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Northwestern Mutual Life rolls out PX (Planning Experience) Adviser Interface

Posted on September 8, 2021 by -

Editor’s note: Northwestern Mutual provided RIJ with two screenshots from PX (see below) and this additional information:

“[Our] proprietary financial planning tool, PX, is available to the company’s entire field force of 11,000+ financial professionals, who provide insurance, retirement planning, investment services, estate planning and long-term care, among other products and services. 

“We believe in taking a holistic approach to help our clients achieve greater financial security – one that integrates both insurance and investments, and leverages the trusted advice of a Northwestern Mutual financial professional. Our proprietary financial planning tool and products are only available through a Northwestern Mutual advisor.”

When Northwestern Mutual was contemplating the rollout of a new proprietary financial-planning tool called PX, it needed to navigate a number of factors, including a geographically dispersed network of advisors in the field who act as independent entrepreneurs to serve clients with holistic financial plans.

These advisors often develop distinct practice models depending on the needs of their clients—meaning any approach must be multifaceted and reflect the needs of the field force of financial representatives. The company also faced residual skepticism from earlier versions of the tool that did not meet advisor expectations.

When the COVID-19 pandemic emerged just as the PX rollout was set to begin in earnest, it threatened to disrupt the carefully planned and layered deployment effort. Change management and careful stakeholder engagement became essential.

Chief distribution officer Tim Gerend and chief customer officer Christian Mitchell partnered to lead the PX rollout and were able to chart a path to success in spite of these imposing odds. They sat down with McKinsey partners William Decherd and Kia Javanmardian to discuss their collaboration and how they embedded change through persistence, focus, and a clear mission.

McKinsey: Let’s start by talking a bit about the PX tool. What was riding on its rollout?

Christian Mitchell: We’re in the midst of a transformation of the overall client experience to ensure the relevance and vibrancy of Northwestern Mutual for many, many decades to come. PX is not just a financial-planning tool but also the cornerstone technology to this broader push into our future experience. That makes its adoption by our advisors critical on multiple fronts.

Tim Gerend: We have a proprietary and differentiated way of going to market, and we want that philosophy reflected in PX. We believe in the role of the advisor in delivering a great client experience. If our advisors aren’t using PX, our clients aren’t getting the full experience.

McKinsey: Every change-management effort presents its own challenges. What were the main ones you had to confront?

Tim Gerend: There were challenges for both design and adoption of PX. Building a proprietary planning tool is a really complicated thing to do. That’s compounded by the fact that we have a huge range of client diversity across our system. We have advisors who are running teams focused mostly on complex planning for high-net-worth clients. We also have advisors who are brand-new to the industry. Our platform needs to work for everyone.

Tim Gerend

The second, more practical challenge is on the adoption side, where we had a user base that was very loyal to their existing planning tool. Our advisors trusted this tool and knew how to use it to motivate their clients to plan and take action. For advisors who are paid based on outcomes, time is literally money; convincing them to do something different obviously poses a real challenge.

Christian Mitchell: When PX was initially created several years ago, it fell short. The early version was not tailored to our unique approach to planning. It didn’t fully showcase how a mix of insurance and investment solutions leads to better outcomes for clients. It also wasn’t built with feedback from the advisors who would be using it. When we were planning for the rollout of the improved PX tool, we knew we would have to address a tremendous amount of skepticism among the field.

Another challenge was that even for folks who had embraced financial planning, this was not a one-for-one swap. The legacy tool was very module-based and transactional. PX is a true, comprehensive financial-planning platform. So we have to get advisors to embrace a broader, deeper element of financial planning in addition to the new platform.

McKinsey: How did you go about crafting a plan to persuade financial advisors to embrace PX?

Tim Gerend: I’ve always enjoyed the challenge of building alignment between the headquarters team, our advisors, and clients. With our business model that is vertically integrated, you’re always solving for multiple constituencies.

Many independent advisors are in this career because they didn’t want someone telling them what to do. That characteristic can be maddening when you’re trying to drive programmatic change, but that’s also what makes advisors resilient and courageous enough to be really great in this business. They are independent business owners who are living and eating based on the success of their business. Those qualities make them the greatest test kitchen you could ever have because if something works, they’re going to use it. And if it doesn’t work, you can’t convince them otherwise. That dynamic ensures we’re delivering something that truly adds value to clients.

Christian Mitchell: Understanding and embracing that independent culture was our true opportunity. Instead of crafting a plan on our own, we developed a strategy to co-create the platform with some of our best advisors. They helped identify and prioritize the functionality and became advocates for the tool. When the field sees our top advisors use something as groundbreaking as PX, there is a natural tendency to want to check it out for themselves. We also have a targeted engagement strategy that started with new advisors with less complex needs, and as the platform evolves and becomes more robust, it makes sense for more senior advisors with sophisticated needs to use it. But getting adoption wins on the board early paved the way for the work that continues today.

Tim Gerend: For those reasons, I find it is much more effective to use an influence model. If you can work in such a way that the field recognizes it’s in their business interest and their clients’ interests to do it this way, you are going to get much more traction in the long run. What I always try to resist is the short term, “We want this outcome. How do we get there? What are the carrots and sticks?” I think it’s worth investing the energy to play the long game, to say, “How are we really solving this problem in a way that meets the needs of clients and the field?” And then, “How would you bring advisors into the process so that they can see it and believe it?”

McKinsey: What methods did you use to build consensus and instill a sense of accountability among your teams?

Tim Gerend: Ultimately, it comes down to working as a team that shares common outcomes rather than independent leaders spending time negotiating “turf.” One of the key developments was that Christian came to me and said, “Tim, I think strategy and execution for adoption of PX should sit on your team.” Christian’s team owned the development of PX, but it was essential for my team to lead adoption—with a lot of partnership across all areas of the enterprise. On one level, it felt like he was lateraling the hot potato to me. But he was exactly right. There was no way we were going to deliver this sort of pathway of adoption to the field without my organization being bought in 100 percent, because we have the on-the-ground relationships and the accountability and oversight of our field leaders, who drive a lot of behavior. Without being able to really leverage that muscle in an effective way, we weren’t going to get anywhere.

So this notion that it was not one leader’s priority but a shared-enterprise responsibility and part of improving advisor performance accelerated the adoption of PX. If our teams weren’t in lockstep from design to implementation, I don’t think this thing would have gotten off the ground.

McKinsey: What are some of the specific challenges you’ve faced with the rollout?

Tim Gerend: The rollout of PX has been a test with real clients: real money, real decisions, real consequences. The level of connection and influence there is really important. The effective integration of the teams meant my organization and Christian’s both accepted responsibility for design and implementation, even though we each don’t own the whole thing. It was a recognition of that shared accountability.

There are a lot of different constituents who are affected by the PX rollout, so it’s not just the advisors. It’s the staff members on their teams who also use the tool. It’s the field leaders who are responsible for overseeing and supervising the advisors. It’s the ecosystem of the network offices, which play a role in how we support and deliver financial security to our clients.

Early on, we were very intentional in selecting the pilot offices, because we were really testing the training, the meeting cadence, the communication, the reinforcement, the incentive structure—all the components of a successful adoption. Once we had that locked in for those four offices, we were able to move through on-boarding successive waves of offices, incrementally making it better each time because we were learning from the groups of offices.

Christian Mitchell

Christian Mitchell: It’s important to note that while we have achieved some significant milestones in our PX rollout, our work isn’t finished. We like to say it is the end of the beginning. We know it will take some time for advisors to truly embrace PX, just like it did for them to embrace the previous planning tool. We also know we will continue to evolve the platform to be more unique and more usable for our clients and advisors as we evolve it with capabilities that go beyond what’s being done out there in the industry today.

McKinsey: How were you forced to pivot in response to the onset of the pandemic?

Christian Mitchell: Initially, I was really worried about the implications of the pandemic, because our advisors are relationship-driven, and in-person interaction has historically been our model. Our change-management approach seeks to use personal influence and relationships with well-known advisors. When the pandemic hit, we made the decision, despite some anxiousness, that we were just going to move full steam ahead. This was our window of opportunity, given where PX was in terms of functionality and our aspirations for what we wanted to accomplish in the coming years.

So we pivoted from the in-person change-management learning sessions to an all-virtual approach. It ended up giving us much greater reach. Tim and I could hop on these kickoff calls with basically every advisor in the office. Even if we had been super-aggressive in terms of travel, we may have been able to get to only five or six offices. Instead, we were able to talk to all of them in a virtual way.

The virtual environment and doing a lot of calls in rapid succession led to iterative learning. When you’re doing much quicker cycles, I think you become much more attuned to what works and what doesn’t, so we could accelerate our learning and adjust our approach.

The virtual environment also encouraged more real-time discussion and afforded teams the opportunity to evaluate PX based on its merits, rather than the rumor mill, which helped tremendously.

Last, and likely most important, PX is a digitally native platform. You can easily show the outputs. It’s a piece of financial-planning software that is suited to working in a 100 percent virtual way. And so that was a massive tailwind as well.

McKinsey: What approaches did you use to overcome existing skepticism among financial advisors?

Tim Gerend: Number one, it’s always difficult to get the attention of the advisors. They are focused on their business, their next client, their next meeting. The practices look very different across the country, and so it’s a constant challenge for those of us at headquarters to say, “How are we shaping the message in a way that’s actually going get on their radar screen, resonate, and land?” The other challenge we had was unique to PX. This wasn’t our first go-round.

Our approach was really to reinforce the value of this change at multiple levels. Number one is obviously John Schlifske, our CEO, with Christian and I being responsible for carrying and reinforcing his strategic messaging. We wanted people to know that we are building a great client experience. PX is the centerpiece of that experience. It’s going to be integrated and seamless and proprietary to Northwestern Mutual and deliver things that you can’t get anywhere else. Having the voice of the CEO was necessary but not sufficient because you still had to have a way of getting people engaged with it. So we supported this with a robust strategic-communications approach that focused on driving measurable engagement across all stakeholder groups.

Second, we had to get advisors to experience the tool and realize PX really can do what they need it to. We were making real progress, in large part because of the partnership and co-creation. If people didn’t experience it for themselves, they would live on the urban legend and skepticism from the very first iteration of the tool.

We also had something called the icon strategy, which focused on engaging our field legends and heroes and role models. We wanted to make sure that some of our most recognizable advisors earnestly believed that this tool was the right approach—and then we amplified their support to demonstrate the alignment with these icons. If it’s good enough for them, then we’ll get the attention of the rest of the field who might be skeptical.

Last, we’ve really been leveraging the advisors who have been part of the co-creation process. Not only have they helped us design and build the platform, but now they are really the ambassadors for PX and the system. How we’re thinking about the next leg of the strategy and rollout really relies on them and their personal testimony about what PX can do for clients.

McKinsey: What metrics did you select to gauge the rollout’s success?

Christian Mitchell: We could have spent two months trying to construct the perfect set of goals that captured all the intricacies of adoption. Instead, we decided to pick a simple metric—the number of advisors who had adopted PX—that was directionally right. Making that call early and giving the teams clarity allowed them to unleash their full creativity and effort.

Tim Gerend: A simple metric was the most effective alignment tool that we could use between our teams because we had a shared definition of success. It also provided us with a weekly mechanism to know whether we were on track. And there was a lot of deep, critical analysis in weekly updates: How do we feel about it? Why are we up? Why are we down? It also drove a lot of the discussion about how we were adjusting the plan as we moved through the year.

Christian Mitchell: We basically have 100 percent adoption for the newer advisors. We have this new generation of digitally savvy advisors who are going to drive so much value for us going forward.

Now that we have progressed on this journey, market share is something we also carefully monitor. A year ago, only 30% of plans were PX plans. Today, more than half of plans are made using PX.

For our more incumbent advisors, we have a tool now that encapsulates our unique go-to-market strategy. It allows them to tell the story they want to tell. We just actually met with a group of our most productive, influential advisors, and the high point of the whole discussion was PX and how far it had come since its earlier iteration. Now they see it bringing to life this power of our unique insurance and investment solutions.

Our managing partners talk about PX as a recruiting tool because it’s so modern and sophisticated. They’re using it in their recruiting pitch for all their new folks. That was really gratifying to hear and gets back to the main strategic push behind PX—our clients. They are getting better, more comprehensive advice. It’s more digestible. They can see their goals online. They can track their progress against goals. We see great early results from that. We’re also seeing some really interesting early indications of greater advisor productivity.

McKinsey: Thinking back on your journey over the past 18 months, what were the main lessons you took away?

Tim Gerend: Number one, clearly for me far and away, is the importance of shared goals and team alignment. You have to have a clear and common definition of success because we were asking for so many different things from so many different parts of the organization. If you have people playing a different game, I don’t think that’s going to work.

Second, the architecture or the infrastructure that we set up around this effort was enabled by the speed of communication. We were looking at the metrics every week and evaluating the success of the communication plan, of the learning journeys, of the rack and stack of the PX features on the backlog. I just think the cadence that we were able to keep up was really critical.

Christian Mitchell: What was really different was bringing in the right partners early on for that shared accountability—basically forcing everyone to look each other in their eyes and say, “Hey, we’re going to either win and glory awaits, or we’re going to go down in flames. But we’re going to do it as a team.” So the biggest unlock was to make sure we had shared objectives and goals across the various teams. We needed to be in the trenches on this together. Achieving that shared purpose was critical.

© 2021 McKinsey & Co. Reprinted with permission.

Honorable Mention

Posted on September 8, 2021 by -

Jackson National enhances retirement income gap calculator

Jackson National Life Insurance Company said it has enhanced its proprietary retirement expense calculator tool, designed to help financial professionals effectively project their clients’ retirement expenses based on the federal government’s Consumer Expenditures Survey data.

The updated tool, now named the “Retirement Expense & Income Calculator,” features an income gap analysis and a Proposed Gap Solution illustration powered by the Hedgeness Income Engine.

The tool allows financial professionals to enter data points, including current income, retirement age and retirement state, and generate a custom client report that is personalized to their client’s needs. Enhancements include a new income gap analysis that now enables financial professionals to help their clients determine which expenses are essential for retirement and calculate the gap between those expenses and guaranteed income sources to provide the dollar amount needed to cover the income gap.

If there is an identified gap, the new proposed gap solution then illustrates an amount that could be invested in a variable annuity with an optional income benefit to cover the income gap identified. One enhancement to the new tool is the proposed gap solution, which is powered by the Hedgeness Income Engine, the first cloud-based platform exclusively focused on retirement income outcomes.

Financial professionals who would like to learn more information about the planning calculators and tools Jackson offers can visit https://www.jackson.com/your-financial-future/calculators-and-tools.html.

Ubiquity introduces 401(k) for ‘solopreneurs’

Small business retirement plan pioneer Ubiquity has introduced Single(k) Plus, a full-service solo 401(k) plan with recordkeeping capabilities tailored to “solopreneurs,” freelancers and the self-employed.

With Ubiquity acting as the third-party administrator and recordkeeper, this streamlined individual 401(k) gives solopreneurs the power to easily select investments, make contributions, and track assets within the plan.

Single(k) Plus includes professional 3(38) investment oversight with Ubiquity’s CensiblyYours fund list and model portfolios. Additionally, the new product offers full customer service support and loan provision capabilities along with all the benefits of a traditional retirement savings vehicle.

Released ahead of the Sept. 15 self-employed quarterly estimated tax deadline, Single(k) Plus also gives solo business owners the ability to deduct contributions, along with any plan costs, as a business expense.

The announcement follows Ubiquity’s selection to serve as 3(16) plan fiduciary, recordkeeper, and third-party administrator for Sallus Retirement’s new Pooled Employer Plan (PEP) as well as the addition of turnkey ESG fund options to Ubiquity’s 401(k) offerings.

Income Lab adds $1.7 million in seed financing

Income Laboratory, Inc., a provider of dynamic retirement planning software to the investment industry, has raised $1.7 million from industry executives and investors in a seed financing round the Denver-based startup announced this week. The firm has had $3 million in funding to date.

Investors include Dave Agostine, a former managing director for BlackRock and former CEO of Cachematrix; Tom Florence, a managing director at Hamilton Lane and former CEO of 361 Capital; and Robert Pinkerton, CFO at Conga and an Income Lab board member.

Income Lab introduced a beta version of its cloud-based software in early 2020 for the financial advisory and planning market. Now fully launched, the software incorporates economic and market conditions, dynamic spending analysis, tax-smart distribution planning, and automated plan monitoring and management. Income Lab charges advisors approximately $159 a month per seat.

Earlier this year the firm added a Tax Center, providing advisors with enhanced tools to evaluate the tax consequences of various portfolio withdrawal strategies, including planned cash flows from multiple sources.

Income Lab automates retirement plan monitoring by checking plans monthly to see whether circumstances have changed sufficiently to warrant any modifications. Income Lab then notifies the advisor who can discuss possible adjustments with clients.

Rather than solely using current static software that runs traditional Monte Carlo scenarios, advisors can enhance their practices by adding Income Lab’s technology to adjust dynamically for evolving economic and market conditions, tax regime changes, and shifts in spending.

Agostine and Florence serve on Income Lab’s advisory board, in addition to Derek Tharp, a financial planner at Conscious Capital, lead researcher for financial blog Kitces.com, and assistant professor of finance at the University of Southern Maine.  

Income Lab Chief Innovation Officer Justin Fitzpatrick, Ph.D., CFA, CFP, and CEO Johnny Poulsen, CFP, co-founded Income Lab in 2018 after careers in financial services sales, distribution and management at Jackson National. The firm will use the latest funding to continue to develop and market software.

“We started Income Lab because we saw a massive gulf between the best ideas in retirement income planning research and what an advisor could actually deliver to clients,” Fitzpatrick said in the release. “Income Lab sits at the intersection of practice, research, and technology and is the first truly dynamic retirement income planning platform.”

“We built Income Lab as a ‘bring your own investments’ platform,” Poulsen said. “Our sweet spot is small- and mid-size registered investment advisors that focus on financial planning and have well-defined approaches to investing but are open to new ideas and research in their planning process.”

Women now represent just over half (50.8%) of the US population, according to the US Census Bureau. They graduate from college at higher rates than men and have reached the highest rungs on the corporate ladder. They also tend to outlive their husbands?

In short, women represent a market that male financial advisers can’t afford to underestimate or overlook as easily as—despite 50 years of feminist milestones—they still do.

Many women prefer goal-based investing: Cerulli and Schwab

A new white paper from Cerulli and Schwab Asset Management tries to help advisers correct this market failure by offering “actionable insights for advisors seeking to enhance their client experience for women investors across three stages: client acquisition, engagement and communication, and planning and portfolio construction.”

Segmentation

First, to capture women investors’ business, advisors must start by identifying a segment of the market that best aligns with their services, processes, and personal passions. Women within a specific demographic are more likely to share interests, needs, and preferences. After identifying a segment based on common attributes (i.e., profession, passions, life stage, etc.), advisors can develop a tailored approach and resources that speak directly to the needs of women investors.

“Ultimately, a clear segmentation strategy translates to clarity and intentionality in all other aspects—from authentic business development to targeted service delivery,” said Marina Shtyrkov, associate director at Cerulli.

Engagement and communication

The next stage of the client experience involves client engagement and communication. According to the research, one in five women investors consider the relationship with their advisor and the adviser’s trustworthiness to be the driving force behind overall satisfaction.

“To build trust with women investors, advisors need to foster a sense of collaboration, apply active listening skills, and engage both spouses equally,” added Shtyrkov. “This includes nonverbal communication, use of inclusive language, and proactive outreach.”

Goals-based process

In qualitative research interviews with advisors, Cerulli observed that women investors are more inclined than men to engage in a holistic, goals-based process that prioritizes financial planning over investment performance. For women, money isn’t an end in itself but a means to an end. Their portfolios need to align with their values and objectives.

FIG to offer ‘Quinci’ education, planning and distribution platform 

Financial Independence Group, LLC (FIG), a financial services conglomerate working with independent financial advisors and insurers, is launching “Quinci,” a digital platform powered by SIMON, the online distributor of structured investments and insurance products.

FIG specializes in annuities, long-term care, and life insurance products. Quinci will product advisers with education, analytics, seamless execution, and business management through a partnership with SIMON Markets’ web platform for wealth management professionals. 

Quinci is divided into five sections:

Education: Provides tools to teach advisers about fixed indexed annuities, structured investments, including resource libraries with videos that can be shared with clients.

Financial planning: Using built-in financial planning tools and tools from some of the largest platforms in the industry, advisors can identify the ideal profile for their client.

Marketplace: Advisors can view, filter and analyze products all in one place, assess historical and hypothetical performance under different scenarios, and utilize advanced tools to evaluate products for specific clients.

E-application: Provides fully embedded, seamless execution of the products that are best-suited for clients.  With built-in product training checks and the ability to pre-fill key parts of the application, advisors can submit business with confidence.

Lifecycle: Advisors can manage their entire book of business from initial submission to maturity with real-time status updates and two-way digital communications. After receiving account values, surrender information, and renewal rates directly from the carrier, they can use the Efficient Frontier to re-analyze their clients’ allocations on a yearly basis.

RGA completes EUR3.3bn pension risk transfer deal

Reinsurance Group of America, Incorporated (NYSE: RGA) a leading global life and health reinsurer, today announced the completion of a longevity reinsurance transaction with Athora Netherlands, a leading pension provider in the Dutch market.

The reinsurance transaction covers an in-force portfolio of approximately 46 thousand individual annuity polices written by Athora in the Netherlands with total reserves of approximately EUR 3.3 bln. Under this reinsurance agreement, the longevity risk is transferred to RGA over the full remaining term of the underlying portfolio.

“We are very pleased to have worked with Athora to complete this transaction. This deal is representative of the guiding principles of RGA – to work closely with our clients and partners to develop customized solutions to help them address financial challenges and position themselves for future growth,” said Olav Cuiper, Executive Vice President, Head of RGA EMEA. “We are actively working to grow our longevity business in continental Europe, and we are proud to build on our past groundbreaking transactions in the Netherlands and France and our strong franchise in the U.K.”

The transaction closed on July 1, 2021 and is effective since then. Additional terms of the transaction are not being disclosed.

© 2021 RIJ Publishing LLC. All rights reserved.

Luma adds annuity comparison tool to its distribution platform

Posted on September 2, 2021 by -

Luma Financial Technologies has added an annuity comparison tool, “Luma Compare,” to its structured products and annuities distribution platform, according to a company release this week.

The new feature allows advisors to select, compare and test different annuity products, including variable annuities, fixed index annuities and registered index linked annuities, thus helping advisor comply with Regulation Best Interest (“Reg BI”), the release said.

“An advisor’s ability to ensure they’re offering annuity products that are appropriate and suitable for their clients’ goals, while remaining compliant with Reg BI requirements, is now a task that can be swiftly accomplished,” said Keith Burger, National Sales Director for Annuities at Luma Financial Technologies.

Morgan Stanley, UBS and Bank of America are direct investors in Luma, which was spun out of Navian Capital in 2018 to serve the structured product marketplace, and expanded into the annuity space in February 2021. For more on Luma, see the June 24, 2021 article in RIJ.

© 2021 RIJ Publishing LLC. All rights reserved.

Social Security Needs Our Attention

Posted on September 2, 2021 by -

The 2021 Social Security Trustees report has just been published. One flashing red number from the new report: $19.8 trillion. That’s the present value of the unfunded obligations of the OASDI—Social Security and Disability Insurance—between 2021 and 2096. That number went up by $3 trillion in the past year.

I thought the $19.8 trillion figure might mean that Social Security would be able to pay all its benefits for the next 75 years if it received an instant infusion of almost $20 trillion. Wrong, according to Andrew Eschtruth of the Center for Retirement Research (CRR) at Boston College.

“The 19.8 trillion is not an investment-oriented concept, so it’s not intended to provide the answer to the question you are asking, which is ‘How much would the government need in hand today to fully fund all benefits for the next 75 years,’ he said in an email.

“The 19.8 trillion does not take interest earnings into account at all. It simply provides the present value of the aggregate cash flow shortfalls over the period. So it subtracts income (tax revenue) from costs in each year and provides the present discounted value of the amounts over the 75-year period.”

If Social Security were an advance-funded pension plan, or if the public voted to transition it to a fully funded pension plan, the transition might cost something like $20 trillion. But that would not reflect the $500 billion to $1 trillion per year that a $20 trillion pension fund might generate in interest.

Confused about the health of Social Security, and whether it will “be there” in the future? I am.

Eschtruth sent me to a supplement to the main 2021 trustees report for further explanation. The supplement said that $19.8 trillion was the unfunded obligation of Social Security for the next 75 years. But it went on to say that the present value of Social Security’s unfunded obligation for the infinite future is currently $59.8 trillion, up $6.8 trillion from a year ago.

Of course, projections for the infinite future are highly uncertain. We don’t know what the US population will be in the 22nd century, or if the earth will even be able to sustain life as we know it at that time. 

A better way to grasp the cost of Social Security’s looming shortfall is to estimate the tax hike that would be necessary to ensure that the program’s tax revenues will equal its benefit obligations in the future.

“To illustrate the magnitude of the 75-year actuarial deficit, consider that for the combined OASI and DI Trust Funds to remain fully solvent throughout the 75-year projection period:

  • Revenue would have to increase by an amount equivalent to an immediate and permanent payroll tax rate increase of 3.36 percentage points to 15.76%;
  • Scheduled benefits would have to be reduced by an amount equivalent to an immediate and permanent reduction of about 21% applied to all current and future beneficiaries, or about 25% if the reductions were applied only to those who become initially eligible for benefits in 2021 or later; or
  • Some combination of these approaches would have to be adopted.

The trustees pointed out that the longer we wait to raise payroll taxes (if we want to maintain promised benefits), the higher we will have to raise them. If we don’t deal with it before 2034, there will need to be a permanent 4.20 percentage-point payroll tax rate increase to 16.60% starting at that time, a permanent 26% percent reduction in all benefits or some combination of these approaches.

Of course, these are not the only options open to us. Various advocacy groups and policy groups like the CRR, AARP and the Bipartisan Policy Center have proposed various combinations of tax rates, increases in the “FICA limit” (the level of income subject to payroll taxes ($137,700 in 2020), cuts in benefits, or a change in the growth rate of benefits, that would bring Social Security revenues in line with expenditures. Raising the retirement age for full benefits may be proposed but it won’t be popular.

The fatal flaw in Social Security—the hole in the bucket—seems to be the rising “dependency ratio.” Birth rates have fallen and life expectancies have risen, so there are fewer workers per beneficiary. In 1955, a year after Social Security was expanded to cover 10 million more workers, 68 million workers paid in (4% tax withheld on up to $4,200 income) and 7.64 million people received benefits. There were almost nine contributors for every dependent.

By 1990, the dependency ratio had worsened substantially. About 133 million people contributed to OASDI and 39.8 million received benefits, for a ratio of about 3.4 contributors to one dependent. The tax rate reached 12.4% for the first time that year, on up to $51,000 income. In 2020, 175 million contributed and 65 million received benefits for a ratio of about 2.6 workers per beneficiary. The tax rate was 12.4% on up to $137,000 in income.

These are harsh numbers, reflecting a basic unfairness for some observers. “Crudely, the first generation gets $3 for each $1 paid, the second generation pays more but then gets $2 for each $1 paid, the next generation $1 for each $1 paid, and eventually some generation gets 80 cents for each $1 paid,” Gene Steurele of the Urban Institute told me yesterday.

“Or, again, in simplified form, remember that one generation has four workers per retiree, the next three workers per retiree, the next two workers per retiree, etc. Suppose the birth rate falls to zero and everybody is over 65 at some point. How is that last generation going to come out ahead? It’s the denial of these facts that makes reform so hard.”

Steurele’s argument made me wonder where I stood on the ladder of descent into higher taxes and lower benefits. My first job paid $6,500. My Social Security benefit at age 70 will be about $36,000. Am I getting a worse deal than my parents, and a better deal than my children? Given the complexity of the Social Security crediting formula, I can’t tell. 

I feel like I’ve paid my share, or part of it. Starting with the Social Security reforms of 1983, I and other workers started pre-funding our own benefits. With our help, Social Security revenues exceeded outflows, creating a trust fund. The trust fund’s principal will decline by $1.5 trillion, from $2.9 trillion today, over the next 10 years, and will be exhausted by 2033, based on current projections.

Since the US Treasury buys back trust fund bonds from Social Security, an increasing amount of current benefits are now coming out of the nation’s general account to supplement payroll taxes. There was no crisis when those flows started; the public barely noticed. But, unless Congress changes the law, benefits will automatically drop by about 20% in 2033, to the level funded purely by payroll taxes. Higher immigration might help, but that’s a touchy subject.

I’m not especially worried about the future of Social Security. As one long-time retirement policy wonk assured me last week, Social Security is still the “third rail” of American politics. Phones on Capitol Hill will be ringing with calls from angry Gray Panthers who vote, he said, if Congress ever threatens it.

© 2021 RIJ Publishing LLC. All rights reserved.

Boomers will bequeath $51 trillion over next two decades: Cerulli

Posted on September 2, 2021 by -

US households are expected to transfer close to $70 trillion to their heirs and charities by 2042. Baby Boomers are expected to pass on upward of 73% of this amount (a total of $51 trillion), according to the latest issue of Cerulli Edge—US Advisor Edition.

Tax efficiency will become increasingly important, given most of the wealth is held by older, high-net-worth (HNW) investors (those with greater than $5 million in investable assets) and will likely be subject to more expansive taxes in the coming decade, a Cerulli release said.

For advisors serving older HNW clients who prioritize tax minimization, emphasizing the importance of pre-emptive and adaptive planning is critical, particularly in the current political climate. Federal tax changes recently proposed by the current administration would greatly hike the top-line capital gains tax rate, applying to earnings exceeding $1 million.

Though this is only expected to apply to roughly 0.3% of the population, that still means close to one million of the wealthiest households would be significantly affected by this change.

“Advisors planning for clients who have significant capital gains exposure beyond the million-dollar threshold should consider stringently managing taxable income by realizing gains up to certain levels, if possible, and plan a strategic gifting and/or donation plan,” said Chayce Horton, analyst, in the release.

With the rates being posed by policymakers, advisors are quickly realizing that resorting to deferrals of gains and income, which has been a major facet of tax planning for years, may no longer be an effective base-case plan for clients. Though nothing is promised yet, advisors serving HNW households will likely need to put a greater emphasis on sequencing taxable income events both as part of regular ongoing tax management, in addition to advanced pre-emptive estate planning.

Yet, estate planning is only half of the equation. With the increasing need for intergenerational planning and engagement, conversations must be had at all levels of the family. According to Cerulli, more than 70% of heirs are likely to fire or change financial advisors after inheriting their parents’ wealth. This disconnect can become a significant wrench in any estate, let alone for an advisor’s business continuity. Advisory practices that have not already done so will need to shift their mindset and strategically engage their clients’ spouses and children on a more regular basis.

“The looming wealth transfer presents a significant opportunity for advisory firms that can adapt to a shifting landscape and evolving wealth demographic,” said Horton. “It remains critical for wealth management firms to have thorough discussions with clients and ensure they have well-designed and adaptable intergenerational plans in place.”

© 2021 Cerulli Associates. Used by permission.

‘The Island is Calling Life Insurers’

Posted on September 2, 2021 by -

US life insurers, faced with the impact of continuing low interest rates on product performance, are increasingly wrestling with the question: Should we send business to Bermuda?

The answer is, like so many questions in life: It depends.

Bermuda is a well-known and well-respected global hub for reinsurance capacity. Historically, it has been dominated mostly by the property and casualty (P&C) line of business, but given recent regulatory developments, the number of life and annuity reinsurers on the island has increased as well.

And there’s no denying that Bermuda has a lot going for life insurers — beyond its weather and beaches. Around $900 billion of assets under management, of which about 50% is life business, is testament to that. More than 1,200 companies and captives, of which about 30% are life-focused, are active on the island.

Deciding factors

A big plus is the regulatory environment, overseen by the Bermuda Monetary Authority (BMA). As well as having Solvency II equivalence, it is also a National Association of Insurance Commissioners reciprocal jurisdiction. The risk-based capital requirements that capture the economics of an insurance business typically make it a capital-efficient regime compared with the more formulaic capital calculation approaches prevalent in the U.S., and one where the economic regulatory view reflects insurers’ risks. Bermuda is also a center for insurance-linked securities (ILS), which is playing an increasingly important role in the life segment. While less mature than the larger P&C segment, ILS is becoming an important provider of capital for life insurers and is set to grow further in the coming years.

Throw in the BMA’s straightforward and streamlined licensing process, and its track record of support for start-up insurance businesses, and you have a seemingly rich cocktail of factors working in life insurers’ favor.

But that doesn’t mean it’s a shoo-in decision for all blocks of business. Bermuda is not a magic place where unprofitable business turns profitable.

As a general rule, a Bermudan base is most advantageous for new vintages of business that reflect the recent economic environment in their pricing — that is, they’ve priced in low interest rates. For back books, that were priced on and included guarantees based on historically higher interest rates, the case tends to be weaker. More often than not, the current profitability of the business is the deciding factor.

How it works

So if a US life insurer has a block of business that it thinks may look and perform better in Bermuda, how does it work?

ILS market-excepted, legacy transactions are the main vehicles although there has been a recent surge in flow reinsurance transactions as onshore cedants and regulators are becoming comfortable with Bermuda. The latter involve a quota share reinsurance contract where the U.S. entity cedes a proportion of the business block to a Bermudan reinsurer. This works on the basis that the broader asset strategy options available and the more accessible economic capital regime can make its product offerings more competitive.

In the process, it can benefit from Bermuda’s capital-efficient economic balance sheet framework and discount reserves using real-world valuation scenarios, all the while continuing to use US GAAP for Bermuda statutory reporting.

Nick Komissarov is senior director, North American Life M&A Leader, Willis Towers Watson. Faisal Haddad is director at Willis Towers Watson Bermuda.

© 2021 Willis Towers Watson. Used by permission.

Five Ways to Generate Retirement Income

Posted on September 2, 2021 by -

Bill Sharpe, the Nobel Prize-winning economist, once described retirement income planning as the most complicated financial problem he’s ever faced. There are “up to 100, 200 parameters that you’ve got to nail down before you can find an optimum strategy,” he said in a 2014 interview.

At Retirement Income Journal, we report on many of the different strategies that advisers can use to tackle this Rubik-ian challenge. We’re receptive to any approach, but we favor techniques that blend guaranteed sources of income and risky investments in the same retirement portfolio.

For today’s issue of RIJ, we’ve retrieved several of the best income-planning articles from our archives. (Synopses and links can be found below.) In each case, the adviser goes beyond the “safe withdrawal” method to design a customized, outcome-driven solution for the client.

Income plan for two well-funded therapists

“Andrew” and “Laura,” married psychotherapists in their early 60s with a combined annual income of $300,000, hoped to retire in a few years with an income of about $140,000, consisting of their Social Security benefits, Laura’s pension, and about $77,000 a year in withdrawals from their $1.24 million portfolio.

Their adviser, Bill Lonier of Osprey, FL, believed that such a high drawdown rate (6.2%) could exhaust their savings in only 18 years. He recommended that they build a 30-year ladder of Treasury Inflation Protected Securities for essential income and re-characterize $30,000 of their spending needs as “discretionary” (contingent on favorable markets) instead of “essential.”

To reduce Andrew and Laura’s “longevity risk,” Lonier advised them to buy a joint-life qualified longevity annuity contract (QLAC) with 10% of their investable assets. To give them an alternative source of cash during future market downturns, he also advised them to open (but not tap) a home equity line-of-credit.

Jim Otar’s Advice for ‘Andrew’ and ‘Laura’

When assessing new clients, Jim Otar, the creator of the Retirement Optimizer, categorizes them either as “green zone,” “yellow zone,” or “red zone” retirees. Green-zone retirees have enough assets to cover their expenses throughout retirement, come good markets or bad. Red-zone retirees will most likely run out of money unless they purchase income-generating annuities. Yellow-zone retirees require creativity on the part of their advisers if they hope to realize their goals and avoid misfortune.

Otar quickly identified Andrew and Laura as Green zoners, so he recommended no annuities or bond ladders for them. Instead, he took note of the fact that they owned two homes worth a combined $1.8 million (bringing their current net worth to more than $3 million). He suggested that they cover their expenses by spending $50,000 a year from their $1.24 million investment portfolio and their combined $72,000 in Social Security benefits (at age 70).

If equity markets performed badly and the couple appeared likely to live into their 90s, Otar, a Canadian who is now retired, suggested that they make up any shortage of liquidity by, for instance, selling one of their homes and moving into the other. In the meantime, he suggested that they put 58% of their investable assets into equities, 39% into bonds and 3% into cash.

Income plan for a couple with $750,000

Jerry Golden, CEO of Golden Retirement, a Manhattan-based advisory firm, was asked to create an income plan for the “M.T. Knestors,” a couple with $755,000 in savings. At 66, the husband intended to work for four more years and then claim Social Security benefits of $3,000 a month. His spouse, 60, was already retired.

In the first rough draft of a plan for the Knestors, Golden suggested that they receive retirement income from a combination of dividend stocks, annuities and systematic withdrawals from investments. He used $132,500 (the sum of 25% of each spouse’s IRA savings) to buy a QLAC that would provide income when each reaches age 85.

In addition, he recommended investing about $400,000 in a 50% stocks/50% bond portfolio to provide systematic withdrawal income for 15 years, until the QLAC income starts. For additional monthly income, he recommended putting about $170,000 of after-tax savings in dividend-bearing stocks. He allocated the remaining $56,000 in after-tax savings to an inflation-adjusted, joint-life, single premium immediate annuity (SPIA).

Safety First or Safety Last?

Are guaranteed monthly checks more important to retirees at the beginning of retirement, when systematic withdrawals and market volatility can combine to raise a client’s “sequence of returns” risk (the risk that a retiree will need to liquidate depressed assets for income)?

Or is guaranteed income more important at the end of retirement, when a history of good health habits can make a client vulnerable to longevity risk (the risk of outliving assets)?

In this hypothetical case, the clients, a 65-year-old married couple with $1 million in savings, only want to commit 25% of their savings to an income annuity. They’d also like to receive the income either early in retirement, when they plan to travel, or late in retirement, as a hedge against the risk of living longer than expected.

Their adviser points out that they could fund the first decade of retirement a 10-year bond ladder (or a 10-year period-certain SPIA) costing $250,000 and paying out about $28,000 a year, while spending up to $30,000 a year from their remaining savings of $750,000. Or they could use $250,000 to buy a deferred income annuity that pays $40,000 a year starting when they reach age 80, while taking withdrawals from their $750,000 in savings over the intervening 15 years.

In a presentation at the Investments & Wealth Institute Conference for retirement income specialists in 2018, advisers Dana Anspach, of Sensible Money, and Asset Dedication’s Brent Burns and Stephen Huxley, recommended using a bond ladder for essential income in the first 10 years of retirement and investing other money in an asset class with a history of benefiting from a 10-year time horizon, such as small-cap value funds. The choice of strategy might depend most on the client, and which gives him or her more peace of mind: protection from investment risk or protection from longevity risk.

Bill Sharpe’s ‘Lockbox Strategy’

In his ‘Lockbox’ software, Nobel laureate Bill Sharpe divides retirement into two periods. During the first period, starting at the retirement date, a retired couple takes withdrawals from an investment portfolio. In one of his examples, the first period lasts 19 years and consumes 64% of savings. In the second period, if the retirees are still living, they buy an income annuity with the remaining 36%. Each year of the systematic withdrawal period is represented by a “lockbox.”

Each lockbox contains a certain portion of Treasury Inflation-Protected Securities (TIPS) and a share in an investment portfolio consisting of ultra-low-cost total market stock and bond index funds.

“The idea is to provide the discipline to say to yourself, ‘I will only cash the number of shares in this year’s lockbox,’ he said in an interview. “Obviously, the lockboxes aren’t really locked. If you have an emergency, you can take money out. You still have the key.” The asset allocation depends on the client’s appetite or capacity for risk.

“For implementation, you’d buy a certain number of TIPS, and a certain number of mutual fund shares,” Sharpe told RIJ. “You build a spreadsheet with one column for the initial amount in TIPS and another column for the amount in a risky portfolio. Then you would multiply the number of TIPS and shares for each lockbox by their current values and figure out what they’re worth in each period. Once a year, you would sell off that year’s portions of the two at their current price. It’s an accounting/spreadsheet task.”

In the 20th year of retirement—i.e., at age 85, which roughly corresponds to the average life expectancy of an affluent 65-year-old American—the couple, if living, buys a joint-and-survivor fixed life annuity. For the sake of liquidity, flexibility, and cost-reduction, they might prefer to make the annuity purchase an option, rather than buying an immediate or deferred annuity at retirement.

© 2021 RIJ Publishing LLC. All rights reserved.

Research Roundup

Posted on August 26, 2021 by -

In this month’s edition of Research Roundup, we summarize four academic papers touching on topics ranging from behavioral finance to macroeconomics, and from an informed prediction about the future path of interest rates to speculation about the introduction of a Federal Reserve-sponsored digital currency.

If you believe that wealthy buy less insurance because they can live without it,  that financial crisis are brought on by “black swans,” that governments can’t issue digital currency, or that Boomer decumulation will soften the economy, you may find surprises here. These studies aim to put conventional wisdom—or perhaps just straw men, depending on your views—to the test.

Why the wealthy buy more insurance than expected

In theory, wealthier people should buy less insurance, because they can afford to set aside enough savings to “self-insure” against all kinds of risks, large and small, and thereby cut out the costs of the middleman—the life insurance or property/casualty insurance company.  Those risk might include a fender bender, a roof crushed by a storm-felled tree, a “root canal” procedure or—in the case of annuities—outliving their savings. The rich can also afford a high deductible on their insurance policies, thereby keeping their premiums lower.

But research by a team at the University of North Carolina-Chapel Hill shows that “the wealthier have better life and property insurance coverage… This puzzling correlation persists in individual fixed-effects models estimated using 2,500,000 person-month observations,” write Camelia M. Kuhnen, a professor of finance, and Michael J. Gropper, a doctoral candidate in finance, in “Wealth and Insurance Choices: Evidence from US Households” (NBER Working Paper 29069, July 2021).

“Whether we measure wealth by the value of financial assets, or by the value of the homes individuals own, we find that life insurance coverage as well as property insurance coverage increase with wealth, controlling for the value of the insured asset. We estimate that a $1 increase in financial wealth leads to an increase of 68 cents in a person’s term life insurance coverage limit, and to an increase of $2.25 in the coverage limit of their homeowners insurance policy.”

In their study, the two looked at possible causes and effects of this phenomenon. It’s not because the wealthy are pessimistic or risk-averse; optimism about longevity is correlated with higher wealth and higher ownership of term life insurance. “It is possible that the less wealthy do not trust financial products or institutions as much as their better-off counterparts, and thus do not purchase products like insurance. It is also possible that insurance products are being advertised more to those who are wealthier.”

It may simply be that the wealthy have more risk exposures, more wealth to protect, or are better able to afford the expense of insurance.   

‘Black swans’ are the shadows cast by excessive credit 

Financial crises do not appear randomly without warning, regardless of what the “black swan” theories say. “Irrational exuberance” and “animal spirits” don’t explain them either. Instead, new research shows that they typically follow the over-creation of private-sector debt—not public debt.

“Crises are predictable with growth in credit and elevated asset prices playing an especially important role,” write Amir Sufi of the University of Chicago and Alan M. Taylor of the University of California-Davis in “Financial Crises: A Survey” (NBER Working Paper 29155, August 2021). “An understanding of financial crises requires an investigation into the booms that precede them.”

“The unconditional probability of a crisis is 2.5% (one in 40 years)…  However, when the credit growth variable rises one standard deviation (s.d.) above its mean, the expected crisis probability almost doubles to 5% (one in 20 years), and at two s.d. above the mean the expected crisis probability is near 10% (one in 10 years).”

Causes of excessive lending cited in the paper:

Deregulation. Financial “liberalization, by opening a gate, enables other fundamental economic forces in the local or global economy to play out, creating the possibility of new or more elastic financial flows (intermediate claims, or leverage) relative to existing investment opportunities.”

Income inequality. “The rise in top income shares since the 1980s has been associated with a saving glut of the rich. Furthermore, this saving glut of the rich has financed a large rise in household and government debt.”

Low interest rates. “The credit booms that predict financial crises are associated with a low cost of debt, and a low cost of risky debt in particular… Crises are preceded by unusually low and falling credit spreads between higher and lower grade bonds. Riskier firms are able to finance themselves at a relatively lower cost during the credit booms that precede financial crises.”

The bottom line is that we should be able to see financial crises coming. “The empirical evidence rejects the view that financial crises should be viewed as random events. Instead, they are predictable,” Sufi and Taylor write. “Credit growth and asset price growth are key factors that predict financial crises, and these two factors have significant forecasting power.”   

‘Central Bank Digital Currency’ could be coming our way

Central Bank Digital Currencies (CBDCs) are digital or electronic versions of the liabilities (aka IOUs or money) issued by central banks. In most countries, CBDCs are still hypothetical. But China already has a “digital renminbi” and the Bahamas have a “Bahamian Sand Dollar.”

In a speech last March, Fed chairman Jay Powell said, “Experiments with central bank digital currencies (CBDCs) are being conducted at the Board of Governors, as well as complementary efforts by the Federal Reserve Bank of Boston in collaboration with researchers at MIT.”

CBDCs would allow ordinary Americans to have accounts at the Federal Reserve, as commercial banks do. By eliminating, or partly eliminating the middleman (banks) in the daily settlement of transfers between banks at the Fed, CBDC could make the payments process instant and cheaper for Americans. Banks may view it as a threat.

In a new paper, economic historian Michael Bordo of Rutgers University argues in favor of the development of CDBCs in the US. He calls the digitalization of money as momentous a turning  point as the appearance of central banks in the 17th century, the shift from gold and silver coins to  paper money in the 18th and 19th centuries, and the emergence of central bank monopolies over money in the 19th and 20th centuries.

In “Central Bank Digital Currency in Historical Perspective: Another Crossroad in Monetary History” (NBER Working Paper 29171, August 2021), Bordo claims a CBDC in the US would improve the efficiency of the monetary/financial system; neutralize competition from other virtual currencies that could threaten US monetary sovereignty; allow the Fed to set monetary policy by adjusting the interest paid on CBDC accounts, and “revolutionize international payments in the way that the first Atlantic cable did for capital flows and international payments in 1866.”

On the other hand, Federal Reserve board of governors member Christopher Waller said on August 5 that he is “skeptical” of the need for a CBDC in the US. His comments at a meeting of the American Enterprise Institute have been posted at the Federal Reserve’s website.

“Government interventions into the economy should come only to address significant market failures,” Waller wrote. “The competition of a Fed CBDC could disintermediate commercial banks and threaten a division of labor in the financial system that works well. And, as cybersecurity concerns mount, a CBDC could become a new target for those threats.”

Boomer decumulation won’t push interest rates higher

Demographic change, including the aging of populations in many countries, is expected to affect global financial conditions in the future. Economists have posed the question: If retirement saving by the Baby Boom generation led to historically low interest rates, will interest rates rise as Baby Boomers spend down their savings?

In “Demographics, Wealth, and Global Imbalances in the Twenty-First Century” (NBER Working Paper 29161, August 2021) four economists argue that it will not. “Our model predicts that population aging will increase wealth-to-GDP ratios, lower asset returns, and widen global imbalances through the twenty-first century. These conclusions extend to a richer model in which bequests, individual savings, and the tax-and-transfer system all respond to demographic change,” wrote Adrien Auclert and Frederic Martenet of Stanford, Hannes Malmberg of the University of Minnesota and Matthew Rognlie of Northwestern University.

“There will be no great demographic reversal: through the 21st century, population aging will continue to push down global rates of return, with our central estimate being -123 basis points, and push up global wealth-to-GDP, with our central estimate being a 10% increase, or 47 percentage points in levels.”

The study focused on expected changes in the wealth-to-GDP level in 25 countries. In the US, for instance, the total accumulated wealth of the population (including the current market value of financial assets) is about $126 trillion, or about five times the annual Gross Domestic Product ($22.7 trillion in mid-2021, annualized). Rich countries have high wealth-to-GDP ratios; poor countries have low ones. Hong Kong boasts the world’s highest wealth-to-GDP ratio, at 8.4. 

Observers have predicted “that aging will raise interest rates, decrease standards of living by impairing capital accumulation, or exert inflationary pressure as the number of consumers increases relative to the number of producers. These predictions are not borne out in our analysis,” the authors said.

© 2021 RIJ Publishing LLC. All rights reserved.

Honorable Mention

Posted on August 26, 2021 by -

Button succeeds Morris as Pacific Life CEO

Pacific Life Insurance Company has named Darryl Button its CEO-Elect. He will become president and CEO of Pacific Life when Jim Morris, the current Chairman, President and CEO, retires on April 1, 2022.

Darryl Button

Button, currently the company’s chief financial officer, will be Pacific Life’s 15th chief executive in 154 years. The directors of Pacific Mutual Holding Company, Pacific Life’s ultimate parent, also named Mariann Byerwalter as its non-executive board chair beginning April 1, 2022.

Button joined Pacific Life in March 2017. He has been responsible for the company’s finance, risk management and corporate development functions, as well as the performance of the $119 billion in assets in Pacific Life’s general account. He oversaw the creation of a new business division in 2020 focused on serving institutional clients with pension risk transfer and 401(k) plan investment solutions.

Prior to joining Pacific Life, Button served for 17 years at Aegon where his last role was chief financial officer and a member of the Executive Board of Aegon N.V. He began his career at Mutual Life Insurance Co. of Canada and is a fellow of the Society of Actuaries (FSA), a fellow of the Canadian Institute of Actuaries (FCIA), and a member of the American Academy of Actuaries (MAAA). He holds a B.S. in mathematics, actuarial science and statistics from the University of Waterloo in Ontario, Canada.

Following his planned retirement in April 2022, current Chairman, President and CEO Jim Morris will continue to serve as a director on the board of Pacific Mutual Holding Company through the conclusion of his elected term in May 2023. He began his almost 40-year career at Pacific Life following his graduation from the University of California, Los Angeles and held a series of management positions in the Life Insurance and Corporate Divisions before his election as CEO on April 2, 2007. During his 15-year tenure as CEO, assets of the company have almost doubled from $101 billion to $198 billion. The endowment of the Pacific Life Foundation has also more than doubled from $63 million to $130 million during this same time period.

As part of this transition, the board of directors will create the role of non-executive board chair. Mariann Byerwalter has served on the Pacific Mutual Holding Company board of directors since 2005 and has been its lead director since 2019.

Net income up, total income down for life/annuity industry in 1H2021

Net income for US life/annuity (L/A) insurance industry rose to $18 billion in the first half of 2021 from $1 billion in the first half of 2020, thanks to reduced expenses, a new AM Best Special Report said.

Total income declined 5.9% in the first half of this year however, as increases in commissions and expense allowances, along with net investment income, were countered by declines in premiums and annuity considerations and other income, according to the report.

But total expenses for the industry fell 14.4%, due mainly to a 48.3% decline in other incurred benefits that was driven by significant swings in aggregate reserves for life and accident and health insurance contracts. A $6.1 billion increase in Tax obligations rose $6.1 billion and net realized capital gains fell $12.9 billion, contributing to the industry’s overall net income gain.

The report, “First Look: Six-Month 2021 Life/Annuity Financial Results,” is based on data from companies’ six-month 2021 interim statutory statements. The data is as of Aug. 19, 2021, and represents about 93% of the total L/A industry’s net premiums written.

To access the full copy of this special report, please visit http://www3.ambest.com/bestweek/purchase.asp?record_code=311945.

Athene Holding acquires £3 billion UK mortgage loan originator

Athene Holding, the top retailer of fixed indexed annuities in the US, said it will acquire Foundation Home Loans (FHL), a specialist UK mortgage lender, from funds managed by affiliates of Fortress Investment Group, subject to the satisfaction of customary conditions, including consent by the Financial Conduct Authority.

The investment in FHL will be managed by the team at Apollo Global Management, Athene’s strategic asset management partner. “FHL originates high-quality residential mortgage loans, providing Athene with attractive investment opportunities in high-quality yield assets,” an Athene release said. As of June 2021, FHL had a £3 billion ($4.12 billion) portfolio of specialist buy-to-let and owner-occupied mortgages on its balance sheet. 

“This transaction continues our longstanding strategy of working with Apollo to identify and invest in attractive businesses which add direct origination asset sourcing capabilities to our alpha-generating investment portfolio. We believe our investment will help FHL achieve its full potential, while being a complementary addition to our expanding asset sourcing capabilities,” Athene chairman and CEO Jim Belardi said in a release.

Athene’s residential mortgage portfolio of loans and structured securities exceeded $13 billion of net invested assets as of March 31, 2021 and “exhibits a strong yield profile that is indicative of the alpha generation the asset class can offer,” the release said.

© 2021 RIJ Publishing LLC. All rights reserved.

Lincoln adds untested vol-controlled BlackRock index to its OptiBlend FIAs

Posted on August 26, 2021 by -

Lincoln OptiBlend, Lincoln Financial Group’s flagship fixed indexed annuity (FIA), has added the BlackRock Dynamic Allocation Index, a daily volatility-controlled index with global asset allocation, to its index options. The index was created by BlackRock on July 20, 2021, so it has only a one-month track record.

Contract owners can choose either a one-year or two-year term when allocating premium to the BlackRock Dynamic Allocation Index, according to a release and statement from Tad Fifer, VP and Head of Fixed Annuity Sales, Lincoln Financial Distributors. The minimum OptiBlend purchase premium is $10,000.

The OptiBlend FIA comes in a 5-year, 7-year or 10-year surrender charge schedule, as state regulations allow. Surrenders in excess of 10% of the FIA account value are subject to a surrender penalty. When contract owners surrender their contracts before the end of the surrender period, surrender fees typically reimburse the life insurer for the commission it paid to the insurance agent at the time of the initial sale.

The index gives contract owners exposure to the performance of 10 BlackRock iShares ETFs (exchange-traded funds). The OptiBlend FIA also offers exposure to the One-Year Fidelity AIM Dividend Participation Index, One-Year S&P 500 5% Daily Risk Control Spread Index, One-Year S&P 500 with a cap on upside returns, and a One-Year Year S&P 500 with a participation rate. FIA caps and participation rates are subject to change, depending on prevailing interest rates and other factors.

On August 24, 2021, the index contained about 50% exposure to Treasury securities of varying maturities (with 2% to investment grade corporates), 20% exposure to large-cap stocks (the S&P 500 Index), about 20% exposure to global stocks in developed and emerging markets (MSCI-EAFE and Emerging Markets), and just under 9% to a real estate ETF.

So the index offers risk protection in several ways. First, every FIA has a guarantee not to lose principal if held to term. Second, the index is half-invested in safe government or corporate securities. Third, the volatility of the index is controlled through daily monitoring. 

According to information from BlackRock, “To the extent that the forecast volatility of the Multi-Asset Class Basket differs from the 5% Target Volatility, the Index will allocate a portion of the index weight to the Multi-Asset Class Basket, with the remaining weight allocated to the Cash Basket,” which consists of short-term Treasuries and TIPS (Treasury Inflation-Protected Securities).

When individuals purchase an FIA, a small percentage of their premiums are typically used to purchase a set of options on a price index (an index whose returns don’t include dividends). The options give the contract owners a range of the index returns over a given crediting period (typically one or two years).

Returns range from a low of zero (excluding fees) to a positive return up to a cap or up to a certain percentage of the total index gain between the beginning and end of the crediting period. Volatility-controlled indexes like the BlackRock Dynamic Allocation Index may offer relatively high caps and participation rates than more conventional indexes, but their risk controls are designed to restrain them from wide swings in index performance.

According to Lincoln’s website, “The level of the BlackRock Dynamic Allocation Index is calculated on an excess return basis (net of a notional financing cost) and reflects the daily deduction of a fee of 0.50% per annum. The fee is not related to the annuity.”

© 2021 RIJ Publishing LLC. All rights reserved.

Not All Annuity Issuers Are Alike

Posted on August 26, 2021 by -

When fee-based advisers who’ve dealt only with investments decide to become “ambidextrous,” they can be forgiven for not instantly knowing every nuance about insurance products and life insurance companies.

“Ambidextrous” is RIJ’s adjective for advisers who use investments and annuities to maximize clients’ income and peace of mind in retirement.

The other day I was talking to a investment-centric adviser and differences in the ownership structure of life/annuity companies. She didn’t know there were differences. So we began talking about the business models that life insurers use: Mutual, publicly traded (stock), private equity-controlled, foreign-owned, and fraternal, for instance. 

Ownership and business model should matter to advisers and clients. They help determine the culture of the company, its strength and credit ratings, the types of products it manufacturers and sells, its pricing and distributing channels, its compensation for intermediaries, the level of profits that its owners seek, the regulators it reports to, how it reinsures its liabilities, the content of its communications to policyholders and sometimes the quality of its customer service.

These characteristics can matter as much as or more than price.

Mutual companies (New York Life, Guardian, Thrivent, MassMutual and Northwestern Mutual) are owned by their policyholders, who typically receive dividends. Stock companies (Prudential, Brighthouse Financial, AIG, Equitable, Principal, Lincoln Financial) are owned by their shareholders, who hold stock in them.

Private equity-affiliated (PE) life/annuity companies (F&GL, Athene, Global Atlantic) are a more recent phenomenon. They may be public or not, but they tend to partner strategically or be affiliated with a big PE or buyout firm (Apollo, KKR, Blackstone). This model has focused on fixed indexed annuities in the past five to eight years. A recent McKinsey report described their business model (see below).

Foreign-owned companies (Allianz Life, Symetra, Protective; Jackson National until recently) are subsidiaries of overseas life insurers. Some foreign insurers—ING, AXA—withdrew from the US market after the Great Financial Crisis.

In addition, there are a few companies that have gone from mutual to public or from public to private (Nationwide). Some public companies are global; others are controlled by a single family. There are “fraternal” insurers, which tend to be smaller and whose customers tend to be affiliated with each other in some way.

These differences may be familiar to some RIJ readers, but they’re not sufficiently well-known, in my opinion. The lines between ownership style can be blurred; business models overlap. Any life insurer might offer all types of annuities or only one. The low interest rate (and bull equity market) environment has driven all life insurers more or less toward index-linked annuities, whose gains are derived mainly from stock market gains.

You could write a long and dry book on this topic. I’ll pick up the pace until we get to the private equity-affiliate life/annuity companies. 

Mutual companies are the “quiet” companies. The Wall Street Journal rarely covers them because they aren’t listed on stock exchanges. If true to type, they focus on plain-vanilla fixed deferred and fixed single premium immediate annuities, selling them through “career agents.” Their customers are their primary clients; they return some of their profits to certain policyholders as dividends.

Stock companies are listed on stock exchanges, owned by their shareholders. They’re honor-bound to put their shareholders’ interests first. They strive for higher earnings and higher stock prices. “If you’re an equity company you have to deliver equity returns,” a product chief once said privately. In a low rate environment, that means selling high-fee products indirectly tied to the equity markets, like variable annuities and index-linked fixed or structured annuities.

That brings us to the private equity-led life/annuity companies. After the 2008-09 financial crisis, the big asset management firms started talking to life insurers. Capital-rich asset management firms were looking for assets to manage. Several public life insurers wanted to sell themselves or their blocks of in-force annuities (i.e., hundreds of billions of dollars; the more or less guaranteed savings of conservative Americans).

On Wall Street, the PE firms were seen as saviors for life insurers with depressed stock prices. They would use their storied “smartest-guys-in-the-room” investment, “loan-origination,” and securitization skills to “redeploy” annuity assets for solid returns than traditional life insurance investment departments could. They could then use those higher returns to offer (mainly) fixed indexed annuities with higher yields for savers and higher agent commissions. The PE firms also knew how to reduce drag and “release” life insurer capital by reinsuring blocks of in-force annuities in on-shore or offshore regulatory havens.

First Harbinger bought Old Mutual, then Athene Holding (majority-owned by Apollo, the giant asset manager) bought Aviva plc’s US life and annuity businesses in 2012. Goldman Sachs was in and out of the business, buying Hartford’s annuity business and selling it. Former Guggenheim Partners executives are involved. Today, five giant asset managers or holding companies—Apollo, Ares, Blackstone, Carlyle and KKR—have invested in the life/annuity business. They now account for almost half of fixed indexed annuity sales.

So, what does this ownership structure imply for advisers, agents and retirement savers who want guaranteed savings products or income? According to reports from the CFA Institute blog and McKinsey, the big buyout firms got into the insurance business to give themselves a source of  “permanent capital.”

To the extent that their insurance subsidiaries can acquire retirement savings in the form of long-dated annuities, they get money that they don’t have to return to clients for five, seven or even 10 years. They can capture an “illiquidity premium” from buying Collateralized Loan Obligations, or bundles of loans to high-risk companies. Their asset management arms have a steady source of fee-generating money to manage. 

“Annuities providers represent a bedrock of capital that can be used as security or lending facility to fund deals. Last year, KKR took a similar view with its acquisition of retirement and life insurance company Global Atlantic, adding $70 billion to its asset base,” wrote a blogger at CFAInstitute.org last June, in an article about the quest for permanent capital by PE firms.

Here’s an excerpt from an article that McKinsey published online yesterday:

With recent moves to take insurers private, sophisticated PE investors are buying blocks of policies and assuming those risks—and billions in assets often come with that risk. In the United States in 2020, entities affiliated with general partners (GPs) acquired more than $100 billion in general account liabilities from traditional insurers’ balance sheets. If the current low-interest-rate environment persists, growing pressure could make acquisition candidates of another $2 trillion in liabilities, further accelerating growth in GP insurance capital.

As insurers are under pressure to divest assets and liabilities that were underwritten at much higher rates, GPs have both the investment capabilities to manage the assets and the culture and skills to build the operational capabilities to handle the policies.

Specifically, investors that combine operating capabilities with skill in managing investments and maximizing returns have a clear value proposition, making management teams more comfortable in taking over their blocks and customers.

Meanwhile, PE investors see significant value in long-term capital with a life cycle beyond that of a typical fund, reducing the fundraising burden on GPs and increasing through-cycle investment flexibility. Purchasing divested blocks also provides income diversification and a predictable, captive stream of fee income. For example, after a long track record in insurance vehicles, one investment management firm reported that nearly half of its assets under management were in insurance, amounting to half of all management fees earned.

My takeaways from this are still evolving. I think it means that public life/annuity companies will increasingly promote index-linked annuities, which appear to pose little risk to insurers, which means they require minimal reserves, which frees up capital. RIJ’s “Bermuda Triangle” series focuses on PE-led life/annuity companies.

Generally, the life/annuity business appears in danger of becoming a subsidiary of the investment industry. The “life” in life insurance companies refers to their expertise in using time and the law of large numbers to extract value from pooling mortality and longevity risk. Only life insurers can issue annuities. Annuities enjoy the privilege of tax deferral because they’re supposed to serve a public service.

Annuities and investments are both similar and different. When people invest, they take varying amounts of risk. They expect to pay for advice, but not for risk. When people buy insurance, they transfer risk to the insurer and expect to pay a price for that service. When investment and insurance overlap, as they do in annuities, unsophisticated people don’t necessarily understand exactly which they’re buying or what they’re paying for. They need to.

After reading the McKinsey excerpt yesterday, a retirement income expert told me, “I’m having a ‘this won’t end well’ moment.” 

© 2021 RIJ Publishing LLC. All rights reserved.

SEC hires Barbara Roper, aggressive consumer advocate

Posted on August 25, 2021 by -

In case you hadn’t noticed the flood of announcements of investigations and enforcement actions from the Securities and Exchange Commission this summer, here’s a confirmation of the SEC’s emphasis on consumer protection, relative to the previous administration’s.

The Securities and Exchange Commission yesterday announced the appointment of Barbara Roper, currently the Director of Investor Protection for the non-profit Consumer Federation of America (CFA), as senior advisor to the chair, Gary Gensler.

Roper will focus on issues relating to retail investor protection, including matters relating to policy, broker-dealer oversight, investment adviser oversight, and examinations, an SEC release said.

Roper “will provide invaluable counsel on behalf of the American public,” Gensler said in the release. “I worked closely with her on the Sarbanes-Oxley Act and the critical market reforms of the Dodd-Frank Act.” 

“I’ve dedicated my career to ensuring that our capital markets work for the average investor,” Roper said. “I’ll bring the same focus to my work for the SEC.” She has served on numerous advisory committees at the SEC, Financial Industry Regulatory Authority, and other entities. She is a graduate of Princeton University.

During 35 years at the CFA, Roper has conducted studies of the financial planning industry, state oversight of investment advisers, and state and federal financial planning regulation. She has also conducted studies on the need for audit reform in the wake of the Enron scandal, the need for mutual fund reform in the wake of trading and sales abuse scandals, the information preferences of mutual fund shareholders, the potential of the Internet to improve disclosure, and securities law weaknesses as a cause of the financial crisis.

© 2021 RIJ Publishing LLC. All rights reserved.

Honorable Mention

Posted on August 19, 2021 by -

Two senior promotions at AIG Life & Retirement

Bryan Pinsky has been named President, Individual Retirement and Tim Heslin has been named President, US Life Insurance, of AIG Life & Retirement, a division that American International Group, Inc., has said it plans to eventually spin off through an initial public offering.

Pinsky and Heslin assumed their new roles this week, both continuing to report directly to Todd Solash, CEO, Individual Retirement and Life Insurance, AIG Life & Retirement. Pinsky is based in Woodland Hills, California, where AIG’s Individual Retirement business is headquartered.

Pinsky joined AIG in 2014 and most recently was senior vice president of Individual Retirement Pricing and Product Development. He joined AIG from Prudential where he led the annuity product team and, before that, held various life and annuity product development positions with Allstate. He is a Chartered Financial Analyst and Fellow of the Society of Actuaries.

Heslin joined AIG in 1999 and most recently was Chief Life Product, Pricing and Underwriting Officer for AIG Life US. Previously, he headed  Risk Selection for AIG’s Global Life Businesses, including Life, Health and Disability for Europe, the Middle East and Africa. He is a Fellow of the Society of Actuaries and a Member of the American Academy of Actuaries. He works out of Houston, where the US Life Insurance business is headquartered, and Nashville, Tennessee.

Allianz Life annuity to be offered in Morningstar 401(k) managed account

Allianz Life Insurance Company of North America and Morningstar Investment Management LLC are partnering to “help individuals allocate their retirement savings to its annuity products through the Morningstar Retirement Manager service,” Allianz Life announced this week.

The Allianz Lifetime Income+ Annuity with the Lifetime Income Benefit will be the first Allianz Life product to be added as Allianz Life enters the defined contribution market.

“Through Morningstar Retirement Manager, individuals receive recommendations to help ensure that they are allocating the right amount of their investable assets to guaranteed income at the right time for what could likely be a lengthy retirement,” the release said.

Allianz Lifetime Income+ is a fixed index annuity (FIAs) with a guaranteed lifetime withdrawal benefit (GLWB). FIAs provide account growth potential through the purchase of options on an equity index. A July 22 RIJ article described the product.

GLWBs offer a combination of liquidity and protection from longevity risk—the risk of running out of income from savings. Lifetime Income+ also offers the potential for the monthly income benefit to grow annually and keep up with inflation.

Morningstar Retirement Manager is a managed accounts and advice service for retirement plan participants. Its algorithms can help participants decide how much to save, how to invest, and when to take Social Security.

Only individuals whose retirement plans offers both Morningstar Retirement Manager and the Allianz Life annuity will have access to this service offering.

Multiemployer plan funding reaches highest level since 2007: Milliman

The aggregate funded percentage of all multiemployer plans (MEPs) in the US reached 92% on June 30, 2021, up from 88% at the end of 2020, according to the 2021 mid-year results of Milliman’s Multiemployer Pension Funding Study (MPFS), released this week.

That’s the highest aggregate funding level recorded for MEPs since December 31, 2007, before the Great Recession, the global actuarial consulting firm reported. These MEPs, often union-sponsored, are pensions, and shouldn’t be confused with “multiple employer plans,” which are 401(k) defined contribution plans.

“Strong investment returns in the first half of 2021, estimated at 6.9% for our simplified portfolio, helped improve pension funding,” a Milliman release said.

Some plans continue to struggle, however. “This is consistent with prior periods and reflects lower funding percentages coupled with negative cash flow for these plans,” MIlliman said. 

The MPFS results don’t incorporate the impact of the American Rescue Plan (ARP), effective last March, or the impact of the COVID-19 pandemic on multiemployer pensions (MEPs)  plans and their membership, the full scope of which remains unknown at this time.

“The American Rescue Plan established a special financial assistance program for the most financially distressed multiemployer plans, which will improve their funding in the near-term,” said Nina Lantz, a principal at Milliman and co-author of the study. “But it remains to be seen whether this assistance can sustain these plans in the long-term,” she added. “Furthermore, the effects of the COVID-19 pandemic are still emerging, and future contribution levels for most plans will depend on the resiliency of various industries to restore and/or maintain their employment levels.” 

To view the complete study, go to www.milliman.com/mpfs.

© 2021 RIJ Publishing LLC. All rights reserved.

Large US life/annuity insurers continue to de-leverage: AM Best

Posted on August 19, 2021 by -

The prolonged low interest rate environment has allowed publicly traded life/annuity (L/A) insurers to replace higher-cost debt with often much less expensive alternatives and thereby strengthen their balance sheets, according to a new AM Best special report.

Aggregate unadjusted total debt-to-capital ratio for the 16 publicly traded L/A insurers followed for the report has declined since 2011, to 24.1% at year-end 2020, according to  the Best’s Special Report, titled, “Publicly Traded L/A Insurers Reduced Leverage, Improved Liquidity in 2020.”

Given the current interest rate environment and some uncertain views of the US economy, many of the larger companies continue to de-leverage (the primary reason for the decline in debt).

Total debt outstanding decreased by approximately $8 billion (or 8.1%) to $91.4 billion at year-end 2020. Prudential Financial reduced its total debt obligations by $6.3 billion in 2020, the largest dollar decrease of all the companies.

In 2020, the financial leverage of a significant portion of the publicly traded companies declined to its lowest unadjusted level of the last 10 years. The overall decline in debt-to-capital ratios can be attributed to the industry’s record-high capitalization, which enhances the ability to use earnings for debt servicing as well as regular dividend payments.

Amid the COVID-19 pandemic, many insurers turned to the Federal Home Loan Bank (FHLB) to tap into funds to bolster liquidity to prepare for a worst-case scenario, the report said. Aggregate borrowing for the L/A insurers grew year over year by approximately 18% in 2020, to $97.3 billion. Aggregate borrowing has increased steadily since 2014, but it has been outpaced by collateral pledged. As a result, the borrow-to-collateral percentage declined over the period.

Management’s track record of share repurchases and shareholder dividends is also considered in AM Best’s evaluation of operating leverage and expected coverage ratios. Given the uncertainty caused by COVID-19 in 2020, many companies paused their share repurchase programs and cut back on dividends to prepare financially for the worst. For the publicly traded companies, the aggregate capital returned to shareholders declined by 41% to $11.7 billion.

© 2021 RIJ Publishing LLC.

New Jackson VA’s living benefit has one payout option: 4% at 65

Posted on August 19, 2021 by -

Jackson National Life, the largest issuer of variable annuities (VAs) in the US, has issued a new no-commission VA contract for clients of independent registered investment advisors (IRIAs) who want tax-deferred growth potential and protection against running out of money in retirement. 

The new contract, called the Jackson Retirement Investment Annuity (JRIA), has these features:

  • A core contract charge of 0.40% ($4 per $1,000) per year, with optional add-on living and death benefits for an additional charge.
  • No surrender charges.
  • Annual gross subaccount fees ranging from 20 basis points to 1.81%.
  • Tax-deferred growth until withdrawals begin.
  • An optional lifetime income benefit rider (+ProtectS) for an additional charge of 0.30% during the deferral period and 0.75% during the withdrawal period (adjustable to a maximum of 1.50%).
  • 110 investment options from many fund providers, including Vanguard, American Funds, BlackRock, Dimensional Fund Advisors and many others.
  • A return of premium death benefit for an additional 20 basis points per year. Otherwise, there’s a return of account value death benefit. 
  • No restrictions on investment choice for those who use the income rider.
  • The literature doesn’t appear to offer an optional joint-and-survivor living benefit.
  • Minimum premium, $50,000.
  • Potential step-ups in the benefit base (and in fees) on every fifth contract anniverary.

In the past, VAs with guaranteed minimum withdrawal benefit riders typically allowed contract owners to turn on income whenever they want (between ages 55 and 85, for instance). The owners know that the longer they delay income the higher their withdrawal amount will be (as a percentage of their “benefit base,” which can’t be below their initial account value, regardless of market volatility, and may be augmented by “deferral bonuses” that reward waiting).

In this contract, Jackson appears to offer contract owners one age for starting income (65) and one annual guaranteed withdrawal rate (4.0% per year)—which coincidentally is no greater than the withdrawal rate that advisers consider to be “safe” (i.e., not hitting zero before the retiree’s death) over a 30-year retirement. There are no bonuses to entice contract owners to delay the income start date.

By structuring the contract this way, Jackson reduces or eliminates the expense associated with uncertainty over how the clients will use their income benefit. When clients have the flexibility to turn on income at will, they could all decide to do so in a prolonged market crash, when their account values are depressed. That could create large losses for the carrier.

© 2021 RIJ Publishing LLC. All rights reserved.

People are Talking about “OIDs”

Posted on August 19, 2021 by -

Outsourced insurance distributor (OID) is an expression (and an acronym) that I never heard before last Monday, though I’ve written several articles about them. 

These are online annuity distribution platforms like RetireOne and DPL Financial Partners. Registered Investment Advisors (and their Investment Advisor Representatives, or IARs) without insurance licenses can use OIDs to learn about the no-commission annuities that life/annuity companies have created for the RIA market. Licensed OID agents can broker the sale of an annuity to the IAR’s client. 

Now, thanks to a case in California, questions have arisen: Who should bear responsibility for the suitability of an annuity sale on an OID? Should it be the platform’s agents, the insurance carrier who issued the annuity, or the RIA adviser who recommended the annuity to his client? This issue was the subject of a spirited discussion on LinkedIn this week.

Three weeks ago, on July 29, the Insurance Commissioner of California announced the settlement of a complaint against Jefferson National Life Insurance, the direct provider of low-cost, investment-only variable annuities to RIAs. Nationwide bought Jefferson National in 2017.

An IAR, on behalf of an 86-year-old client, had exchanged (using the customary “1035 exchange” process) three existing variable annuities, involving some $636,000, for Jefferson National Life Monument variable annuities between 2015 and 2017.

Some of the exchanged annuities were evidently still within the so-called surrender period (the initial post-sale years during which a carrier typically recaptures the commission it paid to the agent or broker in the original sale). So the elderly client had to pay about $16,682 in surrender charges.

The client’s bank, noticing large checks to Jefferson National, alerted the client in 2017.  The client complained to the California Insurance Commission. She said she didn’t understand what had been going on.

‘Know your customer’

That led to an investigation and to the recent settlement. Without acknowledging guilt or innocence, Jefferson National agreed to refund $14,342 in surrender fees to the client and to pay California a fine of $150,000. The settlement was signed by Craig A. Hawley, Nationwide’s head of annuity distribution and the president of Jefferson National.

The regulator said that Jefferson National’s “sales process did not include an adequate independent review of the recommendations of [its] annuities by the non-insurance licensed investment adviser [or] …an independent analysis of Consumer’s insurance needs and of the financial objectives of the Consumer at the time of the transactions recited herein, as required by California Insurance Code §10509.910.”

The RIA in the case was not cited for any misconduct—perhaps because state insurance commissioners don’t regulate RIAs. But some believe the case should raise issues for RIAs.   

Michelle Richter, founder of Fiduciary Insurance Services LLC, which advises companies on hybrid insurance-annuity businesses, claimed that the “Know Your Customer” (KYC) rule established by FINRA (Financial Industry Regulatory Authority) looms over this case.

The KYC rule says: “Every [FINRA] member shall use reasonable diligence, in regard to the opening and maintenance of every account, to know (and retain) the essential facts concerning every customer and concerning the authority of each person acting on behalf of such customer.” FINRA doesn’t regulate RIAs, but RIAs may have broker-dealers that FINRA regulates.

The extent of the RIA’s responsibility for following the KYC rule needs more “clarity,” Richter commented on LinkedIn. “The clarity over who is responsible for annuity know-your-customer (KYC) in the event of placement by an insurance-licensed individual who isn’t the regular adviser is not there,” she wrote.

“When FINRA weighs in on this case, I think we will see a push from distribution overseers for answers to two questions: Do RIAs need to have insurance consultants’ licenses to charge fees on AUM that includes insurance? And, do OIDs/direct-placing-insurers need to expressly speak with an RIA’s client when an annuity is being placed?” she added.

Richter invoked the principle that if RIAs are charging advisory fees on the account value of an annuity in their clients’ portfolios—a relatively new practice for fee-based advisors—then they need to be accountable for an annuity sale that they recommend and seek.

But that could threaten the viability of the OID business. RIAs are not likely to get their insurance licenses just to help a few clients acquire an occasional annuity, or merely to execute a few 1035 exchanges for new clients. RIAs remain a tiny market for annuities.

David Stone, the founder of RetireOne (and of ARIA, a pioneer in the field of lifetime income riders for investment portfolios) told RIJ in an email that OIDs are providing adequate oversight over transactions involving RIAs, insurance-licensed OID agents, and insurance carriers. 

“It is the OID rep/agent that determines if a transaction is in the client’s best interest and not the RIA,” Stone wrote. “Every transaction goes through a full suitability/best interest assessment. All OID reps/agents are subject-matter experts in the solutions offered and are typically salaried employees of the OID and whose compensation is not tied to the sales of any particular solution or carrier.”

He added: “Our model is similar to the old Vanguard model with the big difference being the open architecture. We offer access to multiple carriers and solutions.”

(He’s referring to the period when Vanguard had an annuity phone desk where consumers could buy white-label annuities direct from salaried, insurance-licensed Vanguard employees. I worked in annuities at Vanguard when this was still the case. Vanguard has never owned a life insurer, or issued annuities, and has since discontinued distributing them.)

David Lau, founder of DPL Financial Partners (and a co-founder of Jefferson National), told RIJ in an email that the OID model—which was not under scrutiny in the California case, in which the RIA dealt directly with an agent of the annuity issuer, Jefferson National—is working. 

The IARs, he said, based on their knowledge of the client, merely refer clients to the OID, which is accountable for the suitability of the annuity sale.

“The general model for insurance professionals working with RIAs has been in place for a long time and is the same whether you are providing commission-free annuities or commissioned ones: the RIA is a referral source for clients. RIAs are not unique in being referral sources to insurance professionals,” Lau wrote.

“As the licensed agent, once working on a recommendation for a client, it is incumbent [on the OID] to be compliant with the regulations regardless of how the client came to you. At DPL, we hold ourselves to a fiduciary standard in regard to our recommendations,” he added.

“The OID model also trains non-insurance licensed RIA’s about the do’s and don’ts of how to engage with insurance.  The bottom line is if [RIAs] are not licensed, they cannot solicit, negotiate, or transact insurance. So they work with the OID through a referral process.”

To me, this whole case sounds more like a misunderstanding than a legal or ethic violation. It is muddied by the fact that Jefferson National was both the issuer of the new annuity and the agent-of-record, as well as by the client’s advanced age—an age when many people become inattentive to the details of their finances. 

Given the available evidence, which doesn’t include the fees the 86-year-old client had been paying on her existing annuities, the IAR appears to have done what you would expect an IAR to do when acquiring a new client who already owns variable annuities.

She was probably trying to reduce the client’s VA expenses by exchanging the client’s presumably high-fee existing VAs for a single $20-per-month Jefferson National contract. With $636,000 in VAs, the client could have been paying $20,000 or more in annual fees. Therefore it might have made sense for her to pay $16,000 in surrender fees to eliminate almost all current and future VA contract fees.

Unfortunately, we don’t know if the client stood to lose any valuable living benefits—like guaranteed income for life—by exchanging her previous contracts. Given the age of the client and the fact that the contracts were still in their surrender periods, that was probably not the case.

Richter, nonetheless, believes that regulatory bodies need to catch up with new circumstances in the retirement industry, such as the development of fee-based annuities, of in-plan 401(k) annuities, and of retirement portfolios that contain both investments and insurance products. These hybrid solutions have the potential to test jurisdictional boundaries.

“I feel that RIAs advising on assets including insurance should need insurance consultants’ licenses in the future,” she wrote. “But I have seen no guidance suggesting that this is required, and if it were, how it would be policed, since insurance is regulated state-by-state and not federally as securities are.”

© 2021 RIJ Publishing LLC. All rights reserved.