advisor with SEC or a state may enable one to avoid FINRA,
but you become a fiduciary. Let’s review what being a fiduciary means. For
Newly-Registered Investment Advisers Does your seminar present “full and fair
disclosure of all material facts” or is it perhaps slanted to showcase
annuities? It’s a
given that the fixed annuity recommended by the agent is in the customer’s
best interest – or else why would the agent recommend it. But will securities
regulators agree that the 9% commission earned by selling the annuity did not
cause a conflict of interest? And of course the agent told the customer that
they were earning a 9% commission and that this sale meant the agent qualified
for the free insurer trip to Prague? Penalties About the
only way an insurance agent can go to prison is by stealing premiums. RIAs have
more ways to go directly to jail. If your goal
is to provide fee-based financial advice on your client’s economic well being,
then becoming an RIA with your state or the SEC will enable you to do this, and
if you stick with fees rather than earning securities commissions then you should
avoid, at present, becoming registered with FINRA. However, if the reason behind
becoming an RIA is simply to sell index annuities or avoid FINRA compliance, the
liability may well exceed the gain. 88% Of
Public Comments Against Proposed Rule151A 9/08 People in favor of 151A
were some registered reps, life insurance agents, some variable annuity carriers
such as AXA and The Hartford, the Financial Planning Association, a couple of
lawyer groups, and, of course, NASAA and FINRA. Folks opposed to 151A were index
carriers and agents selling index annuities, several state insurance departments
and NAIC, but joining them were a number of financial planners, advisors,
registered representatives and 18 Congressman that argued why the SEC proposal
should not be enacted. Number
of Times SEC Compared to the Russians Or Stalin: 2 There were several groups
that said they were neither for nor against the proposed rule as long as the
final rule did not affect them. Comments were received from Assn. for Advanced
Life Underwriting, America’s Health Insurance Plans, National Assn. of Health
Underwriters, and NAVA National Assn. that I read as saying “Do whatever you
want to those index annuity people as long as you don’t hurt me” – a
Chamberlainesque response to the situation. Several other groups including
American Bankers Insurance Assn., National Governors Assn., NCOIL, and ACLI
simply asked for the comment period to be extended. At this stage the SEC
could reopen the comment period, enact the original or a revised proposal, or do
nothing. The last index annuity comment period ended in 1997 and 2008 was the
first time an index annuity rule was proposed. Second Quarter Index Annuity Sales
Jump9/08
Average Commission The market share of two-tier annuities dropped from 14.6% to 3.0% in the last year. 3
Card Monte Hypothetical 9/08
The problem may be that the
reality of the entire hypothetical stew produces a 10% return only 2% of the
time, 40% of the time the return was 1%, and 50% of the time the return was
between 4% and 6%. Based on the real numbers there is a 90% chance the annuity
will produce less than 6% if the past repeats. If you going to look at
hypothetical results be sure you look at a broad range of outcomes to get a
better feeling of the hypothetical probabilities. Mass
Women's Bar Needs To Take A Math Class9/08 Altho women receive a smaller yearly payout they receive the payout for more years than men. The current method provides equality because the men and women receive identical actuarially based benefits over their respective life expectancies. The new Massachusetts law sexually discriminates against men because men will now receive significantly lower lifetime income than women.
The main question is “are my accounts FDIC insured.” Consumers seem to be confused about what is covered by FDIC. People ask whether credit notes, money market mutual funds, and 401(k) plans are FDIC insured. The answer is no, it must be a deposit of a bank to be eligible. Scarier to me are questions from consumers telling me they have X dollars in checking and Y dollars in savings and saying their bank told them they were fully FDIC insured. In the last situation I looked at $140,000 of the consumer’s money appeared not to be FDIC insured because of sloppy account titling. I am not getting many questions about fixed annuity safety, even after the recent AIG news, but I believe this is because consumers have not yet reached the annuity line on their worry checklist. Wall Street woes
and failing banks are not a good thing for annuities. Altho it might seem
attractive to pitch annuities as an island of safety standing apart from the
mainland crisis, most consumers will figure out that annuities are really a
peninsula rather than an island, because they are still a part – albeit a more
protected one – of the same financial mainland and thus could also fail. In
times like these consumers need to be reassured that the entire system will be
restored. This means not bashing investments or banks, but reminding people about
the safety of fixed annuities. I'm
reminding people that we survived 2900 banks closing during to the Savings &
Loan Crisis of 20 years ago –
as well as the loss of Executive
Life & Mutual Benefit (and none of their annuity customers lost a dime of
principal if they didn't bail) and to take a deep breath and keep
selling strong annuity carriers. Direct consumers to the NAIC web site where NAIC President Sandy Praeger said "The federal bailout of the non-insurance portions of AIG does not negatively change the solvency strength of its insurance subsidiaries. The key distinction here is that AIG’s insurance subsidiaries did not cause this crisis, rather, they will play a critical role in the solution." The reality is both life insurance and annuities are attractive assets because the surrender charges allow the carrier to maintain policy liquidity by regulating outflow, and if the parent gets in trouble the carrier life/annuity companies are purchased for their assets, or the policy blocs themselves are purchased. As an example, when Metropolitan Mortgage got into trouble annuity policies of two of the annuity subsidiary carriers were purchased by GALIC, while Western United was eventually purchased in whole by another company and is still functioning.
The
exposure in an index annuity for the typical insurance company is the cost for
the option link, a set and predetermined cost. If you had a dollar, made 6 cents interest and spent the 6 cents to buy an option on
the index, and the index went down 20% what is your maximum loss? 6 cents. How
much do you still have? $1 These are tough times but annuities have survived many tough periods before because annuity carriers buy very few stocks, junk bonds, and real estate; because annuities are required to set aside additional reserves in addition to the premium paid in; and even tho some annuity carriers have failed in the past, it is worth remembering that every annuityowner was protected up to state guaranty fund limits.
Tell your clients to take a deep breath. We will survive this crisis too.
5 Year Returns
11/08
This is the seventh year I have collected 5-year return data and I deeply appreciate the cooperation and support of the carriers that were open in sharing what some of their annuityowners earned in their index annuities.
What Is Important The average reported FIA return was
5.57%, double the interest earned in by rolling over 1-year CDs over the last 5 years
Third Quarter Index Annuity Sales
Dip 12/08
Average Commission Winners
& Losers End of November Close
New York Mandates Showing Dividends On FIAs/IULs 12/08 Announced on Halloween the new statute, Section 3209(b)(2)(C) of the New York Insurance Law, requires sellers of indexed products to provide dividend treatment disclosure, whether the contracts are illustrated or not, stating whether dividends are included in the index calculations and what dividends would have averaged over the last 10 years. The new law looks like it was written by New York based VA and VUL carriers to reduce competition, because it ignores the realities of these fixed products. Dividends are not included in FIA/IUL interest calculations because dividends are not included in the base indices used by the carriers. The S&P 500 index does not include dividends, an S&P 500 index fund or sub-account does. Incredible bias is shown in that only the dividend effect is to be disclosed and not the total return of the index. An example of the effect of this bias is for the last five years an index fund or VA index subaccount would have shown a loss over the last five years while the average index annuity was up 30%. This new law will help hide the truth from consumers. I suggest an alternative idea, mutual funds and variable annuities be required to show how they would have performed as annual reset index annuities. After all, fair is fair. Standard Life Insurance of Indiana
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| Copyright 1998-2010 Jack Marrion, Advantage Compendium Ltd., St. Louis, MO (314) 255-6531. webmaster at indexannuity.org. All information is for illustrative purposes only, does not provide investment or tax advice. No index sponsors, promotes, or makes any representation regarding any index product. Information is from sources believed accurate but is not warranted. Advantage Compendium neither markets nor endorses any financial product. |