Brokers fear insurers are ignorant of annuity risks
Released on 09 Apr 2009
MORE than 70 per cent of financial advisers in a recent survey said they were concerned about the risks insurers have taken on with guaranteed-minimum variable annuities, and nearly a third said they doubted the insurers themselves understood those risks.
These are among the key findings of the fourth yearly survey of Merrill Lynch advisers, conducted in February by analysts at what is now Banc of America Securities-Merrill Lynch, a unit of Bank of America Corp. Merrill has long been one of the largest distributors of retirement-income products.
The advisers were polled amid a steady drumbeat of ratings downgrades for some of the biggest names in the U.S. life-insurance industry. About two dozen insurers saw their financial-strength ratings fall one or two notches during the first quarter, although most remain at least for now in categories denoting capitalisation that is "strong" to "very strong." The ratings firms assigned a negative outlook to many of the insurers for the next 12 to 18 months and put some on watch for possible additional downgrade over the next few months.
In most of the downgrades, the ratings firms have cited big losses, tied to the overall financial crisis, in the insurers' investment portfolios. At some insurers, the ratings firms also have cited losses tied to the minimum-return guarantees of the companies' variable annuities, which are a tax-advantaged form of investing in mutual funds. In a competitive frenzy that began about five years ago and was continuing even as the market began its slide last year, insurers sold increasingly generous guarantees. The most basic ones promise that investors won't lose their original investment, while the more-generous ones promise yearly increases of seven per cent or more in the guaranteed amount.
The Merrill survey suggests increasing wariness among advisers for whom the annuities are a significant portion of their business about "the risk profile" of the insurers creating the products, according to the survey authors, Edward Spehar and Roman Leal. Some 71 per cent said they thought the insurers had taken on greater risk with recent versions, up from 68 per cent the year before. In addition, 32 per cent agreed that insurers "do not adequately understand the risks that they are assuming in the variable-annuity business," up from 17 per cent.
As the survey results were being tallied, the landscape was starting to change: In recent weeks, numerous big insurers have dialed back the aggressiveness of their offerings, many citing the soaring costs of the financial hedges they buy to offset their market exposure. Some have tweaked guarantees to offer less-generous benefits at higher prices to new customers, while others have suspended sales of certain guarantees as they await regulatory approval of more fundamentally retooled versions. Consultants and analysts say it is too soon to tell how far-reaching this trend will be.
Merrill brokers sold $5.9 billion of variable annuities from an array of insurers in 2008, a decline of 23 per cent from 2007. Industrywide, variable-annuity sales slumped 15 per cent for the full year, to $155.6 billion, and dropped 30 per cent in the last three months of the year, according to Limra International, a Windsor, Conn., organisation of life insurers and other financial firms.
The authors of the Merrill survey noted that variable-annuity "demand has not held up nearly as well as we have expected it would during a bear market," given the downside-protection features that "would seem to have appeal in a challenging market environment." One factor that may have hurt the sales, they concluded, "is concern about the financial health of the life-insurance industry."
