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Is the Fed Put Gone Forever?

Two extraordinary leads graced major news outlets over the past week. First, Reuters carried an article titled, “WHO chief scientist urges people not to panic over Omicron.” Second, Bloomberg led with “Jerome Powell Ditches ‘Transitory’ Tag, Paves Way for Rate Hike.”

What do both news items assert in common? An egregious example of institutional failure. [For the original version of this article, including charts, click here.] 

For the Fed, the failure is in its belated reaction to inflation. If there is anything the Fed ought to get right, it is movement in prices. That is, after all, its mandate! We are not even asking the Fed to predict inflation, just to explain it. But apparently it took until late November for Jay Powell to realize that COVID-19 is not deflationary.

The lesson from how policymakers have reacted to the pandemic and inflation is that they overreact belatedly to yesterday’s news. As they do, material constraints to the overreaction build, forcing an about turn. 

In the context of the Fed’s über hawkish pivot, our conclusion suggests that a dovish pivot is coming in 2022. We are taking the other side of the view that the “Fed put is gone.” Why? Because no matter how much inflation hurts the median voter—and we maintain that the actual level of pain is overstated—a recession will hurt more. 

The current Fed trajectory, given the peak in growth this cycle, will cause a recession. And a recession is unacceptable in the current US political and macro context. 

Where do we go from here? While we think that the Fed is crying wolf on inflation, it is going to take a significant equity market correction to shift its thinking. As such, investors should prepare for a deep correction over the course of December. 

The mid-December FOMC meeting—December 14-15—may be an opportunity for the FOMC to change course. But if the underway correction eases by then, we doubt that they will change course so quickly. As such, investors should approach the current selloff with the “no pain, no gain” mentality. More pain is needed to set up the rest of the cycle. 

Investors should prepare for more USD strength in the near term, particularly if the market starts pricing in further rate hikes in 2022 (Chart 18). The US 10-year yield could decline further, taking risk assets—especially commodities and especially BTC (Chart 19)—further with it. 

However, we expect a big macro context reversal sometime in early 2022, potentially in Q1. 

First, as we discussed above, inflation will ease. Don’t get us wrong, we remain in the inflationista camp. To be clear, the membership in the sane inflationista camp carries a low threshold. One simply has to assume that the long-term inflation expectations rise above ~2.3%. Given our structural view that geopolitics is not transitory, we are in that camp. 

But with the most severe supply shortages easing and with the Fed clobbering commodities with its hawkishness, prices will ease further, both in the US (Chart 20) and abroad. This will allow it to pivot to the “5% is the new 2%” view elucidated in this missive. In other words, inflation will prove to be “transitory” just as the Fed capitulates that it is not. 

Second, Chinese policymakers will wake up to the risks of a severe deleveraging campaign. As we posited in the latest China Macro Watch, the policy inflection is already upon us. We have played this thesis by going long iron ore relative to oil, a trade that has already netted 19% since publishing our missive on November 23. 

More importantly, a China that puts a floor to its own growth will put a floor on global growth as well. Given Europe’s high beta to Chinese imports and growth, a shift in Beijing calculus should have a meaningful implication for the USD and commodity prices. 

A moderation—if not outright reversal—of Fed hawkishness combined with Beijing policy inflection should allow the US 10-year yield to resume its higher trajectory. In 2021, a number of big trades were essentially correlated to the “one big trade”; the path of US yields. And to our chagrin, the path of the US 10-year bond yield has been influenced by the relative COVID-19 response between the US and the rest of the world (specifically Europe). 

Next year, we expect our COVID-19 desensitization thesis to continue as antiviral medication becomes widely available and as investors and the public realize that viruses have a Darwinian logic in mutating into a highly infectious but less virulent forms. This will allow the combination of a Fed dovish pivot and Beijing policy inflection to take over as the major macro catalyst and lead bond yields, globally, higher. 

In this environment, investors should expect more commodity strength. If commodities managed to outperform in a year defined by a USD bull market, they will be absolutely set alight in 2022. And no, the correlation between the two has not changed. In fact, the correlation of their daily returns has been as negative as ever. What that means is that commodities would have gone even higher had USD been weak in 2021. 

A macro context defined by Chinese policy inflection and high commodity prices should also see the star performer of 2022, India, lose some of its shine. Already this year, India’s outperformance relative to EM was historically illogical given commodity strength. While the overall setting would obviously be positive for EM, India would be the biggest loser. In anticipation of this shift, investors may want to tactically go long China relative to India. 

Another reversal in 2022 should be the outperformance of tech, particularly US FAANGs, which have been the “only game in town” for a decade, a decade extended by the pandemic. This year, global tech/global energy has tracked COVID-19 data. Next year, combination of a higher inflation regime, Chinese policy capitulation, and easing of the pandemic should allow energy—and value sectors in general—to finally catch alight. This should also ease capital inflows into the US, a tech heavy economy and market, inflows that in 2021 reached the highest level since pre-GFC 2007. Given the current net longs in the USD, a macro context reversal should see the greenback peak and ease in 2022. Then again, why anyone would take our USD call seriously after our call in 2021 is unclear to us! 

Bottom Line: Tactically, the pain and carnage must continue. Investors should avoid risk assets, commodities, and crypto assets in particular. Cyclically, nothing has changed. The Fed has turned hawkish belatedly due to a policy error on inflation. But it will have to back off as asset prices decline, yield curve approaches inversion—a telltale sign of a recession—and as inflation eases in early 2022. 

The narrative that the median voter hates inflation only works up to the point of a recession. We may not know everything about geopolitics and politics, but one thing we know is that the public hates a recession. And a recession catalyzed by unelected, millionaire, technocrats is a recipe for la Terreur. Meanwhile, the greatest macro development of November is neither the new COVID-19 variant nor Powell retiring the term “transitory.” Rather, it is the policy inflection in Beijing, which should put a floor on Chinese and global growth in Q1. 

Cyclically, we remain commodity bulls. In 2022, the biggest call for investors may be emerging markets. They remain deeply unloved by institutional investors. And yet, they would be the prime beneficiaries of a set of circumstances that sees the Fed ease its hawkish rhetoric, Chinese growth bottom, and dollar peak. 

© 2021 Clocktower Group.

Breaking News

Net income of life/annuity companies on track to double this year: AM Best 

The US life/annuity (L/A) industry doubled its net income in the first nine months of 2021 to $26.1 billion, compared with the same prior-year period, according to Best’s Special Report, “First Look: Nine-Month 2021 Life/Annuity Financial Results.”

The data is derived from companies’ nine-month 2021 interim statutory statements that were received as of Dec. 1, representing an estimated 97% of total US L/A industry premiums and annuity considerations.

According to the report, the U.S. L/A industry total income rose 6.6% from the prior-year period, driven by a 62% increase in other income, a 4.9% increase in net investment income and a 4.5% increase in premiums and annuity considerations.

The pretax net operating gain was $42.5 billion, up 153.3%. A $5.3 billion increase in tax obligations and an additional $7.3 billion of net realized capital losses contributed to the industry’s net income, up from $13.1 billion from the first nine months of 2020.

Capital and surplus rose by 6.7% from the end of 2020 to $468.0 billion, as $64.2 billion of net income, contributed capital, changes in unrealized gains and other changes in surplus were reduced by a $14.1 billion change in asset valuation reserve and $20.7 billion of stockholder dividends.

Pacific Life enhances offerings for RIAs

Pacific Life has established an Advisory Solutions Desk, a “concierge experience” for Registered Investment Advisors (RIAs), the company announced in a release.

“Now, RIAs and their fee-only advisors can access Pacific Advisory Variable Annuity through our new tech-enabled Advisory Solutions Desk or one of our insurance desks or custodial distribution partners,” said Kevin Kennedy, senior vice president of sales and chief marketing officer for Pacific Life’s Retirement Solutions Division.

The Advisory Solutions Desk is part of Pacific Life’s advisory expansion initiative. During 2021, Pacific Life Advisory formed a dedicated advisory team and introduced a fee-friendly variable annuity and optional living benefit for RIAs and their clients. 

“The team also tripled data integrations with top advisory software providers, while collaborating with new distribution partners to deliver specialized advisory services with seamless integrations,” a Pacific Life release said.

In addition to strong sales of its fee-friendly offerings, Pacific Life said it has seen strong sales of its fee-friendly offerings and an increase in its overall advisory business across all distribution channels.

Luma enhances annuity and structured product comparison tool

Luma Financial Technologies, a multi-issuer structured products and annuities distribution platform, has added an “annuity replacement analysis” within its comparison tool, “Luma Compare.”

The new feature supplies advanced analytics for financial advisors to compare a client’s existing annuity product features, fees and values to a proposed annuity product replacement, including 1035 exchanges. The analysis that considers current and future market scenarios, as well as tailored breakdowns specific to an individual’s current income and death benefits in their existing product. 

“The new tool can also be customized based on a firm’s suitability criteria, further ensuring compliance standards. Through historical data and future projections, Luma Compare offers advisors consistent, simple, and customized solutions with a higher level of accuracy,” said Keith Burger, Head of Distribution at Luma Financial Technologies, in a release.

The Luma structured products platform originated in 2018. In February 2021, Luman added annuities. Luma Financial Technologies, whose CEO and president is Tim Bonacci, was created in 2011. 

Headquartered in Cincinnati, OH, Luma also has offices in New York, NY, Zurich, Switzerland, and Chile. Its services and technology are used by broker/dealer firms, RIA offices and private banks to automate and optimize the full process cycle for offering and transacting in market-linked investments. This includes education and certification; creation and pricing of custom structures; order entry; and post-trade actions.  

Mutual of Omaha adds 401(k) technology from American Trust 

Mutual of Omaha’s Retirement Services division and American Trust (AT) are partnering to offer an “open architecture retirement product” for retirement plan sponsors, participants, financial advisors and third-party administrators. AT Retirement Services is a unit of EdgeCo Holdings.

Laura Huscroft, VP of 401(k) with Mutual of Omaha Retirement Services, and Micah DiSalvo, Chief Revenue Officer at American Trust, made the announcement in a press release. 

American Trust is a full-service provider of retirement plan solutions to advisors serving the small- and mid-sized plan market. With offices across the US, American Trust leverages a modern technology stack to offer innovative, high-quality recordkeeping and trust and custody services.

EdgeCo is a provider of technology-enabled solutions for financial intermediaries and their clients. These include full-service retirement plan administration, brokerage, advisory, and trust and custody services. Clients include registered representatives, investment advisors and other financial intermediaries including retirement plan recordkeepers, TPAs, bank trust departments, broker dealers and insurance companies.

The firm services approximately $150 billion under custody, administration and wealth, working with more than 15,000 financial advisors and 500 financial institutions.

© 2021 RIJ Publishing LLC. All rights reserved.

A Revolt Against PE-Led Annuity Issuers

A Pittsburgh insurance broker and a Richmond, Virginia forensic accountant have developed an alternative rating system for measuring the ability of life/annuity companies to keep their promises even in market crises. They call it the Transparency, Surplus and Riskier Assets ratio, or “TSR” for short. 

The TSR ratio is counterintuitive: It gives the poorest grades to the private equity-affiliated companies that have grabbed such a big share of fixed indexed annuity (FIA) sales in recent years. The best TSR scores go to mutual and fraternal insurers, which are owned by and serve only their policyholders.

Matt Zagula, the broker, and Tom Gober, the accountant, are bucking a major trend. The PE-affiliated life/annuity companies claim to have increased their solvency by using offshore reinsurance and by investing in sophisticated structured securities. Their FIA sales have grown apace. But Zagula and Gober say that such practices would actually weaken the ability of these insurers to pay their annuity owners in the next financial crisis. The TSR is designed to reveal the weaknesses.

Zagula has set up Smart Advisor Network, which he calls the first field marketing organization (FMO) to offer only annuities issued by mutual and fraternal insurers. He’s already launched a consumer-friendly FIA contract with a fraternal insurer. It’s called Aquila X.

In one sense, they’re merely assembling a modest boutique business for agents who like selling FIAs issued by conservative insurers. But they’re also taking a stand—charging that several major annuity issuers insurers may not deserve their high grades from ratings agencies because some of their operations and assets are too opaque.

In developing the TSR, they’ve dug through reams of official regulatory filings to assess the quantity and quality of the investments that support promises that FIA issuers make to policyholders. “We’re trying to shine a light on some of the shadowy areas that the ratings agencies just don’t call out,” Gober told RIJ in a recent interview.

TSR: ’Transparency, Surplus and Riskier Assets’

In the summer of 2020, one of Zagula’s clients inquired about the stability of GCU, a small Pittsburgh-based fraternal insurer that issues life insurance and fixed annuities. Unable to find a benchmark that satisfied him, Zagula called Gober, a Certified Fraud Examiner who serves as an expert witness in insurance fraud trials. 

Matt Zagula

“The TSR ratio was created because of a client inquiry into GCU,” said Zagula, a trial lawyer’s son and former high school wrestler from Weirton, WV, once the home of Weirton Steel, a world-class steel plate producer. “I found Tom and asked him to write a report about GCU’s financial stability. Together we stumbled onto a formulaic approach to a core consideration: the amount of high risk assets combined with non-transparent captive reinsurance transactions, compared with surplus.” [An insurer’s surplus is equal to its assets minus its liabilities.] 

There’s a key difference between the TSR and the kinds of complex actuarial processes that an NRSRO (Nationally Recognized Statistical Rating Organization) would use when rating the financial strength of a life insurer. Formal ratings agencies show what percentage of a life insurer’s total assets are risky (i.e., residential mortgage-backed securities, collateralized loan obligations). The TSR tells you what percentage of a life insurer’s surplus are either risky or unidentifiable assets (i.e., assets sketchily reported by a reinsurer in a regulatory haven like Bermuda). 

“The TSR ratio tells you, in one number, if these companies have been too aggressive,” said Gober. “The ratings agencies and regulators might say that only 3% of a company’s total assets are in the high risk category. That makes it sound like nothing. But the TSR shows that, for example, the risky assets might be equal to 120% of the surplus. The TSR gives us a meaningful way to migrate policyholders away from [companies with] high risk balance sheets.”

Here’s an example of a TSR calculation from the members-only section of the Smart Advisor Network website. We’ll call it XYZ Lifeco. (The numbers, all from the company’s public regulatory filings, are changed slightly to maintain the company’s anonymity.) 

XYZ Lifeco has $200 billion in total assets and a reported surplus of $8 billion. Of the $200 billion, about $30 billion is deemed higher-risk by regulatory standards. These consist mainly of structured securities (bundles of mortgages or loans) and other exotic products that are either less liquid, complex or hard to value. The company also has about $2 billion in assets that are reinsured by one of its own affiliated life insurers.

Add $2 billion to $30 billion, divide by $8 billion, and XYZ Lifeco gets a TSR score of 400%. The lower the TSR ratio, the better. XYZ’s score is on the border of acceptable and too high for comfort. “We like to see a TSR of lower than 400,” said Zagula. “There are a few large companies that are a little over 400 and don’t have a bad pattern of going crazy with their investment policy.”

A TSR score of 400 means that surplus would be wiped out if the risky assets were marked down by 25%. In that case, the company’s assets would be equal to its reserves—what it owes policyholders—and any additional losses would mean insolvency. The problem is that several of the biggest sellers of FIAs have TSR scores in the thousands. 

TSR in the thousands

One prominent company affiliated with a giant private-equity holding company has a TSR ratio of more than 6,000. According to the Smart Advisor Network website, this company has a reported surplus of less than $2 billion but combined risky assets (Assets in the NAIC category known as “Schedule D” as well as assets reinsured by related companies or offshore) of more than $80 billion. 

If those assets fell only 2.5% in market value during a financial crisis, all of the company’s reported surplus would vanish. This company has an A (Excellent) rating from AM Best, just under A+. An AM Best spokesperson declined our request for comment on the TSR approach. 

The risky assets that contribute to a higher TSR rating include collateralized loan obligations (CLOs). Big asset managers can design tailor-made loans to companies with poor credit, then bundle the loans into CLOs. The senior tranches of these bundles are deemed investment grade but pay higher yields than the comparably rated corporate bonds that still make up the bulk of insurers’ general accounts.

Certain reinsurance practices also contribute to a higher TSR rating. Many life insurers reinsure blocks of in-force annuity contracts or even freshly issued annuity contracts. But when they buy reinsurance from a reinsurer in a regulatory haven like Bermuda, or a reinsurer that is a sister company in the same holding company, or when the reinsurer uses assets from a sister company to back the liabilities, those are all red flags for Zagula and Gober. They can’t readily ascertain the quantity, quality, or source of the assets backing the liabilities.

For instance, a life insurer in the US might reinsure $10 billion in liabilities in Bermuda, which uses so-called GAAP accounting rules instead of the SAP rules in the US, along with reserve assets to back them. Under GAAP, the liabilities can receive a lower valuation, so that the reinsurer might only need to post $7 billion in assets to back them. It then issues a “reserve credit” to the original issuer for $3 billion. 

“The original issuer drops its liabilities by the full $10 billion but its affiliated reinsurer reserves only $7 billion, freeing up $3 billion for the original issuer to use however it wishes,” Gober said. “That’s not transparent. They should say, publicly, ‘We’ve dropped $10 billion in liabilities but our captive is only setting up $7 billion in assets to back them.’ But if they said it, no one would let them do it.”

A revolt against PE-led life insurers 

Tom Gober

The creation of the Smart Advisor Network represents a kind of rebellion by advisors and agents who like the safety and upside potential of FIAs but don’t like the direction in which big alternative asset managers like Apollo, KKR, Blackstone have taken the life/annuity industry in.

Buying, investing in, or partnering with FIA issuers like Athene, Global Atlantic and F&G (respectively), the “insurance solutions” teams of these asset managers have revived yield-starved publicly traded life insurers by helping them move annuity liabilities off their balance sheets and add structured securities and private credit instruments to their general accounts. 

Zagula and Gober are not the only ones who are wary of this trend. RIJ has published a series of articles about the trend, which we call the “Bermuda Triangle” strategy. Since 2011 or so, several academics have investigated it. These include Ralph Koijen of the University of Chicago, Motohiro Yogo of Princeton, and Nathan Foley-Fisher of the Federal Reserve.

Regulators are also watching this space. The National Association of Insurance Commissioners has closely tracked the rising use of private assets like CLOs, which closely resemble the CDOs (collateralized debt obligations) that helped cause the crisis of 2008. As RIJ has reported, other observers note the opportunities for conflicts of interest that arise when life insurers, asset managers, and reinsurers are closely affiliated.  

Stock life insurers who have not yet partnered with PE firms have evidently expressed nervousness about structured products, which rely on financial engineering to deliver higher returns than corporate bonds at supposedly no higher risk. As a recent report from Cerulli Associates put it, “The resistance to structured products [among board members of stock life/annuity companies] comes from the memories of the great financial crisis.” 

Smart Advisor Network

As an insurance agent, Zagula’s response to this trend has been to stop recommending the FIAs issued by PE-led life/annuity companies to his clients. As an entrepreneur, his response has been to start an insurance wholesaling organization doesn’t recommend products issued by PE-led or even publicly traded insurers. “We’re proud to be the first FMO to carry products only from mutuals and fraternal life insurers,” he told RIJ. Gober is a consultant to the business. The network has 186 member agents so far.  

“It’s been a game changer for me,” said Terri Collymore, an Investment Advisor Representative, insurance agent and founder at More Advisory Group in Edina, MN, who joined Zagula’s FMO this year. “If you’re selling annuities and you don’t know about them, you’ll be in trouble. If you’re dealing with a stock company, you have to know their TSR. I tell my clients, ‘I work with a Smart Advisor Network, not a dumb advisor network.’” In return for a $197 per month fee membership fee, she said, she gets a wealth of support, data, and training from the Network. 

This year, Smart Advisor Network launched Aquila X, an FIA that he calls a “unicorn”; it’s Zagula’s vision of the ideal indexed annuity. The issuer will be GCU, a $2.2 billion, Pennsylvania-domiciled, non-profit fraternal insurance company created in 1892 to serve the “Rusin” community. That is, Greek Catholics whose ancestors came from the “northeastern portion of pre-war Hungary, then-known as Uhro-Rusinia, now Slovakia,” according to GCU’s by-laws. They emigrated to Pennsylvania in the late 19th century to work in the anthracite coal mines.

Zagula’s FIA contract, Aquila X, offers a participation rate of 100% of the Barclays Zorya Index. It will differ from many FIAs in several pro-consumer ways, he said. Its crediting rates will be guaranteed for the 10-year life of the contract, not subject to surprise reductions by issuers. It will allow free withdrawals of up to 30% after the first three years. Its agent commission will be a percentage point lower than the usual rate, with the savings passed to the policyholder. Any used rider fees will be returned to the client, according to the Smart Advisor Network website. GCU has an ultra-low TSR ratio of 45%—its surplus is more than twice its level of high-risk or low-transparency assets.

© 2021 RIJ Publishing LLC. All rights reserved.

Deferred Income Annuity Added to U. of California 403(b) Plan

The University of California (UC) has begun offering participants in its 403(b) defined contribution plan an opportunity to apply part of their target date fund (TDF) savings to the purchase of a deferred income annuity at age 65 and, by doing so, reduce their risk of poverty in old age.

Three financial services companies are working with the university: State Street Global Advisors (SSgA) provides the TDF and serves as the plan fiduciary; SSgA chose MetLife as the annuity issuer for 2021. Fidelity Investments is the recordkeeper of the UC plan, which has more than 300,000 participants and $34.6 billion in assets. 

SSgA’s offering is called “IncomeWise.” The annuity is a QLAC, or Qualified Longevity Annuity Contract, which, under IRS regulations, allows retirees to devote as much as 25% of their tax-deferred savings (capped at $135,000) to the purchase of an annuity that starts paying a monthly income (with a 2% annual cost-of-living adjustment) at age 80.

“It’s a Qualified Plan Distributed Annuity,” David Ireland, global head of defined contribution at SSgA, told RIJ this week. “There’s a group life contract that the plan sponsor will sign, and at the point of distribution the participant will receive an individual certificate.”

David Ireland

Since 2017, UC has had a TDF series custom-built by SSgA for their participants. Before buying the annuity at age 65 (or soon after) they can increase the annuitized portion of their assets by moving money into the pre-funding sleeve, up to 25% of their savings. They can leave their remaining 403(b) savings in the UC plan if they wish. They have full flexibility with the rest of their assets.

“Whether the participants decide to purchase the annuity or not, when they reach age 55 we’ll begin to allocate a portion of their assets to the annuity pre-funding strategy. That will provide a fully liquid elongated fixed income exposure designed to look and feel like a fixed deferred annuity, with an LDI [liability-driven investing] strategy,” Ireland said. 

“As the participant moves from age 55 to age 65, the proportion in the pre-funding strategy grows to 25%,” he added. “Age 80 is the default start date. [Annuitants] can bring the payment date forward at an age-adjusted payout rate, but by no more than five years. If they don’t decide to buy the annuity at 65, they can still buy it at age, say, 68.”  

The plan’s annuity contract is a single premium QLAC. It includes a cash refund if the policyholder dies before income starts and a return of unspent principal if the policyholder dies while receiving income. SSgA’s regular TDF has a net annual expense ratio of 29 basis points (0.29%). Ireland said the UC version, with the QLAC, has an expense ratio that’s higher “by single digits.”

Along with the death benefit, there’s a 2% COLA built into the payout rate. Every September there will be a one-month window where 65-year-old participants can purchase the annuity. The annuities are gender-neutral, and State Street expects them to be priced favorably relative to retail QLACs because there’s no distribution cost. For 403(b) plans, participants do not need to get a spousal permission to buy a single-life annuity, but they would if it were an ERISA-governed 401(k) plan.

Various retirement companies and asset managers—Principal, Fidelity, BlackRock, and others—have been launching initiatives that will give retirement plan participants a chance to buy a lifetime income stream—typically a chance to buy a irrevocable SPIA (single premium immediate annuity) or a more flexible GLWB rider (guaranteed lifetime withdrawal benefit) on a deferred annuity.  

State Street chose to offer a QLAC. Given the same purchase premium, the payout rate from a QLAC appears much more substantial than the payout from a SPIA, simply because the first QLAC payment is delayed by a decade or more. QLACs, which were created by the US Treasury in 2014, make it possible for retirees to buy deferred income annuities with tax-deferred money; otherwise that money would be subject to annual taxable distributions starting at age 72.  

“At some level, our thinking eventually pointed us to the QLAC. Individuals are averse to allocating a large portion of savings to annuities. It made sense for us to ask them to apply a  smaller percentage of their savings to the annuity. If you look at the payout of a QLAC at age 80 versus a SPIA at age 65, you’ll get three times as much money per month,” Ireland told RIJ.

Although MetLife is the annuity provider for 2021, SSgA might pick a different insurer to issue the contract next year. It depends on who wins a bidding contest. “Each year SSgA will go out and, acting as the fiduciary, will vet the potential life insurers and come up with an approved slate of insurers. Then they will have an opportunity to bid on the annuitization,” Ireland said.

The existence of the project has been known for some time, but SSgA didn’t announce it until now, waiting until after the first annuity enrollment period last September. “UC hired us to be their custom TDF manager in 2017 with the end intention of moving toward an income oriented solution. Phase I was the custom TDF part, and then Phase II was the income part,” Ireland said.

TDFs originated as a default investment for participants who weren’t engaged enough in the savings process to choose their own funds. Ireland was asked if TDF investors and annuity purchasers—highly engaged, high-salary employees—might be two different groups. He said that high-salary employees increasingly use TDFs. 

“We find that the vast majority of flows [of contributions] are going into TDFs, regardless of the participant’s compensation level,” he said. “TDFs have proven to be a solid default solution. We’re seeing growth across all cohorts. As DC plans become the public’s primary savings vehicle, I think we’ll see balances grow. In the narrow segment of individuals with hundreds of thousands of dollars in the accounts, we’re seeing savvy individuals move money out of the core funds and map them into the TDF.”

At present, UC is the only SSgA TDF client to have the income option. Ireland expects more corporate clients to start asking for it. “We’re approaching $150 billion in our TDF series, so the UC project represents less than 10% of our total,” he said. “I view IncomeWise as the next generation of TDF. I see our entire TDF franchise extending into retirement income. We’re already having conversations with existing TDF clients about it.”

© 2021 RIJ Publishing LLC. All rights reserved.

Don’t Fight Inflation with Unemployment

Our most basic assumptions about inflation might be flat wrong. 

The great danger for policymakers when confronting inflation, warned economist Abba Lerner in an excellent but almost forgotten book, Flation (Not INflation of Prices, Not DEflation of Jobs (Quadrangle, 1972), is to misdiagnose its cause and prescribe the wrong remedy.

Unfortunately, that’s been known to happen.

In the late 1960s, for instance, after military spending on the Vietnam War had begun to overheat the economy, President Nixon prescribed “wage and price controls.” Controls didn’t work (they never do). Neither did Nixon’s fateful decision to end the gold standard in 1971.

Federal Reserve chairman Paul Volcker chose to let the federal funds rate rise to an all-time high of 20% in 1980. For that he is famously credited with ending the inflation of the 1970s. But while Volcker’s action did reduce inflation, it also drove the unemployment rate to 10% and plunged the economy into recession. 

The more conspicuous causes of inflation in the 1970s were the oil price spikes and shortages, which were triggered by the dollar’s loss of value after abandonment of the gold standard. And it may well have been the permanent drop in the price of oil in 1981—not the higher interest rates—that cooled the inflation.   

Here’s what a 1986 article from the Brookings Institute said: 

“In 1973-74, the real price of crude oil more than tripled. After declining slightly in 1975-78, it doubled again in 1979-80. But the 1979-80 price increase was eroded between 1981 and 1985, as price declined by nearly 40%. Price then collapsed in the first half of 1986, falling by more than 50%. Within the past five years [since 1981], the real price of oil has fallen from more than a five-fold multiple of its 1970 value to less than a two-fold multiple.” (Brookings Papers on Economic Activity, 2:1986.)

Maybe it’s a mistake to remember Chairman Volcker as the person who doused the inflation fire in the early 1980s. Maybe we should remember him as the man who, more like Mrs. O’Leary’s cow and the Great Chicago Fire of 1871, sent asset prices down and sparked a 40-year bull market in stocks and bonds.

At the end of September 1981, the 10-year Treasury rate peaked at 15.84%. In 1982, the S&P 500 Index fell to 312.5, a level it hadn’t seen since the middle of 1954—lower than it had been in the 1974 recession. Since prices of existing bonds move in the opposite direction of interest rates, Volcker’s actions also drove down the prices of existing bonds and set the table for a decades-long bond rally. 

Those were not the worst of times for investors. They were the most opportune time.  

Anyone who recognized the exquisite buying opportunity of the early 1980s—when know-nothings like me started getting cold calls from the newly hired army of stockbrokers—was able to get in on the ground floor of a boom. The falling interest rates and rising government spending that followed has kept the boom alive.

If you were smart enough, prosperous enough, or lucky enough to start throwing money into stocks, bonds or a house in the 1980s and 1990s, you’re probably well-fixed for retirement. But if you couldn’t afford to save much, or if your blue-collar job was effectively doomed by the trade deals with Mexico (1994) and China (2000)—you’ve probably experienced the bitter end of the growth in “inequality” that belies our immense aggregate wealth. 

An increase in unemployment is worse than an increase in inflation, according to Lerner. Mild inflation isn’t very dangerous, he wrote. On the contrary, it often accompanies a rise in purchasing power and prosperity. Unemployment, on the other hand, is “the basic sickness” that must be avoided. When policymakers react to inflation by raising interest rates, businesses borrow less, asset prices get marked down, factories cut back production, and people lose their jobs. A wicked cycle begins.  

I’m not an economist. Someone else might choose a different set of historical “dots” to connect, and arrive at a completely different explanation for the past 40 years of American economic history. History furnishes us with as many dots as there are stars in the night sky, and we can create any pattern of constellations with them.  

I do not buy the popular assumption that the federal government bleeds the private sector for financing, that we must eradicate the national debt and the boomers must die before the US economy can normalize. In this “freshwater” economics view, the federal government is trapped. Keeping rates low will stoke inflation and raising rates will make it too expensive to service the federal debt. 

If all that were all true—if the insatiable government snake were in fact consuming the private sector tail—the economy would have collapsed by now. Rather, the evidence suggests that the federal government finances the private sector. If Uncle Sam stopped spending or the Fed raised rates sharply, prices of stocks and bonds would collapse. It was the government that bailed out the private sector in September 2008 and March 2020, not the reverse. 

Most people think my view is nonsense. But that’s my story and I’m sticking to it.

Looking to the future, it would be a shame if Fed chairman Jay Powell decided to fight an inflation that is caused by supply chain bottlenecks by raising the fed funds rate. Higher rates won’t unload Chinese container ships any faster, or increase the flow of computer chips from Taiwan. 

I’m not against higher rates. Near-retirees would probably enjoy more savings options—and life insurers would not be so constrained—in a world where the 10-year Treasury bond yielded 3% per year and A-rated corporate bonds a bit more. But restoring a “Goldilocks” rate environment without a painful mark-down in fixed income and equity prices—and without higher unemployment—will be difficult.  

© 2021 RIJ Publishing LLC. All rights reserved.

How to Dodge the ‘Inflation Ninja’

Like a tropical storm, inflation is whirling toward our shores—and wallets. But will we suffer a full-blown price hurricane, a transitory bout of excess liquidity, or just hot air from forecasters? No one is sure.

That leaves investors and their financial advisers scrambling to batten down their savings and purchasing power. People want to know: What’s the asset-allocation equivalent of plywood-ing your windows and sandbagging your doors?  

A recent article in The Journal of Investing, Protecting Portfolios Against Inflation,” provides a compilation of anti-inflation pills that might chill your anxious clients. The authors don’t offer silver bullets; instead, they’ve culled a lot of sensible advice from “the literature.”

“We do not present original research,” write Eugene Podkaminer and Wylie Tollette (both of Franklin Templeton), and Laurence Siegel (of the CFA Institute), “but we believe that our style of compiling, curating, and explaining established concepts will be helpful to most readers.”

Noting that only one major inflation tornado (in the 1970s) has ever ripped across America, they review US financial history and weigh in on the pros and cons of holding stocks, bonds, commodities, real estate, international assets, and Treasury Inflation-Protected Securities (TIPS) during (and after) an inflation shock.

Larry Siegel

Instead of looking at inflation as a storm, they compare it to a Japanese martial arts expert.

“Inflation is like a ninja,” they write, in a style that bears the imaginative stamp of Siegel’s books and essays. “Although inflation has not seemed like a threat to portfolio values for a very long time, the winds have shifted and investors are, and should be, more vigilant. Beware the ninja.”

Assets and inflation 

Here’s their summary, verbatim:

Bonds. The conventional wisdom that bonds are a poor (or negative) hedge against inflation shocks is correct, for mechanical reasons: an increase in interest rates caused by an increase in inflation expectations causes bond prices to fall.
However, if the inflation shock is one-time, and a new, higher but stable inflation rate is established, the new, higher yield of the bond compensates for the higher inflation rate and the real return of the bond going forward is similar to what it was before. The shock is reflected in a one-time loss of value.
TIPS. Inflation-indexed bonds, such as Treasury Inflation-Protected Securities (TIPS), hedge against inflation shocks. Their chief drawback is their low—at this time, negative—real yields. However, if inflation becomes very severe, TIPS will offer protection that cannot easily be obtained in any other way.
Equities. The relationship between inflation shocks and equity returns is complex. Conceptually, equities as a class are real assets (claims on factories, trucks, patents, labor contracts, and so forth) and are intrinsically inflation-protected. 

Empirical evidence from the one major upward inflation shock in the US in the past, however, shows the opposite relationship: inflation hurts stocks, at least in the short and intermediate runs. Stocks are thus a plausible inflation hedge only for the longest-term investors, those who can wait for a disinflationary period (if it occurs) after inflation rates have peaked; at that later date, stocks should perform very well. 

Different stocks react differently to inflation shocks. A company that easily can pass cost increases on to its customers is much better protected against inflation shocks than a company that cannot. Thus, careful active management may benefit investors who foresee an inflation shock. 

For a US investor, non-US stocks are a potential hedge against a US inflation shock, partly because of the foreign currency exposure.
Alternative assets.  Real estate is a traditionally good hedge against inflation. In particular, residential real estate values tend to rise with incomes. The relationship is not perfect, as we saw with the housing bust in 2007–2009, which took place under conditions of mostly stable and positive inflation. 

Commodities are another traditional inflation hedge and are negatively correlated to growth assets (equities) but are extremely volatile.

A bright, post-Boomer future?

Looking to the future, the paper’s authors see a major macroeconomic bind ahead for US policymakers. On the one hand, the US government wants interest rates to stay low so that it can finance the national debt and deficit spending relatively cheaply. On the other hand, they say, inflation is inevitable if the government doesn’t run budget surpluses and use the excess to reduce its debt. 

A combination of enforced low interest rates and high inflation would mean negative real returns on government debt; they don’t think investors would agree to finance the government on that basis. So we can’t borrow our way out of the bind, we can only grow our way out of it by increasing productivity.

“There is a way to solve the debt problem. This does not mean it will be solved. Increases in government spending beyond the growth rate of productivity seem to be baked into the cake for quite a while. Mostly, the increases consist of entitlement spending for aging baby boomers, who are scheduled to receive large Social Security and Medicare benefits,” they write. 

“Eventually, they’ll die and the country will be younger and fiscally healthier, but that is in the far future, beyond the maturity date of all but the longest-term Treasury bonds and beyond the time horizon of most investors.”

Relief might not be so far off. According to the US Baby Boomer Generation Population Death Clock, more than 28% of the original 85 million baby boomers (born 1946 to 1964) have already died. By 2034, when the Social Security trust fund is expected to run dry, more than half of boomers are likely to be dead—and no longer a burden. 

© 2021 RIJ Publishing LLC. 

FIAs maintain sales momentum in 3Q21: Wink

Total deferred annuities sales in the third quarter of 2021 were $59.8 billion, down 7.1% from the previous quarter but up 10.4% from the same period in 2020, according to the 97th edition of Wink’s Sales & Market Report for 3rd Quarter, 2021. 

The Wink survey included 63 indexed annuity providers, 46 fixed annuity providers, 69 multi-year guaranteed annuity (MYGA) providers, 14 structured annuity providers, and 43 variable annuity providers.

“Indexed annuity sales not only increased [to $17.3 billion] in the third quarter, but they are up more than 25% from this time last year. If it not for this, annuity sales would have been down across the board this quarter,” said Sheryl Moore, CEO of Wink, Inc. and Moore Market Intelligence, in a release.

Sales of structured annuities—aka Registered Index-Linked Annuities—in the third quarter were $9.1 billion, down 7.5% from the previous quarter, but up 45.8% from the previous year. Structured annuities have a limited negative floor and limited excess interest that is determined by the performance of an external index or sub-accounts.

“After four straight quarters of sales increases, structured annuity sales took a hit. That said, structured annuity sales YTD already put the line of business in a record sales position,” Moore said.

Survey highlights 

Jackson National Life ranked as the top seller of deferred annuities overall, with a market share of 8.0%, followed by Allianz Life, Equitable Financial, AIG, and MassMutual. Jackson’s Perspective II Flexible Premium Variable & Fixed Deferred Annuity, was the top selling deferred annuity and the top-selling variable deferred annuity or the 11th consecutive quarter.

Jackson National Life also ranked as the top seller overall of variable deferred annuity sales, with a market share of 15.4%, followed by Equitable Financial, Lincoln National Life, Brighthouse Financial, and Nationwide.  

Total third quarter non-variable deferred annuity sales were $29.2 billion, down more than 7.4% from the previous quarter and down 5.5% from the same period last year. Non-variable deferred annuities include the indexed annuity, traditional fixed annuity, and MYGA product lines.

Non-variable deferred annuities 

MassMutual was the top seller of non-variable deferred annuities, with a market share of 10.0%, followed by Allianz Life, Athene USA, AIG, and Global Atlantic Financial Group. The Allianz Benefit Control Annuity, an indexed annuity, was the top-selling non-variable deferred annuity. 

Total third quarter variable deferred annuity sales were $30.6 billion, a decrease of 6.8% when compared to the previous quarter and an increase of 31.73% when compared to the same period last year. Variable deferred annuities include the structured annuity and variable annuity product lines. 

Indexed annuities 

Fixed indexed annuity (FIA) sales for the third quarter were $17.3 billion, up 4.0% from the previous quarter and up 25.6% from the same period last year. Allianz Life ranking as the top seller of indexed annuities, with a 13.3% market share. Athene USA ranked second, followed by AIG, Fidelity & Guaranty Life, and Sammons Financial Companies. Allianz Life’s Allianz Benefit Control Annuity was the top-selling indexed annuity.   

Traditional fixed annuity sales in the third quarter were $360.7 million. Sales were down 21.9% when compared to the previous quarter, and down more than 26.1% when compared with the same period last year. Traditional fixed annuities have a fixed rate that is guaranteed for one year only. 

Traditional fixed annuities 

Global Atlantic Financial Group sold the most fixed annuities, with a market share of 22.6%, followed by Jackson National Life, American National, EquiTrust, and AIG. Forethought Life’s ForeCare Fixed Annuity was the top-selling fixed annuity, for all channels combined for the fifth consecutive quarter.

Multi-year guaranteed annuity (MYGA) sales in the third quarter were $11.5 billion, down 20.2% from the previous quarter, and down 30.8% from same period last year. MYGAs have a fixed rate that is guaranteed for more than one year. MassMutual ranked as the top seller, with a market share of 17.5%, followed by New York Life, Global Atlantic Financial Group, AIG, and Symetra Financial. MassMutual Life’s Stable Voyage 3-Year was the top-selling MYGA for all channels combined for the second consecutive quarter. 

In structured variable annuities, Equitable Financial ranking was the top seller in the quarter, with a market share of 20.9%, followed by Allianz Life, Brighthouse Financial, Prudential, and Lincoln National Life. The top-selling structured annuity contract was Pruco Life’s Prudential FlexGuard Indexed VA.  

Variable annuities

Variable annuity sales in the third quarter were $21.5 billion, down 6.5% from the previous quarter and up 26.5% from the same period last year. Variable annuities can lose money; gains are determined by the performance of the assets in the subaccounts. Jackson National Life was the top seller of variable annuities, with a market share of 21.9%, followed by Nationwide, Equitable Financial, Lincoln National Life, and Pacific Life.

© 2021 RIJ Publishing LLC. All rights reserved.

Denmark’s ‘Arnes’ can apply for early pensions

Nearly 30,000 Danes have applied for early retirement under a new program set up by the Danish government, IPE.com reported. The popularity of the option, which became available last August 1, is seen as validation for the idea that blue collar workers may need to retire early. 

“The figures tell me that there has been a need for a solution, with an objective right for those citizens who have slaved away in the labor market for a great many years,” said Mattias Tesfaye, Denmark’s acting minister for employment and gender equality.  

Danes who were born before December 31, 1953, qualified to receive the state pension at age 65. The pension age has gradually risen; those born after January 1, 1967, won’t qualify until age 69 (depending on future indexation for changes in longevity), according to lifeindenmark.borger.dk.

The program—the “Arne” pension, using a popular nickname for older male Danish workers—allows people to retire up to three years before reaching the national pension age if they have already worked for 42, 43 or 44 years (including periods of unemployment, parental leave and training). 

Insurance and Pensions Denmark (IPD), a lobbying group, has objected to the new financial tax that will pay for it. IPD said that the proposed financial tax could extract as much as 1.5 times the revenue needed from companies, and that revenue from better enforcement of the existing tax laws could pay for Arne instead.  

According to a report in IPE.com last October, around a third of the annual extra pension costs of 2.4 billion Danish krone ($370 million) in 2022, rising to 3.5 billion krone ($530m) in 2026, will be paid for starting in 2023 by a “social contribution from the financial sector,” with the rest being largely financed by taxing companies’ property holdings and a reorganization of municipal job center work.

The Ministry of Employment said of the 29,893 applications it received in the last four months, around 10,500 people had been granted the maximum early retirement entitlement. More than 11,500 had been allowed to retire one or two years early, and more than 14,500 had been asked to provide additional documentation.

© 2021 RIJ Publishing LLC.

Share of ‘advisor-reliant’ investors grew since 2015: Cerulli

Affluent investors are more frequently seeking advisor guidance while also becoming more involved in their portfolios, creating a complicated engagement environment for advisors, according to the latest issue of Cerulli Edge—U.S. Retail Investor Edition

The proportion of affluent investors who consider themselves predominantly “advisor-reliant” rose to 42% in 2021 from 37% in 2015. The incidence of maintaining self-managed accounts rose to 69% from 35% during the same period. More than two-thirds (69%) of affluent investors now report owning self-managed accounts, encompassing 33% of their overall investment assets.

Mid-life, affluent investors (ages 40–49) report the highest incidence (77%) of maintaining self-managed accounts. They often carry legacy accounts established earlier in life and lifecycles and have self-managed accounts as a result of rollovers from retirement plans with previous employers. Rising account balances and “taking retirement planning more seriously” in middle age increases their interest in engaging with advice professionals. 

“In these cases, advisors are well served by acknowledging the progress the self-managed investor has made on their own, and then highlighting the additional value their practice can provide,” said Scott Smith, director. “Investing can seem easy with a long-time horizon and few obligations, but as these investors encounter the intersection of funding their children’s post-secondary education and their own retirement, spreading the responsibility can be a welcome relief.”

Regardless of where investors fall on the self-managed continuum, the responsibility lies with the platforms they use to make sure that these investors are provided with access to both usable and worthwhile research tools and the opportunity to easily broaden the depth of their advice relationship, Cerulli believes. 

“Moving forward, self-managed accounts will increasingly serve both as an acquisition tool to develop lifetime wealth management clients and as a long-term complement to fully advised relationships,” said Smith. “To optimize their market opportunity, firms will need to both prove the value they can provide in each setting and make the interaction between them seamless based on the user’s preferences rather than their platform’s limitations.”

© 2021 RIJ Publishing. 

Pacific Life and tech partners develop annuity tool

Pacific Life is collaborating with Ensight and Insurance Technologies on a new sales tool that links to its current illustration software to create an “interactive, personalized presentation or e-brochure” that advisers and agents can share with clients, the Newport Beach, CA-based mutual insurer said in a release. 

Financial professionals can use the tool to help clients compare and contrast two or more annuities, based on separate illustrations. The tool shows the hypothetical performance of the annuities over time and the amount of lifetime income they could provide under different circumstances.

To receive the tool, financial professionals should ask their Pacific Life consultative wholesalers for the Ensight presentation or e-brochure when they request an illustration. If more than one illustration is requested—showing more than one product or solution—the resulting interactive output may help determine which product and optional benefit may be most suitable for that client.

“We have enhanced our application programming interfaces to allow our carrier partners to easily integrate their illustrations within new solutions,” said Doug Massey, EVP of Sales & Relationship Management, Insurance Technologies. “By integrating Ensight presentation with ForeSight, Pacific Life can leverage its compliant illustration calculations in an interactive solution that makes it easy to communicate the value proposition in its products and riders that best meets the client’s needs.”

For more information about this new tool, financial professionals are invited to contact a Pacific Life consultative wholesaler at (800) 722-2333 or visit Annuities.PacificLife.com.

© 2021 RIJ Publishing. 

How inflation impacts 2022 tax provisions: Wolters Kluwer

With inflation rising in 2021, the tax provisions subject to automatic inflation adjustments in the Internal Revenue Code are also seeing somewhat larger adjustments for 2022 than in recent years, according to tax and accounting division at Wolters Kluwer.

Congress continues to increase the number of tax provisions subject to automatic inflation adjustments. There are over 60 provisions in the Tax Code subject to inflation adjustments, and an additional set of retirement plan limits subject to a separate inflation adjustment calculation. 

Taxpayers with the same income in 2022 as in 2021 will tend to experience a lower tax rate in 2022 than in 2021 due to automatic inflation adjustments. Taxpayers can use many of the inflation adjustment figures to modify their tax planning for 2022. 

Some of the changes include:

Individual tax rates. The top of the 10% tax rate increases to $10,275 in 2022, an increase of $325 over 2021, as compared to an increase of $75 from 2020 to 2021. The bottom of the 37% tax bracket will rise $19,550 for 2022, to $647,850, after rising $6,250 from 2020 to 2021

Standard deduction. For single taxpayers, the standard deduction increases to $12,950 in 2022, up $400 over 2021, after increasing $150 from 2020 to 2021. For joint filers, the standard deduction increases to $25,900 in 2021, up $800 over 2021, after increasing $300 from 2020 to 2021

Estate tax unified credit. The estate tax unified credit for 2022 is $12,060,000, up $360,000 from 2021, after increasing $120,000 from 2020 to 2021

401(k) employee contributions. The elective deferral limit for 401(k) plans increases to $20,500 for 2022, up $1,000 from 2021, after an increase of $500 from 2020 to 2021

IRA contribution limits. The IRA contribution limit remains unchanged at $6,500 between 2021 and 2022 after increasing $500 between 2020 and 2021. (Increases to this limit are made only in $500 increments.) The phase-out range for deductible contributions for single filers starts at $68,000 for 2022, up $2,000 over 2021, after increasing $1,000 from 2020 to 2021. The phase-out range for deductible contributions for joint filers starts at $109,000 for 2022, up $4,000 over 2021, after rising $1,000 from 2020 to 2021.

© 2021 RIJ Publishing LLC. 

Fidelity to help participants buy income annuities

“Guaranteed Income Direct,” a new service from retirement plan giant Fidelity Investments, allows Fidelity plan participants to convert a portion of their 401(k) or 403(b) savings into an immediate income annuity to provide pension-like payments throughout retirement, a Fidelity release said. 

Scheduled to launch for select clients in the first half of 2022, Fidelity Guaranteed Income Direct will have broad availability in the second half of 2022, Fidelity said.

Available to nearly eight million workers on Fidelity’s workplace savings platform who are nearing retirement, Guaranteed Income Direct “addresses the growing interest among employers and employees for a guaranteed income annuity option that is connected to the company’s retirement savings plan and provides direct access to guaranteed income products,” the release said.

Demand for annuities as a retirement savings distribution option is increasing for several factors, the release said, including:

  • More employers feel more comfortable having workers keep their savings in the company’s savings plan when they retire.
  • Employers feel more responsibility to offer their employees the ability to turn some or all of their retirement savings into a steady income.
  • 78% of workers are interested in putting some of their retirement savings into an investment option that would guarantee them monthly income when they retire and help ensure they don’t outlive their savings, according to research cited by Fidelity. 
  • The passage of the SECURE Act has reduced the fiduciary risk for employers and made it easier for them to provide annuities as a retirement plan distribution option.

Guaranteed Income Direct gives workers the option of purchasing an immediate income annuity, with institutional pricing and offered by an insurer they choose, along with support and digital tools to help them decide how much guaranteed income they need. Individuals can convert any amount of their retirement plan savings, regardless of where their money is saved (mutual funds, etc.) to guaranteed retirement income, based on their personal needs. 

Any savings that are not converted to an annuity can remain in the workplace savings plan. The experience is integrated with Fidelity’s employee benefits portal, which also includes education and support from Fidelity to help employees as they consider their options.

Fidelity Investments, a privately held company, had $11.1 trillion in assets under administration, including discretionary assets of $4.2 trillion as of September 30, 2021. It administers the assets of more than 38 million people at some 22,000 businesses and more than 13,500 wealth management firms and institutions.

© 2021 RIJ Publishing LLC. 

Thanks-givings (Not Misgivings) about Social Security

Aside from the support of my family and my subscribers, I’m grateful for the Old Age and Survivors Insurance program, more familiarly known as Social Security. This year, I’m claiming the benefits I’ve earned on my personal work history.

Others may feel differently about Social Security. From what I read, many younger people are skeptical that benefits will “be there” for them. At the same time, many affluent investors believe that they could “invest their money better than the government can.” Others believe that Social Security is “broke,” or on its way there, because it’s “unfunded.” Still others seem to worry that the rising ratio of retirees to workers—the “dependency ratio”—will inevitably require much higher payroll taxes for current workers or smaller benefits for themselves.

Regrettably, there are marketers in the financial services industry who seem to regard Social Security’s dilemma—and there’s certainly a political dilemma—as an opportunity. Glib references to Social Security’s fragility in marketing materials are not unusual. These tactics might help nudge sales of private annuities up a bit, but they’re not harmless. I’d rather not believe that anyone would consciously set out to undermine the public’s faith in a system that most Americans themselves like, want, and need. But it appears to be happening.

Social Security’s constraints are mainly self-imposed.  Consider the political and fiscal constraints that architects of Social Security faced: They needed to start paying benefits ASAP to people who had never contributed to the program; the government, in the Depression, couldn’t afford to pre-fund future liabilities; everyone had to make payroll contributions, so that benefits would be earned and universal. The program, luckily, started with a tailwind: The worker-to-beneficiary ratio was high. Payroll taxes and retiree benefits were low. Costs were suppressed, temporarily, by excluding domestic and farm workers (including many people of color) from participation.

In the years since then, the demographic tailwind has turned into a headwind. Even so, Social Security doesn’t suffer from the vulnerabilities of defined benefit pension plans, which inevitably run into trouble as industries and demographics change. As for the supposed weaknesses of PAYGO and the unmet need for pre-funding, the program stopped being PAYGO in the 1980s, when workers began paying much more in payroll taxes than was paid out to beneficiaries. Payroll tax surpluses have added trillions of dollars to the general account over the past decades; the program’s surplus is currently $2.6 trillion. A portion of benefits are already coming out of the general fund (as the government redeems the program’s trust fund bonds). No crisis has occurred.

In short, if Americans want their earned benefits to continue to be paid in full for the indefinite future, they can choose, through their legislators, to finance it through a combination of payroll hikes, benefit adjustments, or general-account supplements. Congress has raised payroll taxes and program benefits many times over the past seven decades; it can do so again.

If it turns out that there are simply too few workers in the US economy to support a large elderly population, there will probably be too little output to sustain a bull market in stocks. And even if we eliminated Social Security today, the financial burden of caring for a large elderly population wouldn’t vanish. As for investors’ claims that they can invest better than the government, that’s true. But they can’t insure themselves against the risk of outliving their savings, or against the risk of retiring amid a depression, or against inflation risk, as efficiently as Social Security can. Social Security is social insurance. It’s not an investment. Its benefits are guaranteed by the claims-paying ability of the US government, and no one has yet plumbed the bottom of Uncle Sam’s pockets.

That’s more than I intended to say, and much less than I could say on this complex topic. I’m old enough now to be truly grateful for Social Security, and I believe that its future is precisely as certain—or uncertain—as we decide it will be.

© 2021 RIJ Publishing LLC. All rights reserved.

 

 

John Hancock transfers VA risks to Venerable

Venerable Holdings, Inc., a specialist in reinsuring blocks of variable annuity contracts, announced that it will reinsure a block of about US $22 billion worth of variable annuity business issued by John Hancock Life, a subsidiary of Toronto-based Manulife, between 2003 and 2012.   

The reinsurance covers contracts with guaranteed minimum withdrawal benefits (GMWB). A small block of policies with only guaranteed minimum death benefits (GMDB) is also included. John Hancock will continue to administer the block and provide service for policyholders. The deal covers about 75% of John Hancock’s legacy variable annuity block, a Manulife release said.

For Manulife, about $2.0 billion of capital will be released, including a one-time after-tax gain of approximately $750 million to net income attributed to shareholders, validating the conservatism of our reserves, and the release of approximately $1.3 billion of net LICAT required capital.

Manulife intends to deploy a significant portion of the capital released to buy back shares in order to neutralize the impact of the transaction on diluted EPS and core EPS2. The transaction is expected to lower annual earnings by approximately $200 million in 2022 and the impact is forecasted to decrease as the block runs-off.

Manulife said it “remains committed to its medium-term financial targets including core EPS2 growth of 10% to 12% and core ROE2 of 13% plus.”

“The deal, which is expected to close in the first quarter of 2022, will reduce our exposure to US VA Guaranteed Value and net amount at risk by more than 75%, and our equity market sensitivity from our variable annuity guarantees by roughly 54%7, greatly lowering our go forward risk profile,” said Naveed Irshad, Global Head of Inforce Management. 

Venerable’s Corporate Solutions Life Reinsurance Company is providing the reinsurance. ”The transaction will increase Venerable’s “assets under risk management” by about $22 billion, to $94 billion, according to a release this week. But most of those variable annuity assets are in separate account assets—tax-favored mutual funds—whose market risk is largely borne by the individual policyholder, not John Hancock Life.

John Hancock is transferring the risk that a) a greater-than-expected number of annuity contract owners might exercise the optional income-for-life rider (the GMWB) and b) their withdrawals during retirement might empty their separate account assets before they die. That would represent a loss for John Hancock; the risk of such losses is the risk that Venerable Re is assuming.

To back that risk, John Hancock will contribute $1.3 billion to a comfort trust. “Under the terms of the agreement, Venerable’s reinsurance obligations will be secured by a comfort trust with assets in excess of statutory reserve requirements. An initial deposit of approximately $1.3 billion of assets will be transferred to the trust on closing,” a Manulife release said.

Wells Fargo Securities, LLC is serving as financial advisor, and Sidley Austin LLP is serving as legal counsel to Venerable in connection with this transaction.

Venerable is a privately held company created by an investor group led by affiliates of Apollo Global Management, LLC, Crestview Partners, Reverence Capital Partners, and Athene Holdings, Ltd. Venerable owns and manages legacy variable annuity business acquired from other entities. It has business operations based in West Chester, Pennsylvania and Des Moines, Iowa.

“The deal, which is expected to close in the first quarter of 2022, will reduce our exposure to US VA Guaranteed Value and net amount at risk by more than 75%, and our equity market sensitivity from our variable annuity guarantees by roughly 54%7, greatly lowering our go forward risk profile,” said Naveed Irshad, Global Head of Inforce Management at Manulife. 

As of September 30, 2021, this block included approximately 143,000 policies with a GMWB rider and approximately 20,000 with a Guarantee Minimum Death Benefits (“GMDB”) rider, as well as $2.3 billion of IFRS reserves, representing 76% of Manulife’s US VA net amount at risk. 

© 2021 RIJ Publishing LLC. All rights reserved.

Annuity sales dip 9% in 3Q2021 from prior quarter

Total U.S. annuity sales were $62.3 billion in the third quarter, up 12% from third quarter 2020. Year-to-date, annuity sales increased 19% to $191.4 billion, according to results from the Secure Retirement Institute (SRI) US Individual Annuity Sales Survey

“Nearly half of all retail annuity sales (49%) used non-qualified assets,” said Todd Giesing, assistant vice president, director of SRI Annuity Research. “Generally, non-qualified annuity sales have held about 42% of the retail market in the past 10 years. We are seeing significant increases in non-qualified sales through all deferred annuity product lines, a key indication that tax deferral is a significant driver of growth in 2021.”

Total variable annuity (VA) sales were $30.6 billion in the third quarter, up 28% from prior year. Total VA sales were $93.3 billion in the first three quarters of 2021, 31% higher than prior year.

Fee-based VA sales were $1.2 billion in the third quarter, up 44% from prior year. This marks the first time there has been four consecutive quarters of $1 billion+ in fee-based VA product sales. In the first nine months of 2021, fee-based VA sales were $3.6 billion, 60% higher than prior year.

“The growth in fee-based VA sales were driven by registered investment advisors and broker dealers,” said Giesing. “We believe increased interest in tax deferral coupled with technology solutions aiding operational challenges are playing a role in the rise of VA fee-based products.”

Traditional VA sales were $21.4 billion in the third quarter, a 21% increase from third quarter 2020. Year-to-date, traditional VA sales totaled $64.9 billion, up 17% from prior year. By year-end, SRI is projecting traditional annuities will surpass expectations, with nearly 20% in growth.

Registered index-linked annuity (RILA) sales were $9.2 billion, up 47% from third quarter 2020. For the first three quarters of 2021, RILA sales were $28.4 billion; 81% higher than prior year.

“Over the past five years, RILA sales have jumped ten-fold, driven by market conditions, new carriers entering the market and expanded distribution,” noted Giesing. “As investors continue to seek investment growth with a layer of protection, we expect this trajectory to continue. SRI projects sales to exceed forecasted expectations, with 2021 sales exceeding $36 billion.”  

Total fixed annuity sales were $31.7 billion, level with third quarter 2020 results. Year-to-date (YTD), total fixed annuities grew 10% to $98.1 billion.

Third quarter fixed indexed annuity (FIA) sales were the highest levels in two years. FIA sales increased 30% in the third quarter to $17.1 billion. FIA sales were $47.1 billion in the first nine months, up 14% from prior year. About one-half of one percent of FIA sales are mediated by fee-based advisers, such as Registered Investment Advisors, SRI said. 

“Growing concerns about inflation should boost FIA sales in the coming months as investors seek principal protection with greater investment growth to offset rising inflation,” said Giesing. “SRI is anticipating FIA sales will surpass expectations, growing to over $60 billion by year-end.” 

Fixed-rate deferred annuity sales fell to $11.5 billion, down 27% from third quarter 2020. YTD, fixed-rate deferred sales totaled $42.1 billion, 10% higher than prior year.  

“While fixed-rate deferred annuity sales dropped in the third quarter, these products still offer competitive rates, compared with other short-duration investment options available in the market today,” Giesing said. “SRI predicts annual sales of fixed-rate deferred annuities will remain strong until 2025, as more than $150 billion in existing fixed-rate deferred contracts come due.”

Despite the modest increase in interest rates, immediate income annuity sales remain well below sales levels two years ago. Immediate income annuity sales were $1.5 billion in the third quarter, up 7% from third quarter 2020. In the first nine months of 2021, immediate income annuity sales were $4.4 billion, down 6% from prior year.

Third quarter deferred income annuity (DIA) sales were $510 million, a 22% increase from third quarter 2020. Year-to-date, DIA sales were $1.4 billion, 16% higher than in the same period of 2020.

© 2021 RIJ Publishing LLC. All rights reserved.

Breaking News

Annuities Genius to use Cannex data for annuity comparison tool

Annuities Genius, the developer of annuity point-of-sale software that helps financial professionals meet compliance and suitability requirements, will use contract data from CANNEX in its SPIA (single premium immediate annuity) and DIA (deferred income annuity) price and feature comparison tools.

Advisers and agents will be able to use Annuities Genius to show clients the annuity offerings of major carriers, compare product benefits, add pricing and performance information to product illustrations, and match products with each client’s income goals and risk tolerance.

“Clients are more likely to make the decision to buy an annuity when they have all the information they need to choose between products, and are guided by an advisor or financial professional,” said David Novak, CEO of Annuities Genius. “Our comparison tools not only help clients make purchase decisions, but also provide a documented process for meeting best interest standards.”

Annuities Genius, a comprehensive annuity decision-making platform, provides point-of-sale comparison tools that allow clients to make informed annuity purchases and enables advisers and agents to meet “best interest” standards for annuity sales. The platform was developed by Agatha Global Tech, LLC, which partnerswith insurance carriers, distribution organizations, financial advisors, and insurance agents to offer annuity information. 

CANNEX provides data, research and analysis for retirement savings and income products in North America. It manages data, pricing and illustrations for insurance carriers and serves as a source of product information for distributors, as well as third-party tools and applications.

Envestnet advisers can now access SIMON’s structured products lineup

Fee-based financial advisers using Envestnet Inc.’s unified managed account (UMA) platform can now get access to structured investments and annuities, thanks to a new partnership between Envestnet and SIMON Markets LLC, according to a release this week.

SIMON offers access to structured investment, annuity, and defined outcome exchange-traded fund (ETF) solutions. Advisers will be able to place these structured products in UMAs, which are a part of many broker-dealers’ fee-based businesses.

SIMON Spectrum’s portfolio allocation analytics feature, which is part of Envestnet’s proposal generation tool, is intended to help advisors assess the suitability of structured investments and annuities for clients, based on each product’s protection, upside, liquidity, simplicity, and history.

Envestnet’s integration with SIMON will also:

  • Facilitate the transition from proposal to implementation and execution through SIMON’s platform and order entry tools.
  • Deliver all post-trade data in real time, so advisers can manage all their structured investments in one centralized location while integrating SIMON’s structured investment data in client reporting.
  • Offer multimedia educational resources to help advisors and their clients better understand structured investment products, such as a library 90+ educational video and asset class education for all advisor experience levels.
  • Customized compliance-tracking and supervisory tools to help advisors navigate self-paced certification requirements and deliver real-time oversight for home offices.
  • SIMON’s tools and analytics will be integrated in workflows within:
  • Envestnet | MoneyGuide: MyBlocks will include a block dedicated to structured investments for advisers to introduce clients to these products. The integration will later incorporate structured investments in financial plans and connect the plans to the Envestnet proposal workflow.
  • Envestnet | Tamarac: Registered investment advisers (RIAs) that rely on Tamarac will receive single-sign-on (SSO) access to SIMON and incorporate structured investment data from SIMON into Tamarac reports.

Cost of transferring defined benefit pension risk falls slightly: Milliman

During October, the average estimated cost to transfer retiree pension risk to an insurer decreased from 102.7% of a plan’s total liabilities to 102.5% of those liabilities, according to the latest results of the Milliman Pension Buyout Index (MPBI), which is produced by Milliman, the global consulting and actuarial firm.

The average estimated retiree PRT cost for the month is now 2.5% more than those plans’ retiree accumulated benefit obligation (ABO). Meanwhile annuity purchase costs, which reflect competition amongst insurers, decreased substantially from the month prior, to 99.4% in October from 100.2% in September.

“As the Pension Risk Transfer (PRT) market continues to grow, it has become increasingly important to monitor the annuity market for plan sponsors that are considering transferring retiree pension obligations to an insurer,” a Milliman release said.

“De-risking activity typically increases toward year-end, and with only four non-holiday weeks left in 2021 we may see some insurers offering more competitive pricing rates to capture those last Q4 deals,” said Mary Leong, a consulting actuary with Milliman and co-author of the study.

The MPBI uses the FTSE Above Median AA Curve, along with annuity purchase composite interest rates from eight insurers, to estimate the average and competitive costs of a PRT annuity de-risking strategy. Individual plan annuity buyouts can vary based on plan size, complexity, and competitive landscape.

Lincoln updates ‘Level Advantage’ RILA; authorizes stock repurchase up to $1.5 billion

Lincoln Financial (NYSE: LNC) plans to launch a new crediting strategy within its indexed variable annuity. Beginning Nov. 22, 2021, new contracts with Lincoln Level Advantage registered index-linked annuity (RILA) will offer a “spread crediting strategy,” in addition to existing options. 

“Lincoln Level Advantage has helped more than 76,000 clients2 safeguard the assets they’ve worked hard to save, stay positioned for growth and feel more confident about their financial futures,” says Kroll. “Now, this new spread indexed account further expands the product’s optionality and flexibility to best suit clients’ diverse investment needs.”

The Lincoln Level Advantage spread account works like this: If the index performance is positive, all of the index growth over an initial spread would accrue to the policyholder. A spread rate is the percentage of the index’s return deducted from the indexed account when the index return is positive.

If the index performance is negative, the account is protected against losses less than or equal to the downside buffer. In other words, if the index gained 9% and the spread was 2%, a gain of 7% would accrue to the policyholder. If the index gained 1.5%, the policyholder wouldn’t receive a gain. d

The spread indexed account option is currently available for new contracts with a six-year indexed account and a 15% protection level. Spread rates for new indexed segments will be declared five business days in advance of the beginning of a segment.

In its release, Lincoln cautioned that a policyholder’s return could be lower than if invested directly in a fund based on the applicable index. There is risk of loss of principal if negative returns exceed the selected protection level, as well as a risk of future availability as the indexed accounts with applicable spread rates will vary over time.

Policyholders must choose a crediting method by the end of each crediting terms (usually one year) or Lincoln will choose one for the policyholder, the release said. The available indexed account with applicable spread rates will vary over time.

Since its launch in May 2018, Lincoln Level Advantage has been Lincoln’s most successful product, with sales of more than $12 billion.  The product has earned recognition from Structured Retail Products, was the top-selling RILA in 2020 and was among Barron’s “The 100 Best Annuities for Today’s Market.”

In other news, Lincoln Financial Group today announced that the board of directors of its parent company, Lincoln National Corporation, has authorized an increase to the company’s securities repurchase authorization, to $1.5 billion.

The plans were discussed on the call related to the reinsurance transaction with Resolution Life held on September 17, 2021, and on the company’s third quarter earnings call held on Thursday, November 4, 2021.

The repurchase authorization has no expiration date. The amount and timing of share repurchases depends on key capital ratios, rating agency expectations, the generation of free cash flow and an evaluation of the costs and benefits associated with alternative uses of capital.

“Our stock repurchases may be effected from time to time through open market purchases or in privately negotiated transactions and may be made pursuant to an accelerated share repurchase agreement or plans designed to comply with Rule 10b5-1(c) under the Securities Exchange Act of 1934, as amended. The purchase program may be suspended, modified or terminated at any time, Lincoln said.

More than one in five Americans own an annuity: F&G survey

Nearly three quarters of American investors (73%) are very or somewhat worried about inflation impacting their retirement, according to a new survey from F&G, part of the FNF family of companies and a provider of annuity and life insurance products to retail and institutional clients.

The company’s second annual Risk Tolerance Tracker asked American investors how the events of the last six to nine months have affected their views on risk. The survey showed that 61% of American investors are generally worried about their retirement income. Investors were most concerned about inflation (81%), increasing health care costs (78%) and market volatility (64%).

In 2020, nearly three of four (74%) American investors said they were less likely to take financial risks. The 2021 Risk Tolerance Tracker survey found 69% of American investors still feel this way.

Most American investors continue to avoid unnecessary financial risks following the COVID-19 pandemic, despite the vaccine and the easing of certain restrictions. This trend was consistent across generations: 67% of Gen X and 70% of Baby Boomers said they are less likely to take financial risks based on events of the last 6-9 months, down from 72% and 75% in 2020, respectively.

Only 15% of respondents and only 22% of Baby Boomers own an annuity. Nonetheless, 36% said they would be more likely to explore a new financial product since the pandemic, up from 28% in 2020. 

A majority of Americans (61%) do not work with financial advisors, despite the fact that those who use advisers are almost twice as likely to feel “very prepared” for retirement as those who don’t, according to recent data released by SRI.

When respondents to the Risk Tolerance Tracker were asked why they don’t work with an adviser, respondents to the Risk Tolerance Tracker named fees (36%), confidence in their own ability (27%) and lack of sufficient investable income (26%) as reasons. 

This survey was conducted online by Directions Research and fielded from September 23 to October 1, 2021, among a demographically balanced nationally representative sample of 1,676 US adults 30 years of age and older. “F&G” is the marketing name for Fidelity & Guaranty Life Insurance Company issuing insurance products in the United States outside of New York. It is part of the FNF family of companies.

© 2021 RIJ Publishing LLC. All rights reserved.