This article in The Wall Street Journal (subscription required) takes a look at how life insurers have restructured variable annuities in recent years. Here is an excerpt from the story:

In a trend gathering momentum, the life insurers that sell these tax-advantaged vehicles for investing in funds are competing on the basis of investment choices. That’s what they did in the 1980s and 1990s, before launching an arms race of escalating promises of guaranteed-minimum lifetime income, even if underlying funds tanked.

That competition cost the industry dearly when markets slid in 2008 and early 2009, leading to price increases and less-generous features as insurers sought to repair their balance sheets. With the new offerings, insurers are drawing on the past but adding a twist: They are pitching variable annuities as a smart way to load up on alternative investments.

While many insurers did see losses in 2008 and 2009, those with sufficient hedging in place fared better. Milliman research indicates that hedging strategies saved insurers $40 billion in September and October of 2008.

The Milliman Managed Risk Strategy offers similar risk management techniques to pensions through hedging strategies that seek to maximize clients’ asset growth in bull markets while defending against losses in down markets.

For Milliman’s insight into the variable annuity industry, click here.

A new article in LifeHealthPro looks at the hybridization trend as it applies to retirement. Here’s an excerpt:

It’s crept onto your restaurant menu, into your pocket and your retirement portfolio, too. It’s called hybridization—taking distinct elements of one item and combining them with distinct elements of another to yield another distinct multifaceted product. Use that recipe in the culinary world and you get fusion food. Use it in the high-tech arena and the result is an all-in-one device called a smartphone. Apply it to financial and insurance instruments, and to annuities in particular, and the possibilities are seemingly endless.

The drive to innovate and deliver versatile solutions that address multiple client needs has put annuity providers in full hybridization mode. From the structure of the contract chassis itself, on down to other, more granular aspects of their products, insurers are borrowing and blending elements of various insurance and financial instruments to put a unique spin on their annuity offerings.

“Really what they’re doing,” explains Tim Hill, FSA, MAAA, principal and consulting actuary in the Chicago offices of Milliman, an actuarial consulting firm that provides insurance companies with product development guidance, “is mining these features from other things and using them with annuities. That approach seems to rule the annuity marketplace today.”

The result is an influx of specialized, sometimes complex products with hybrid structures, hybrid compensation models, hybrid benefits, even hybrid hedging strategies.

For advisors, this proliferation of hybrid annuity products and features means having a wider range of potential solutions to offer clients. But it also means more product education, observes Hill’s colleague Carl Friedrich, FSA, MAAA, also a principal and consulting actuary at Milliman. “There’s a real learning curve [annuity producers] need to climb when they’re working with some of these [hybrid] products.”

The full article is available here.

We’ve talked before about how interest rates affect pension funded status. There are also implications for annuities. Investment News picks up on the potential for interest rates to affect the demand for indexed annuities; here is an excerpt.

Last year was a mixed blessing for carriers that sell the products, which offer a guaranteed minimum return, as well as a return based on the performance of a stock market index. Customers flocked to indexed annuities, at least in part because of new living-benefit features, generating some $32.1 billion in sales, up 7% from 2009, according to LIMRA. But low interest rates made the business less profitable for carriers.

The low-rate environment forced the largest indexed-annuity sellers — Allianz, American Equity Investment Life Holding Co. and Aviva USA — to begin trimming features last fall.

“Now, yields have come back to where they were at the start of 2010, and we’re having conversations again with carriers about enhanced features,” said Tim Hill, a consulting actuary and principal at Milliman Inc.

Carriers had loaded their investment portfolios with cash following the financial crisis and then gradually shifted funds to highly rated corporate bonds in search of yield. At the beginning of 2010, a seasoned corporate bond rated Aaa by Moody’s Investors Service was yielding 5.34%. But yields on top corporates dropped over the summer, falling to as low as 4.31%. (They rose to 5.26% by mid-month.)

That decline sparked a number of product cutbacks, as low yields constrict what carriers can afford to offer in the way of benefits, Mr. Hill said.

The Wall Street Journal reports on an emerging approach to annuities that may include lower fees for participants. Here is the quick explanation:

A longstanding beef against variable annuities is their steep cost. A big plus of exchange-traded funds is their ultralow cost.

Finally, momentum is growing to pair the two financial products in innovative ways, a trend consultants say is good for many people who are trying to save for retirement.

The products now emerging have lower fees, though it’s important to understand that the participant still needs to fund the guarantee:

The ValMark-Milliman approach still awaiting SEC approval is innovative in that it moves part of the financial-hedging program from the insurer’s balance sheet into ETF portfolios. By taking that off the insurer’s books, costs can be lowered for consumers, [Milliman principal Ken] Mungan says. That’s because the insurer doesn’t have to raise prices to compensate for the punitive effect on reported earnings per share that sometimes results from holding financial hedges, under generally accepted accounting principles.

“The consumer is paying for the hedge asset no matter what,” Mr. Mungan says. “But here, the consumer buys and owns the hedge asset at a cheaper price” through the ETF portfolio itself.

For more on exchange-traded funds, go here. For more on the potential for retirement security from variable-annuity-like products, go here.

Penton Insight looks at the resurgent popularity of variable annuities, and in particular the desire for guaranteed lifetime withdrawal benefits. Here is an excerpt:

One of the most popular variable annuity features is the guaranteed lifetime withdrawal benefit. No matter how the underlying investments perform, policyholders typically are guaranteed at least 5 percent of their benefit base in income annually for as long as they live. Eighty-seven percent of those who buy variable annuities elect this rider, LIMRA says. “From my perspective, variable annuity sales are definitely picking up,” says Kenneth P. Mungan, actuary with Milliman, a Chicago-based actuarial firm. “Customers are clearly attracted to the guaranteed living benefits, and I expect that trend to only increase over time.”…

Read more…

Financial Advisor Magazine looks at 401(k) participant investment decisions in a new article. Here is an excerpt:

The Obama administration is looking into the use of immediate annuities to help workers reduce longevity risk in their retirement savings plans. And as of this writing, Senate bill S. 2832 was under consideration by the Committee on Health, Education, Labor & Pensions. The bill would require plan sponsors to show on their annual benefit statements how the value of retirement accounts translates into lifetime guaranteed monthly income payments.

MetLife has a suite of four annuity products in qualified plans. Other carriers with immediate annuity or annuity-like lifetime income products for employees about to retire are Genworth, Prudential and Mutual of Omaha.

It could take time, however, before plan sponsors aggressively include annuities in their plans. They have expressed concerns about employees moving their entire retirement savings into an immediate annuity offered by the plan. State guarantee association insurance funds only cover up to $100,000 in annuity income if an insurer goes bankrupt.

Due diligence must be conducted on the financial strength of the insurance company, its risk-based capital measures, its reserves, its general account investment portfolio and the duration of its fixed-income investments. Other issues include annuity portability, cost, risk and fiduciary exposure.

“Plan sponsors have historically been reluctant to get involved in product issues unless forced to,” says Noel Abkemeier, an actuary at Milliman Inc. in Williamsburg, Va. “They feel their fiduciary responsibilities deter them from appearing to endorse a product. This may make it difficult to get products inside a plan.”

Best’s Review (subscription required) looks at the question of how to shore up equity-market risk, and how insurance-linked products have improved in this respect. Here is an excerpt:

In terms of equity-market risk, insurers fared better during the financial crisis that started in 2008 than during the market collapse in 2002, said Scott Hawkins, vice president and annuity analyst at Conning Research & Consulting. In 2008, separate accounts in individual annuities decreased by 21%, and general reserves increased by $75 billion. By contrast, in 2002, when fewer contracts were in force and account values fell by 13%, general reserves had to be increased by $92 billion. “What happened between those years was that insurers created hedging programs,” he said. “Milliman did a study of those hedging programs and concluded that more than 90% of those they evaluated were successful.”

In a recent white paper on financial risk management, Prudential Annuities identifies common risks as market, actuarial and investor behavior. Market risk includes equity, interest-rate and credit risks. Actuarial risk includes both longevity risk–that the policyholder may live longer than expected–and mortality risk–that the individual will die sooner and that the company will have to pay a guaranteed minimum death benefit. Investor behavior risk has to do with how investors utilize product features, such as when to begin drawing a GLWB, and asset allocation risk, the chance that an investor will choose an aggressive allocation that could cause a big difference between contract value and the protected withdrawal value.

Last week, Milliman principals Tamara Burden and Noel Abkemeieir both testified separately to the U.S. Department of Labor (DOL). The hearing focused on the role of lifetime income options in defined contribution plans. Investment News has the story (registration required):

Insurers and other retirement advocates are pushing for the government to consider annuities safe-harbor investments, which would limit or eliminate the liability of plan sponsors and advisers when recommending such options.

“Safe harbor should be expanded to facilitate plan sponsors in providing a broad range of options,” said Noel Abkemeier, a consulting actuary with Milliman Inc. who appeared today before a panel of Labor and Treasury officials on the behalf of the American Academy of Actuaries. “But it should also be extended to other lifetime-income options, aside from annuities, in order to preserve choice.”

Tamara’s testimony is available here.

Noel’s testimony is available here.

The Chicago Tribune poses, and answers, this question:

Q. My wife and I are 84 and considering a retirement home. I read about a provision in the Pension Protection Act that would allow long-term care costs to be paid tax-free through an annuity. We have an annuity with a surrender value of more than $300,000. What part of this could help us pay our monthly bill?– R.M.

A. First, you need to evaluate whether you would owe taxes on annuity withdrawals, said Montgomery Taylor, an accountant and financial planner in Santa Rosa, Calif.

If the value of your contract is down to basically what you put into it (all too common these days), you could owe no tax, and thus have no need for a tax break, Taylor said.

That said, the Pension Protection Act of 2006 did create a tax break for annuity owners that began this year. While you don’t get a break on direct long-term care costs, you can qualify for tax-free annuity withdrawals that are used to pay for long-term care insurance premiums. If you end up needing the insurance, your coverage could equal two to three times the value of the annuity policy, experts said.

Some hybrid annuity/long-term care products have been available in recent years, though several insurers are developing new products to take advantage of the provision, said Carl Friedrich, a principal with Milliman, an insurance industry consulting firm.

Registered Rep looks at the growing demand for lifetime income products. Here is an excerpt:

Noel Abkemeier, actuary at Milliman Inc., Williamsburg, VA…suggests that you might also see structured mutual fund withdrawal programs that pay out 4 percent annually or a deferred start income annuity. This type of annuity, with a current premium, provides a guaranteed income that starts at a specified later date. This could facilitate a smooth transition from accumulation to income if purchases are made over a specified period.

“For persons who are serious about guaranteeing an income, the single premium immediate annuity could be attractive because it provides the largest income,” he says. “The variable annuity and mutual fund approaches may be less attractive than they would have been three years ago since confidence in the stock market is shaken and the income guarantee is far less than what a (Single Premium Immediate Annuity) offers.”

Despite the benefits of turning defined contribution assets into lifetime income, Abkemeier believes plan sponsors are hesitant to use insurance products. “Plan sponsors historically have been reluctant to get involved in product issues unless forced,” Abkemeier says. “They may feel that their fiduciary responsibilities deter them from appearing to endorse any product. This may make it difficult to get products inside plans. It may also deter involvement at the time of retirement.”