Archives: Articles

IssueM Articles

How Does That $250,000 Threshold Work?

Posted on December 3, 2012 by Neil Kasprak -

President Obama’s proposal to let the Bush tax cuts expire for married taxpayers making over $250,000 and single taxpayers making over $200,000 sounds simple enough. If you make under those amounts, nothing changes, and if you make more, you pay the old Clinton-era tax rates. Right?

As with anything related to the federal income tax code, things are much more complicated than they seem.

For one thing, the Bush tax cuts included much more than just marginal rate reductions – they also changed the way dividend income is taxed, reduced capital gains tax rates, and phased out various limitations on exemptions and deductions for upper income taxpayers.

Additionally, marginal tax rates apply to taxable income, while Obama’s thresholds apply to adjusted gross income (AGI). Finally, Obama first proposed those $200,000/$250,000 thresholds back in 2009; using the same numbers four years later in 2013 would cause this tax increase to affect significantly more taxpayers than initially intended because of inflation, and the official proposal in his 2013 budget indexes those thresholds using a 2009 base year.

So when Obama talks about letting the Bush tax cuts expire for families earning over $250,000 and single filers earning over $200,000, he really means $267,000 and $213,600.

The marginal rate increases are relatively simple to understand, but it requires knowing the difference between taxable income and AGI. Taxable income is simply AGI minus personal exemptions ($3,900 per dependent in 2013 plus an additional $3,900 for the head of the household) and deductions (in 2013, a minimum of $6,100 for single filers and $12,200 for married filers, plus more if the taxpayer itemizes.)

So for an AGI of $267,000 (remember, that’s the $250,000 threshold adjusted for inflation to 2013), the applicable taxable income threshold is $267,000 – $12,200 – (2 x $3,900): that’s subtracting the standard deduction for married filers and two personal exemptions (one for each spouse.) That comes out to $247,000.

Under current policy, there are six taxable income brackets – 10%, 15%, 25%, 28%, 33%, and 35%. Obama’s proposal would let part of the 33% tax bracket and all of the 35% tax bracket rise to Clinton-era tax rates: 36% and 39.6%. The split in the 33% tax bracket (where the upper part goes up to 36%) is set to be the number calculated above: $247,000. (The same calculation for single filers comes out to $203,600). So the marginal tax rates on taxable income under each scenario are as follows:

Filing Status

Tax Cuts Expire (2013 projected parameters)

Current Policy (2013 projected parameters)

Obama Proposal (2013 projected parameters)

Single

$0 to $36,250:15%
$36,250 to $87,850: 28%
$87,850 to $183,200: 31%
$183,200 to $398,350: 36%
$398,350+: 39.6%

$0 to $8,950: 10%
$8,950 to $36,250: 15%
$36,250 to $87,850: 25%
$87,850 to $183,200: 28%
$183,200 to $398,350: 33%
$398,350+: 35%

$0 to $8,950: 10%
$8,950 to $36,250: 15%
$36,250 to $87,850: 25%
$87,850 to $183,200: 28%
$183,200 to $203,600: 33%
$203,600 to $398,350: 36%
$398,350+: 39.6%

MFJ

$0 to $60,550: 15%
$60,550 to $146,350: 28%
$146,350 to $223,050: 31%
$223,050 to $398,350: 36%
$398,350+: 39.6%

$0 to $17,900: 10%
$17,900 to $72,500: 15%
$72,500 to $146,350: 25%
$146,350 to $223,050: 28%
$223,050 to $398,350: 33%
$398,350+: 35%

$0 to $17,900: 10%
$17,900 to $72,500: 15%
$72,500 to $146,350: 25%
$146,350 to $223,050: 28%
$223,050 to $247,000: 33%
$247,000 to $398,350: 36%
$398,350+: 39.6%

Things get more complicated when you look at other aspects of the Bush tax cuts – capital gains and dividends, for example. Currently, capital gains are taxed at a top rate of 15%, whereas under Clinton they had been taxed at 20%. Obama proposes to tax capital gains at 20%, but only for taxpayers whose income is above his threshold.

The way that works in practice is this: take the lesser of your taxable income over the applicable taxable income threshold and your total capital gains income, and that’s the amount that is taxed at the higher rate. A family that has $257,000 in taxable income and $80,000 in capital gains is $10,000 over the $247,000 taxable income threshold. So $70,000 of those capital gains are taxed at 15%, and the remaining $10,000 are taxed at 20%.

It’s similar for dividends. The Bush tax cuts created a new category of dividends referred to as “qualified” – so named because the qualify to be taxed as if they were capital gains rather than ordinary income. In order to qualify, a dividend needs to be paid by a US corporation and the stock needs to have been held for at least 60 days. Roughly three quarters of dividend income is qualified.

Obama proposes to let qualified dividends revert to being taxed at the ordinary rates – but only for taxpayers earning over the threshold. So qualified dividends are taxed at capital gains rates until the taxpayer’s taxable income exceeds the threshold, and beyond that are taxed at ordinary rates. The exact amount that is taxed at the higher rate is, as with capital gains, the lesser of the taxpayer’s taxable income over the threshold and his or her qualified dividend income.

One other change made by the Bush tax cuts was the gradual phase out of two provisions aimed at limiting the benefit of tax deductions for high income taxpayers. These are known as PEP, the Personal Exemption Phaseout, and Pease, named for Representative Don Pease, who proposed it.

These provisions came with their own income thresholds because they were also targeted at upper-income taxpayers: if PEP were reinstated next year with no changes, it would affect single taxpayers with an AGI over $178,150 and married filers with an AGI over $267,200.

Obama therefore proposes to bring back Pease, but to raise the threshold for single filers to $213,600 so as not to violate his pledge (again, that’s $200,000 in 2009 dollars). He’d also leave the married threshold where it is (being ever so slightly above his magic number of $267,000.)

PEP, too, is similar: if reinstated next year with no changes it would apply to filers with incomes over $178,150 regardless of filing status, so Obama would bring it back but raise the applicable thresholds to $213,600 for single filers and $267,000 for married filers.

The Worst Time to Retire? At a Market Peak.

Posted on December 2, 2012 by Kerry Pechter -

Even the smartest people are susceptible to buying investments at market peaks and selling at market troughs. They also tend to retire at market peaks even though they would probably be better off retiring at market troughs.

That’s a phenomenon that Rui Yao, Ph.D., and Eric Park, professors of personal financial planning at the University of Missouri-Columbia, have documented in “Market Performance and the Timing of Retirement,” a recent paper in the Journal of Personal Finance.

During the equities market roller coaster of the 2000s, Yao (at right) noticed a self-defeating pattern among some of her older colleagues. When the market was down, both they and their portfolios were depressed; they felt too nervous to trade their tenured positions for retirement. The opposite was true when stocks boomed.

“When we had a recession after 9-11, I heard people say, ‘I can’t afford to retire,’” Yao told RIJ recently. “Then, right before the 2008 recession, I heard them say, ‘I’ve reached my financial goal, it’s time to start babysitting the grandkids.’ After the market dropped, they said, ‘What have I done?’”

People like to retire when their 401(k) accounts hit certain targets. That often happens during a bull market. But when stock prices revert to their long-term averages, they find themselves high and dry, like boaters stranded on a sand bar when the tide goes out.

To find out if evidence of this trend was more than anecdotal, Yao and Park parsed the data that the Institute for Social Research at the University of Michigan gathers through its biannual Health and Retirement Study (HRS).

Looking specifically at a group of 4,000 Americans who had been between the ages 51 and 61 in 1992, they discovered a gradual but steady upward progression in their rate of retirement during the bull markets of 1993 to 2000 and 2003 to 2006.

“We found that people are most likely to retire when the market is at its peak,” Yao said. Thanks to the tendency of “reversion to the mean” that sets them up for a fall. It maximizes their “sequence of returns risk,” which is the risk that a downturn in early retirement, when coupled with unavoidable withdrawals, can put a double-whammy on savings and truncate a nest egg’s long-range viability.

“Market sequencing shows that when you’re hit by negative return early in retirement, then the longevity of your retirement income is shortened—unless you put more money in,” she added.

Not everybody whose retirement date coincides with a market peak is equally prone to falling into this trap, Yao said. Highly compensated people are less prone to it, for the simple reason that their incentive to keep working is high.

On the other hand, people whose spouses are already retired are more prone to it, because couples like to retire together. People who have pensions, even small ones, are more prone to it, because they feel more secure about retiring than people who don’t.

How can advisors help their clients avoid this trap? There’s nothing inherently wrong about retiring at a market peak, Yao said. The problem comes from retiring at a peak and acting as if the market will keep rising.

If new retirees sold enough of their appreciated assets to create a cash buffer that can last a few years, or if they used a chunk of their appreciated savings to buy guaranteed lifetime income, they wouldn’t necessarily fall into a sequence-of-returns trap.

Fewer people would fall into the trap, Yao speculated, if their 401(k) plan sponsors or providers warned them about it. But few people are lucky enough to get that type of advice.

“I think they’re doing an inadequate job,” she said, referring to participant education around the retirement date. “The 401(k) plans all emphasize that participants need to reach a target amount. But how often are people told that they shouldn’t retire if they reach their targets at the end of a bull market? And when people do retire, they’re advised to stay invested largely in stocks.”

The topic of safe withdrawal rates gets a lot more attention than sequence-of-returns risk, those priorities should be reversed, Yao said. “A lot of technical analysts have looked at the question of safe withdrawal rates without realizing that the withdrawal rate depends on projections of market performance that are heavily affected by recent events,” she told RIJ. “But there will always be ups and downs. That’s why we have averages.”

DTCC issues 3Q 2012 annuity report

Posted on November 28, 2012 by Editor Test -

The Depository Trust & Clearing Corporation (DTCC) Insurance and Retirement Services (I&RS) has released its report on activity and trends in the market for annuity products for the third quarter of 2012.

The information, obtained from millions of transactions, is available through Analytic Reporting for Annuities, a service offering of NSCC, a DTCC subsidiary.

Q3 highlights include:

Compared to Q2 2012, inflows in the third quarter were down $4.4 billion and out flows were down $6.7 billion, resulting in an increase in net cash flows of 39 percent, or $2.2 billion.
The data reflects a trend of a narrow range of inflows and declining outflows, resulting in greater net flows.
Net cash flows into non-qualified account types turned positive for the first time in 2012.

In September:

Annuity inflows declined 4.8%, to $7.4 billion from $7.7 billion in August.
Out flows declined over 10 percent to $5.7 billion from over $6.3 billion in August.
58 percent of all inflows going into qualified account types and 42 percent going to non-qualified account types in September.

About Analytic Reporting

Analytic Reporting for Annuities is an online information solution containing aggregated data from transactions processed by NSCC’s Insurance & Retirement Services (I&RS). I&RS is the central messaging connection for annuity and life insurance transactions, enabling insurance companies to provide broker/dealers with daily financial transaction information. It processes approximately 150 million transactions each month.

DTCC has added a page to its web site at http://www.dtcc.com/analytics for more information about the Analytic Reporting Service.

Guardian identifies four investing “personalities”

Posted on November 28, 2012 by Editor Test -

To help people better understand how their personalities and their emotions affect the way they invest, the Retirement Solutions division of The Guardian Insurance & Annuity Co., a unit of The Guardian Life, has launched a new website, Retirement Style Matters.

“The Retirement Style Matters website is an assessment and engagement tool that focuses on the links between retirement planning, personality and the need to be understood,” said Doug Dubitsky, vice president of product management and development for Retirement Solutions.

Working with Daniel Crosby, Ph.D., Guardian has identified four different retirement styles or personalities: The Connector, The Analyst, The Seeker and The Adventurer. “Seekers,” for example, “crave security and predictability and might be ideal candidates for… CDs, fixed income investments or annuities,” Guardian said in a release.

The Retirement Style Matters website is part of a suite of services and tools inclding a Facebook page, provided by Guardian to help advisors, sponsors and participants develop comprehensive retirement plans.

VA sales likely to end 2012 down 8%: Morningstar

Posted on November 28, 2012 by Editor Test -

Third quarter 2012 variable annuity new sales were down 4.9%, dropping to $35.9 billion from $37.7 billion in the second quarter, according to Morningstar’s 3Q 2012 Variable Annuity Sales and Asset Survey.

Year to date new sales of $109.4 billion were down 6.3% vs. third quarter year to date sales of $116.8 billion last year. With third quarter year to date sales at 71.1% of 2011 full year sales of $153.7 billion, it seems likely that 2012 will finish with sales in the range of $145 billion, or down about 6% from 2011.

Virtually all of that decline can be accounted for by MetLife’s reduction in sales. In the third quarter of 2011, MetLife sold about $8.5 billion. In the third quarter of 2012, it sold about $4.5 billion. Through September 30, MetLife sold about $7 billion more in 2011 than in 2012 ($21.2 billion vs. $14.1 billion).

Morningstar’s data, like LIMRA’s (reported last week in RIJ), showed that the other leading VA sellers, including Prudential, Jackson National, TIAA-CREF, Lincoln Financial, SunAmerica/VALIC, and AXA Equitable all sold slightly more in the first three quarters of 2012 than in the same period in 2011.

AXA’s Structured Capital Strategies variable annuity, an accumulation product that offers volatility control instead of lifetime income, jumped from 60^th to 19^th on the list of top-selling VA contracts. Annual sales through September 30, 2012 were $945.8 million, up from $290 million the previous year. The product was introduced in late 2010.

Sales of “O” Shares, which have reduced costs to the consumer, now account for 4.4% of VA sales, up from 0.9% for the first three-quarters of 2011. The leading sellers are Protective ($469 million in 3Q 2012), Lincoln, and Prudential. Sales of B shares, which are driven by commissions, still dominate the business, accounting for more than 60% of sales. Sales of L shares, which have shorter surrender periods but higher commissions than B shares, account for about one in five VA sales.

Overall VA assets, driven by strong market performance in 2012, have reached a new high of $1.622 trillion, up 3.9% from the second quarter, 7.9% from the end of 2011 and 14% from the end of the third quarter of 2011.

Third quarter net cash flow was up 18% to $5.8 billion from $4.9 billion in the second quarter, however on a year over year basis third quarter year to date net cash flow of $14.6 billion showed a 28.4% decrease from the year ago level of $20.4 billion.

The ratio of net cash flow to new sales has fluctuated between 15% and 30% over the past decade, with total net flow of $305 billion since the beginning of 2001 equal to 20.26% of total new sales of $1,504.8 billion over the same period.

The top five companies in the retail VA market (i.e. excluding 403(b) business) in the third quarter were, in terms of new sales and market share:

Prudential, $5.9 billion; 16.4%
Jackson National, $5.7 billion; 15.8%
MetLife, $4.6 billion; 12.8%
Lincoln National, $2.3 billion; 6.5%
AXA Equitable, $1.8 billion; 5.1%

In the distribution channels the leaders (also excluding 403(b) business) were:

Jackson National with 20.5% of the bank channel and 29.1% of independent broker/dealer sales
Prudential with 26.2% of the wirehouse channel
MetLife with 15.8% of captive agency sales and 21.4% of the regional channel
Fidelity captured 63.8% of the direct sales channel

Companies continue to reconfigure benefits to meet demand for guarantees while minimizing risk. Reductions in roll-ups and payout percentages, elimination of bonus credits, and increased fees in the third quarter all produced more viable living benefit designs.

Product designs that embed hedging in the underlying fund, essentially shifting volatility risk to the investor, have a lot of appeal, because they remove the hedging instrument from the issuer’s balance sheet. One example: the Ohio National GLWB Plus lifetime withdrawal benefit, which requires a minimum 50% allocation to one of the TOPS volatility managed ETF portfolios.

Public pensions in Puerto Rico face possible insolvency

Posted on November 28, 2012 by Editor Test -

After shortchanging its public retirement funds for years, Puerto Rico now has the weakest major public pension system in America, according to a report in yesterday’s New York Times.

The main fund, which serves about 250,000 government workers, current and retired, is only 6% funded and could run out of money as early as 2014. Another fund, for about 80,000 teachers, which is 20% funded, is in almost as bad shape.

Police officers and teachers in Puerto Rico rely entirely on their pensions, having opted out of Social Security. The commonwealth itself has had trouble issuing bonds at attractive rates to cover its short-term financing needs.

“For now, I’m not totally shaken about the possibility of the fund going broke,” said Jorge Ramón Román, a 78-year-old retired instructor for the island’s Civil Air Patrol. “But I do fear for the future, when I’ll be an even older person, more infirm and with less of a pension.”

Héctor M. Mayol Kauffman, the executive director of the pension system, said it would be impossible to cut the benefits of retirees, citing court precedent. Puerto Rican officials were racing this fall to put together a rescue plan for the pension fund.

Voters, though, pushed out Gov. Luis Fortuño, who had tried austerity measures that included cutting tens of thousands of government workers along with a revamping of the fund. They elected Alejandro García Padilla, who promised to create 50,000 new jobs in the next 18 months.

After a close race, Fortuño requested a recount. García Padilla’s party had dropped out of the retirement overhaul effort, but the governor-elect says he will deal with the looming pension crisis with “diligence and promptness” and has put together a task force of economists and financial advisers. “We will not leave retired government workers stranded at a bus stop in their older years,” he said.

What affluent business owners are thinking: Merrill Lynch survey

Posted on November 28, 2012 by Editor Test -

When asked what the one greatest opportunity for business growth in 2013 is, 24% of large ($10-$250 million in revenue) business owners cited “introducing new products or services,” 24% cited “taking advantage of new technologies,” 21% cited “targeting a new kind of customer” and 21% cited “expanding domestic locations,” according to the latest Merrill Lynch Affluent Insights survey.

More business owners say they hired people (30%) than laid employees off (22%) in the past two years. In other changes: 38% said they targeted a new customer base, 37% expanded operations to take advantage of new opportunities, and 35% changed product or service to better meet market demands.

Most businesses still focus on U.S. market, with 89% receiving less than half of their revenue from international operations and sales. But 17% of business owners plan to expand their business internationally within five years and 32% believe that international expansion is worth the risk.

More than half (60%) of business owners are confident their business will continue to be successful after they retire, but only 35% of business owners are “very confident” in their ability to meet future financial and personal goals if they retired now, the survey showed.

Only 39% of business owners worked on a succession plan with a management consultant, personal financial advisor, or commercial banker, and only 33% have worked on a retirement plan.

When asked whom they would trust to succeed them today, 51% of business owners said they would choose a current employee, 24% would choose a family member and 21% would choose an outsider.

If someone took over their company today, business owners would be most concerned with financial management (23%), leadership succession (20%), and business development and growth (16%).

Rising Treasury prices are worrisome: BMO Private Bank

Posted on November 28, 2012 by Editor Test -

A variety of sectors of the U.S. economy are growing, according to BMO Private Bank’s December Outlook for Financial Markets Report.

According to the report:

With net profit margins at 10.7%, corporate profits are at their highest levels since the early 1950s.
Both 401(k) plans and home prices are rising, aiding consumer confidence.
The S&P 500 has rallied more than 60% since the end of 2008.
Thanks to low mortgage rates, home affordability has grown by about 25%.
Retail sales are up nearly 5% year-over-year.

The “fiscal cliff”

As the January 2013 fiscal cliff looms, investors fret that the U.S. may lose its AAA credit rating from Fitch. The BMO Private Bank Report notes that 10-year Treasury prices have been on the rise, and difference in yield between two-year and 10-year notes has been shrinking. Recessions are associated with zero difference between the two.

Equity markets volatility

Average equity prices dipped about 5.5% in the third quarter of 2012 on fears of increased regulation and higher taxes. The financial and energy sectors were affected the most. The S&P 500 fell 3.3% percent in the three sessions immediately following the U.S. election.

Yield-oriented telecom companies dropped more than four percent in the days following the election. Nearly half of Europe’s Stoxx 600 companies failed to beat analysts’ profit expectations.

Chinese and American challenges

Income inequality in the U.S. and China is affecting the two countries’ economic growth.

“Severe income inequality is not economically sustainable and consistent inequality impairs economic growth,” said Jack Ablin of BMO Private Bank.

Outlook for next year

Rules and regulations aimed at domestic banks and energy companies will take effect. Financial stocks are now trading at a 19% discount, making them fairly priced when taking into account the prospect of new regulations. Energy stocks, trading at one per cent above their historical norm, are overpriced.

Lithuania struggles to finance its public pensions

Posted on November 28, 2012 by Editor Test -

Lithuania’s lame duck parliament (Seimas) has passed a package of long-planned pension reforms, even though recent elections gave a majority to a center-left coalition, IPE.com reported. The outgoing legislators approved the measures and the president is expected to sign them.

At present, employees who make “second-pillar” provisions—deferrals to defined contribution plans—can redirect a percentage of their social tax contributions into personal accounts with their private pension funds, instead of paying the full amount into the pay-as-you-go national pension, known as SODRA.

As a result, they will get a smaller monthly retirement check from SODRA, but income from the second-pillar pension will make up for it. The current level of contributions to the second-pillar is 1.5% of salary, and it should increase to 2.5% in 2013.

The new laws will change that by reducing contributions to 2% of salary in 2014, but allow participants to add 1% of their after-tax salary income if they wish. The government would contribute an additional 1% of the statistical average national salary.

Pension fund members who entered the system before 2013 must notify their pension fund provider between April and September next year if they want to contribute more. The new members of the second pillar who join the system after 2013 will automatically enter the new system, which requires them to make additional personal contributions, to be topped up by a state subsidy.

Alternatively, the new law says that, during the same period, workers may stop paying into their second-pillar pension and rely more on the state PAYG system.

A member who does not take any action regarding these changes in 2013 will remain within the original set-up, where part of their social taxes get redirected to a private account in the pension fund of their choice.

The changes also provide that the additional contributions will increase to 2% of the member’s actual salary after 2016, with a government top-up of 2% of the average national salary.

“These new legal amendments are marginally beneficial for second-pillar pension fund members, especially to those earning salaries close to or lower than average – mainly because they provide more choice and offer some incentives,” said Marijus Kalesinskas, chairman of the Lithuanian Pension Fund Members Association.

“On the other hand, they make the pension system even more complicated and hard to understand for the average member – and indeed mix up the principles of the existing second and third pillars into one.”

Other proposals include reducing the maximum fees that pension fund managers can charge from the current level of 1% of assets per year to 0.65% for the conservative (government bond only) pension funds after 2013. Fees for funds with investment policies that allow some risky assets will be left at 1% a year.

Last December, parliament approved measures to cut second-pillar contributions 1.5%.

Contributions had previously gone as high as 5.5%, before an initial reduction to 3% in 2008. The government said the cuts, meant to help reduce the budget deficit, would only be temporary.

At end-2010, the LAPF sued the government for compensation amounting to the value of extra contributions that would have been transferred to the private plans had the percentage remained at 5.5%. LAPF said the cuts were potentially against human rights and unconstitutional.

The lawsuit was eventually passed from the lower courts to the country’s Constitutional Court, which issued a statement in June this year; this has since been subject to interpretation. Kalesinskas said that the LPFMA would take a decision within the next few months as to whether to pursue further action, including possibly applying to the European Court of Human Rights in Strasbourg.

The Tax Deferral on Savings: Endangered or Not?

Posted on November 28, 2012 by Editor Test -

As the nation’s leaders search for a blend of “revenue enhancements” and spending cuts that will reduce the annual budget deficit without stunting the nation’s long slow economic recovery, tax expenditures have often surfaced as a potential sacrificial victim.

One of the biggest tax expenditures, though not the largest, involves the deduction for contributions to defined benefit plans, defined contribution plans, Keogh plans and IRAs. In 2015, according to a January 17, 2012 Congressional report, those plans will cost the government $61.6 billion, $102.1 billion, $16.9 billion and $23.9 billion, respectively.

By eliminating these expenditures entirely for the years 2011 through 2015, the government would have stood to receive an estimated $804.8 billion more in taxes (assuming that plan participants didn’t save less or stop saving because the incentive was gone).

No one really knows exactly what the cost of the tax deferral is, because it depends on such a wide range of variables, including future employment, tax rates and market returns. The Center for Retirement Research has put the cost in 2010 at $49 billion to $73 billion.

The Center based that estimate on “the value of the tax relief on this year’s contributions, plus the expected present value of the tax relief on future years’ interest dividends and capital gains on those contributions, minus the expected present of the eventual tax payable on withdrawals of those contributions,” CRR’s Anthony Webb told RIJ.

A cap, not a cancellation

The prospect of losing that subsidy is perceived as a grave threat by the retirement industry, which includes the insurance companies and mutual fund providers that service the $4 trillion or so in savings now held in DC plans, as well as an army of plan administrators, advisors and ERISA professionals.

Given the advocacy that the Obama administration has lavished on 401(k) participants so far in terms of fee transparency and fiduciary rules, it’s not likely to try and banish the tax expenditure for retirement savings entirely. Such a strategy would be patently inconsistent.

But an attempt might be made to cap the deduction or lower the deductible contribution amount. The maximum deferral is $17,500 for 2013 (or $23,000 for those age 50). Various plans have suggested capping the combined employer-employee contribution at the lesser of $20,000 or 20% of pay, or limiting the tax credit to 15% of contributions (“Domenici-Rivlin”) or 18% (William Gale of the Brookings Institution).

A cap makes sense to many observers, because it would correct one of the perceived inequities of the defined contribution tax break: the people in the highest tax brackets have the most to gain from the tax break. They are also the most likely to be offered a plan, to participate in a plan and to contribute the maximum to a plan. Some have argued that higher-income workers would save the same amount for retirement, even without the incentive.

The tax break for high-income workers is partly offset by a compensation clawback. Urban Institute researchers Eric Toder and Karen Smith found that employers tend to carve their matching contributions out of high-end salaries. In a September 2011 paper, they wrote, “Among male workers, an additional dollar of employer DC contributions replaces 90 cents of wages for workers with high family income, but only 29 cents for workers with low family income. Among female workers, an additional dollar of employer DC contributions replaces 99 cents of wages for those with high family income, but only 11 cents for those with low family income.”

In an interview, Toder told RIJ that, if the government wants to boost savings, it should shift more of the incentives to lower- and middle-class workers, where they’ll have a much bigger impact on the amount saved.

So the picture is a bit complicated. “Both low- and high-income workers benefit from employer DC contributions,” Toder and Smith noted. “Low-income workers benefit because their total compensation rises. High-income workers benefit because the increased access to tax-advantaged saving more than offsets their loss of money wages, even though their total compensation is about the same.”

In any case, those high-salaried, long-tenured managers and executives at larger firms are the retirement industry’s best customers. Any caps on their contributions would likely have a disproportionate effect on overall DC assets under management. Retirement industry groups are therefore mounting campaigns against the potential threat to their livelihood.

“Savemy401k”

ASPPA, the American Society of Pension Professionals & Actuaries, has just launched a campaign that it calls Savemy401k. It focuses on the argument that reducing the incentives for high earners, especially small business owners, would discourage them from sponsoring plans. And that would deny low- and middle-income employees their principal venue for saving.

Most Americans don’t invest outside their employer-sponsored retirement plans. According to a recent report from Macromonitor, if you exclude investments in employer-sponsored plans, only about 15% of Americans own stocks or mutual funds, less than 10% invest in money market funds and fewer than 5% own corporate, municipal or Treasury bonds.

ASPPA, citing Employee Benefit Research Institute data, claims that more than 70% of workers earning from $30,000 to $50,000 participate in their employer 401(k) plans, while only 5% save for retirement without a plan at work Those savings represent more than 65% of their financial assets.

“The single most important factor in determining if a worker is saving for retirement is whether or not there is a plan at work. Last time Congress took up tax reform in 1986, employees’ 401(k) plans were cut by 70%, resulting in a mass termination of plans,” said Brian Graff ASPPA’s executive director, in a release.

“We understand Congress needs to reduce the debt and raise revenue but raiding the tax incentives for 401(k) plans will put American workers’ retirement security at risk,” he added. “Tens of millions of Americans participate in these retirement plans, and 80% of them earn less than $100,000 per year. This is a battle that American workers simply can’t afford to lose.”

The current retirement system, while undoubtedly effective for some, is nonetheless lopsided and patchy in several ways. Only about 40% of all workers participate in any workplace savings plan at all. Indeed, the percentage of full-time workers ages 21 to 64 participating in an employer-sponsored plan has trended downward from a peak of 60.4% in 1999 to 53.7% in 2011, according to EBRI. Nor do very many workers retire from existing plans with enough money to prevent a decline in living standards in retirement.

But the status quo, increasingly dominated by the defined contribution segment and less so by the defined benefit or public sector segment, is virtually the only game in town. The Obama administration is likely to do it no harm. There’s little chance that the tax expenditure for retirement savings will be sacrificed on the altar of fiscal rectitude.

Tax expert Eugene Steuerle of the Urban Institute agrees. He points out that President Obama has proposed including employee contributions to defined contribution plans as subject to his proposed limit on itemized deductions (deductible and excludable at more than a 28 percent rate).

In a recent email to RIJ, Steuerle wrote: “I could possibly see some tapering in areas that are considered more excessive, such as special defined benefit plans that tend to be used by professionals. But the Congress seems to be mainly focused on itemized deductions. I don’t see pensions right now as a target for the cut backs in tax preferences.”

Guardian Weathers the Storm

Posted on November 28, 2012 by Kerry Pechter -

Superstorm Sandy flooded the basement of Guardian Life’s headquarters at the southern tip of Manhattan in late October, and a month later many of the mutual insurer’s employees are still working from ad hoc offices in far-flung locations.

No one at Guardian Life—or anyone in New York or New Jersey—looks forward to seeing the Atlantic Ocean establish another high water mark. But the $5.5 billion (capital) insurer has no qualms about setting its own new high water marks for variable annuity sales.

Relative to where it had been, Guardian has enjoyed a breakout decade in VA sales. Through September 30, the company had sold $1.155 billion worth of VAs this year and ranked 17^th in sales, up from 20th in 2011 ($1.127 billion) and 25^th in 2010 ($767.3 million).

Driving those sales is Investor II, a contract whose Target living benefit riders include a 7% annual deferral bonus (with an optional 100% bonus after 10 years or 150% after 15 years) on the benefit base and a 4.5% annual payout (4% spousal) for ages 65 through 79.

The contract can cost up to 4% a year, all-in. But at a time when many traditional VA issuers are cutting capacity, “de-risking” their contracts, or exiting the business entirely, such aggressive roll-ups have gotten increasingly difficult for prospective retirees to find.

Guardian Life seemed to mobilize in 2011, when Deanna Mulligan was appointed president and CEO. A native Nebraskan with a Stanford MBA, she joined Guardian in 2008 after high-level stints at McKinsey & Co., AXA Financial, and New York Life.

RIJ recently spoke with Douglas Dubitsky (at right below), vice president of product management and development in Guardian’s Retirement Solutions group. Like Mulligan, he came to Guardian in 2008 after stops at New York Life, McKinsey & Co. and AXA Financial.

RIJ: Guardian Life is a relative newcomer to variable annuities. That must give you certain advantages over companies that sold a lot of product shortly before the financial crisis.

Dubitsky: Guardian offered living benefits products before 2008, but it was a weak product, and not an area of focus for us. There was no formal product development or training. Our first competitive living benefit product was rolled out in late 2008. So, even though the hedging costs have continued to deteriorate, we didn’t have the legacy issues that some of our competitors had. They had billions in legacy products designed for a previous market. We also have many different levers to pull, including the annual bonus, quarterly step-ups, the bonus in 10 and 15 years and various other features.

RIJ: Volatility-controlled investment options are perhaps the hottest new tool for controlling risk and reducing hedging costs in variable annuities. One of your competitors, Ohio National, uses them in its OnCore contracts. Are you using them or considering using them?

Dubitsky: In our current models we don’t have the volatility-controlled funds. I agree that it’s a big new direction for the industry. Volatility, in both interest rates and market performance, is driving the shape of the industry. But volatility isn’t the only issue. Low interest rates are equally important. Longevity and consumer behavior are issues. The damage from the financial crisis was not a scraped knee where you put a little Neosporin on it and everything is fine. There’s no single answer.

RIJ: What are some of the things you’ve done to control product risk?

Dubitsky: We have raised fees over time, and we have tight controls over the investments. We are very carefully matched in terms of our hedging. We’re controlling distribution. Two months ago, we did away with outside [non career-agent] sales. We believe there’s a point where we don’t want too much on our books. As a mutual, we’re not the fastest or the sexiest company. We like to see gradual and consistent growth. I’ve seen other companies control their sales. Jackson National? said ‘no transfers,’ or they put a hard dollar cap on outside broker-dealer sales. You’re trying to keep control.

RIJ: There seems to be only so much capacity in the system.

Dubitsky: You can make these products good for a limited number of people or you can de-risk them drastically and make it available to a huge number of people.

RIJ: It was recently said, however, that the wirehouses are clamoring for VAs from highly rated issuers, but are being turned away by the top issuers. But that’s not your channel, is it?

Dubitsky: The wirehouses can game you instantly. They can drive tremendous volume into your product. These are not mutual funds. They’re highly regulated. You can’t change them on an hour’s notice. You need to file changes with the SEC. So, having uncontrolled distribution can leave you hanging out there with a product that was attractive in September but ugly in October. If they have hundreds of thousands of desktops, and if they take advantage of that kind of mismatch, you’re setting yourself up for a dangerous scenario.

RIJ: To change the subject a bit, do you have plans for any other types of income products? I know that you introduced an inflation-adjusted single premium immediate annuity in 2010.

Dubitsky: We have a deferred income annuity product that we’ll be launching at the beginning of the year. We’re also starting to get significant traction on the income annuity. The advisors don’t understand that story. All anybody wants is calmness and peace, whether from financial turmoil or from hurricanes. There’s constant turmoil, and people want calmness and stability.

RIJ: What do you mean, ‘Advisors don’t understand that story’?

Dubitsky: Advisors see the annuity as handcuffs, not as something that frees them up. It’s the greatest misunderstanding advisors have. They talk about ‘annuicide.’ But an annuity frees them up to be advisors again.

RIJ: How so?

Dubitsky: If the clients are not secure about their income, they’ll be too afraid to make other decisions. They’ll be too afraid to do anything. Fear has gripped this market among general consumers. I talk to a lot of advisors. Their biggest problem is clients who are paralyzed by fear. The clients know they need to take action, and they know what their options are. But they’re too afraid to do anything. If we can cap that fear, and provide guarantees they can’t outlive, they can make those other decisions. Once you’ve covered your basic needs, for instance, you can engage in discretionary investing. That’s why this product is so important.

RIJ: And yet both advisors and clients put a high value on staying fully liquid.

Dubitsky: People don’t understand what liquidity actually is. They think it means they can go to the bank and get all their money anytime they want to. That’s impulsiveness, not liquidity. Liquidity means access to money for the rest of your life. It means having a continual stream of income. It means not worrying about playing catch-up after you have to withdraw too much in one year. It means not watching ‘financial porn’ on television.

RIJ: So, which product would you rather sell, the VA or the SPIA?

Dubitsky: The client’s assets won’t necessarily all go to one product. You’ll see some going to the GLWB, some to the immediate annuity, some to the deferred annuity product, depending on the client’s situation. Then there are ways to ladder these products. People don’t need the same amount of income every year of their lives. We talk a lot about the concept of laddering products and tailoring the income to the advisor’s overall plan.

RIJ: Where do you see the VA industry headed in 2013?

Dubitsky: The variable annuity industry is not spiraling out of control. If you are not greedy in terms of sales goals or product designs you’ll be OK. You’ve seen jagged movements by certain players. But if you step back from the day-to-day movements, TIAA-CREF is still here. MetLife and Prudential are still there. Everybody is approaching the problem in a different way, but they’re all making smart decisions.

RIJ: Thank you, Doug.

Judge rules for participants in ERISA suit

Posted on November 21, 2012 by Editor Test -

A U.S. District Court Judge in Minnesota has denied a request from Ameriprise Financial to dismiss all complaints by participants in its own 401(k) plan, who claim that Ameriprise charged excessive fees and placed them in poorly performing Ameriprise funds, while benefitting at their expense from the operation of the plan.

The case, Krueger et al. v. Ameriprise Financial, Inc., et. al, had been filed on behalf of all Ameriprise Financial employees, former employees, and retirees who are in the 401(k) plan sponsored by Ameriprise. According to Judge Susan Richard Nelson’s November 20 opinion:

“Plaintiffs have plausibly pled that Defendants did not discharge their duties solely in the interest of the participants and beneficiaries of the Plans. Plaintiffs allege that Defendants chose investment options with poor or non-existent performance histories relative to other investment options that were available to the Plan. Plaintiffs have also plausibly claimed that Defendants continued to choose novel or poorly performing affiliated fund investment options for the Plan instead of more established and better performing alternatives.

Plaintiffs have pointed to prudent alternatives to Ameriprise affiliated funds that Defendants could have chosen as investment options for the Plan. It is also plausible that Defendants may have selected higher-cost share classes when lower-cost share classes were available because they received benefits for doing so.

Moreover, based on Plaintiffs’ allegations, it is also plausible that the process Defendants used to choose Plan investments was flawed.

The complaint alleges that the Defendant selected certain investment options for the Plan despite the availability of better options. The complaint further alleges that these options were chosen to benefit defendants at the expense of Plaintiffs. If these allegations are substantiated, then the process by which Defendants selected and managed the funds in the Plan would have been tainted “by failure of effort, competence, or loyalty.”

The St. Louis law firm representing the plaintiffs, Schlichter, Bogard and Denton, LLP is the same firm that last March won the case of Tussey versus ABB, Inc., in which found a plan sponsor was held responsible for $35.2 million in damages for violation of fiduciary duty to participants.

For investors, it’s been a very good year

Posted on November 21, 2012 by Editor Test -

Stock and bond funds appreciated by more than $1 trillion the first ten months of 2012, as stock funds averaged a total return of more than 12% and, despite interest rate suppression, bond funds averaged almost 8%, according to Strategic Insight.

That appreciation, combined with projected net inflow to bond and stock funds (including ETF flows) of $400 billion for the entire year, could make 2012 second only to 2009 (when asset levels rebounded by $2 trillion after the 2008 crash) in AUM growth.

“Next year, assuming meaningful progress is accomplished in Washington, could similarly surprise many of the doomsayers,” said Avi Nachmany, SI’s director of research, in a release.

Money-market funds saw net redemptions of $8 billion in October, bringing redemptions in such funds to nearly $144 billion so far in 2012.

“In 2013 most investors would continue to focus on income and stability. Yet, as economic life across America slowly improves, investment in stock funds will increase too. With 80-90% of all stock fund balances dedicated to retirement savings, thus having accumulation and withdrawals’ time-horizons of 20, 30, or 40 years for most investors, once Americans become more confident about the future, investing for retirement in that more optimistic future through stock mutual funds will expand,” Nachmany said.

In October, net inflows to bond funds reached $30 billion. Bond funds are projected to amass over $300 billion in net inflows for the full year, exceeding the 2010 and 2011 pace, according to Strategic Insight. (Flow data pertains to open-end mutual funds, excluding ETFs and funds underlying variable annuities.)

Equity fund net redemption was $15 billion in October, as stock fund investors waited for election results.

ETFs investing in stocks experienced modest redemptions of $2 billion in October, following inflows of $38 billion during September, their highest monthly take in four years.

Exchange-traded products benefitted from $3 billion of October net intake, bringing total ETF net inflows (including ETNs) to nearly $140 billion for the first ten months of 2012, more than in any of the three previous calendar years. Outside the U.S., ETFs gained $45 billion so far in 2012.

Globally, ETF net flows in 2012 should exceed $200 billion. Gold, emerging markets, diversified international and corporate bond funds were among the many objectives gaining inflows, while a number of domestic growth-oriented funds faced monthly net redemptions.

Target date funds attracted $5 billion in net flows during October, increasing YTD net intake to $45 billion.

“This year target date products are on track to rival the annual net flows record set in 2007 of $58 billion,” said Bridget Bearden, head of Strategic Insight’s defined contribution and target date funds practice.

“Quote” of the Week

Posted on November 21, 2012 by Editor Test -

Solvency II could kill many British DB plans, officials say

Posted on November 21, 2012 by Editor Test -

Britain’s pensions minister said that Solvency II measures in the revised IORP (Institutions for Occupational Retirement Provision) Directive will end any prospect of “risk sharing” among UK companies, and estimated that the total cost to the local pensions industry could reach as high as £400bn (€498bn), IPE.com reported.

The UK government has for months been pushing back against European Union plans to harmonize the Solvency II capital rules for insurance companies with the rules governing pensions across Europe.

If pension funds aren’t given a partial exemption from Solvency II requirements, they would have to shift out of riskier assets, which would drive down their expected returns, hurt their funded status, and force plan sponsors to increase contributions. British pension officials and executives are afraid the cure for pension problems would be worse than the disease.

Addressing a PensionEurope conference in Frankfurt, Steve Webb he pointed out that it was currently illegal for companies in the UK to offer employees pension promises unless they were inflation-protected.

“We are currently looking at ways to encourage firms to offer what you might call ‘Defined benefit light,’ where pensions are essentially like the old DB style, but with more flexibility for the firm, or ‘Defined contribution plus,’ which aims at getting more money in but also looks at [plan] quality, scale, charges and governance,” he said.

He said he wanted to avoid a stark and sudden shift from “high-quality, final-salary, index-linked pensions that are so expensive that firms won’t want to provide them” to “minimalist DC” plans with “minimalist contributions.”

UK companies wanted risk sharing but were “terrified” about Solvency II, and that Brussels would make those promises “very” expensive, Webb said. “The risk is that Solvency II will not only have a devastating effect on the European industry but destroy the prospect of risk sharing.”

Webb also referred to an analysis, published today, on an initial impact assessment he commissioned showing that the cost for the UK pension industry would be as much as £150bn if Solvency II rules for pension schemes were implemented, adding that “if the full Solvency II capital requirements came through, we would be talking about £400bn in the UK.”

“When we discussed the final points of the QIS (Quantitative Impact Statement) methodology, there was a huge elephant in the room – why are we doing this at all?” he said. “What is the question we are trying to answer that could possibly be in that territory?”

Webb finally argued that, in terms of plan closures, his research showed that, over the coming decade, only one in 20 DB plans would remain open to new members in the UK if Solvency II rules were introduced. “This would kill DB,” he said.

New York Life reports 16% annuity sales growth in 3Q 2012

Posted on November 21, 2012 by Editor Test -

New York Life’s annuity sales increased 16% and mutual fund sales increased 10% in the third quarter of 2012 compared with the same period in 2011. Annuity sales in the quarter were driven by income annuity sales, which are up 17%, and variable annuity sales, up 5% compared with the same period a year ago.

Overall, the company announced strong third quarter gains in sales of life insurance, annuities and mutual funds, as well as an increase in agent new hires in the first nine months of 2012. New York Life agents recorded an increase of 11% in sales of recurring premium whole life insurance over the third quarter of 2011.

The company also announced that its dividend payout to participating policyholders would increase by $100 million in 2013, an 8% rise over the 2012 payout. Even in the face of unprecedented low interest rates, the company had strong operating performance and was able to enhance its surplus and dividend through the divestiture of certain international businesses. The company also has had better than expected persistency as policyholders maintain their policies in force despite the challenging economy.

Mutual fund sales are being driven by consistent investment performance from the company’s investment boutiques in both income oriented and capital appreciation funds.

New York Life has recorded a 4% increase in agent recruitment over the same period in 2011, with 2,396 new agents hired through September 30, 2012. The full year 2012 goal for agent recruitment is 3,700.

New York Life has the highest possible financial strength ratings currently awarded to any life insurer from all four of the major credit rating agencies: A.M. Best (A++), Fitch (AAA), Moody’s Investors Service (Aaa), Standard & Poor’s (AA+).

Bull run

Posted on November 21, 2012 by Editor Test -

“Next year, assuming meaningful progress is accomplished in Washington, could similarly surprise many of the doomsayers,” said Avi Nachmany, SI’s director of research, in a release.

Money-market funds saw net redemptions of $8 billion in October, bringing redemptions in such funds to nearly $144 billion so far in 2012.

Equity fund net redemption was $15 billion in October, as stock fund investors waited for election results.

ETFs investing in stocks experienced modest redemptions of $2 billion in October, following inflows of $38 billion during September, their highest monthly take in four years.

Target date funds attracted $5 billion in net flows during October, increasing YTD net intake to $45 billion.

When rates rise, will bond fund owners bolt?

Posted on November 21, 2012 by Editor Test -

As bond funds continue to absorb assets and the Fed’s policy of suppressing long-term interest rates continues, some observers wonder if a bond bubble is building. They fret that if and when interest rates on new bonds begin to rise and depress the prices of existing bonds, bond fund owners might panic and make the problem worse.

In an essay in this month’s issue of the Journal of Financial Planning, Mark W. Riepe, CFA, president of Charles Schwab Investment Advisory in San Francisco, looked at the historical relationship between changes in interest rates and fund flows for intermediate-term (average maturity, four to 10 years) bond funds and for high-yield or “junk” bond funds from August 1992 to July 2012.

Riepe assumed that high-yield fund shareholders would be “more active and motivated by tactical considerations when deciding to get in or out of a fund” and that “the intermediate bond category is more likely to be populated by shareholders who have a longer-term, strategic mindset and seek diversification from stocks.” The correlation between fund outflows during rate hikes would likely be stronger in high-yield bond funds than in intermediate-term bond funds, he hypothesized.

Riepe constructed a series of monthly net asset flows for all mutual funds within the high-yield and intermediate-term categories between the dates listed above, using data from Morningstar. The data on individual funds were aggregated into category totals. The category totals were then correlated with the monthly returns of the Barclays Aggregate Index (for intermediate bond) and the Barclays U.S. Corporate High Yield Index (for high yield).

The data confirmed Riepe’s expectations. They showed that the high-yield category had a positive net cash flow in only 8 of the 64 months when there was a negative total return to the high-yield index, for a 0.53 correlation between returns and net cash flows over the 20-year period. For intermediate bond fund flows, the correlation was only 0.10, though it reached 0.53 when rates rose over a three-year period in the early 1990s. (See chart from Journal of Financial Planning below.)

“High-yield investors, I suspect, will be the quickest to pull the trigger and redeem shares if rates rise… On the other hand, high-yield returns are not driven solely by interest rate movements. High-yield returns have been correlated with equity returns in the past. If rising rates are accompanied by rising stock prices, flows may be modest,” Riepe wrote.

For intermediate-term bond funds, demographics may dampen flows. “If rates increase month after month, as in 1994, some outflows [from intermediate-term bond funds] appear to be likely,” he said. But given boomers’ age and conservatism, he expected them to largely stick with their core bond fund choices even if rates rise.

Easy Does It

Posted on November 21, 2012 by Editor Test -

Two years ago, a leading life insurance executive told RIJ that his company could weather ultra-low interest rates for about five years. Yesterday, in a speech in Manhattan, Fed chairman Ben Bernanke reiterated his intention to keep rates low until at least 2015.

Bernanke told members of the New York Economic Club that his policy is justified by the “headwinds,” such as weakness in housing, bank lending, and public sector expenditures, that the U.S. economy still faces four years after the nadir of the financial crisis.

As for the so-called “fiscal cliff” (an expression rendered memorable by chiasmus, a figure of speech evident in the reversal in “cliff” of the “f” and “c” sounds in “fiscal”), Bernanke said that the goal of long-term deficit reduction would be best served by avoiding big spending cuts and tax increases in 2013.

“Fortunately, the two objectives are fully compatible and mutually reinforcing,” Bernanke said. “Preventing a sudden and severe contraction in fiscal policy early next year will support the transition of the economy back to full employment; a stronger economy will in turn reduce the deficit and contribute to achieving long-term fiscal sustainability.

“At the same time, a credible plan to put the federal budget on a path that will be sustainable in the long run could help keep longer-term interest rates low and boost household and business confidence, thereby supporting economic growth today.”

Low rates to continue even after recovery

In his speech, Bernanke explained the rationale behind his policy of buying mortgage-backed securities, which lifted prices in that sector this fall:

“Our purchases of MBS, by bringing down mortgage rates, provide support directly to housing and thereby help mitigate some of the headwinds facing that sector. In announcing this decision, we also indicated that we would continue purchasing MBS, undertake additional purchases of longer-term securities, and employ our other policy tools until we judge that the outlook for the labor market has improved substantially in a context of price stability.

Although it is still too early to assess the full effects of our most recent policy actions, yields on corporate bonds and agency MBS have fallen significantly, on balance, since the FOMC’s announcement. More generally, research suggests that our previous asset purchases have eased overall financial conditions and provided meaningful support to the economic recovery in recent years.

In addition to announcing new purchases of MBS, at our September meeting we extended our guidance for how long we expect that exceptionally low levels for the federal funds rate will likely be warranted at least through the middle of 2015. By pushing the expected period of low rates further into the future, we are not saying that we expect the economy to remain weak until mid-2015; rather, we expect—as we indicated in our September statement—that a highly accommodative stance of monetary policy will remain appropriate for a considerable time after the economic recovery strengthens.In other words, we will want to be sure that the recovery is established before we begin to normalize policy.

Rationale for buying Treasuries

A footnote to the published text of Bernanke’s speech noted specifically that his policy of purchasing Treasuries helps reverse the flight to Treasuries from riskier assets.

“One way in which our asset purchases affect the economy is through the so-called portfolio balance channel. Because different classes of financial assets are not perfect substitutes in investors’ portfolios, changes in the supplies of various assets available to private investors may affect the prices and yields of those assets.

“Thus, the Federal Reserve’s purchases of Treasury securities, for example, should raise the prices and lower the yields of those securities; moreover, as investors rebalance their portfolios by replacing the Treasury securities sold to the Federal Reserve with other assets, the prices of those other assets should rise and their yields decline as well.

“An increase in our asset purchases may also act as a signal that we intend to pursue a persistently more accommodative policy stance than previously thought, thereby lowering investors’ expectations for the future path of the federal funds rate and putting additional downward pressure on longer-term interest rates.”

MetLife’s VA Sales are Missed

Posted on November 21, 2012 by Kerry Pechter -

At $54.3 billion, sales of all types of annuities were down 10% in the 3Q 2012 from the same period in 2011. As of September 30, annuity sales totaled $166.1 billion, down 8% year over year, according to LIMRA’s third quarter 2012 U.S. Individual Annuities Sales survey.

LIMRA research director Joe Montminy attributed the decline to the Fed’s low-interest policy. “Protracted low-interest rates have impacted all lines of the annuity business, causing manufacturers to reassess their exposure among various product lines,” he said.

“The sustained uncertain economic environment has many companies implementing conservative risk management strategies in an effort to prudently manage their business,” he added.

Variable annuity sales in the third quarter totaled $36.6 billion, down 8% from the same period in 2011. Year-to-date, VA sales were $112 billion, a decline of 7% from the prior year. The top 20 issuers accounted for 93% of sales. LIMRA’s report represents data from 95% of annuities issuers. (See LIMRA chart below.)

The decline in VA sales doesn’t so much reflect lack of demand as lack of capacity on the part of issuers. Having been torched for an estimated $3 billion in losses on broken hedges during the financial crisis, according to Deutsche Bank, VA issuers are searching for ways to accommodate more Boomer retirement risk without capsizing themselves.

Some companies are keeping hedge costs down on new products by using volatility-controlled funds as mandatory investment choices for contract owners who buy guaranteed lifetime withdrawal benefit riders. Other firms have their hands full hedging the risks on the billions of dollars worth of VA products they’ve already sold.

The impact of their latest strategies may not be felt until next year. “While leading VA writers have announced they are making adjustments to their book of business, LIMRA believes the total impact of these decisions has not fully reached the market,” the LIMRA release said.

The difference is MetLife

About 80% of the $9 billion difference in 3Q YTD VA sales between 2011 and 2012 can be accounted for by the drop in MetLife sales alone. The company had announced its intention to moderate sales this year after leading all VA issuers in 2011 with $28.4 billion.

MetLife has sold $14.1 billion for the year, as of September 30. That was a large number, of course, and represented more than 10% of all sales this year. But in the first nine months of 2011, MetLife sold $21.2 billion.

In 2011, MetLife’s VA sales soared on the increased generosity of its GMIB Max product. Then the company reduced the benefits in the face of Fed low-interest policy, and this year MetLife CEO Steven Kandarian said the insurer would limit its 2012 VA sales to $18 billion to reduce risk.

At the time, some observers wondered if the pursuit of high sales and the subsequent pullback were parts of a deliberate long-range strategy by MetLife. But it may not have been. As one MetLife manager told RIJ privately, “People lost their jobs over [GMIB Max].”

On the other hand, all of the other top-five variable annuity issuers from 2011—Prudential, Jackson National, TIAA-CREF and Lincoln Financial—appear on track to equal or surpass their 2011 VA sales in 2012.

Through nine months of 2012, Prudential had sold $16.2 billion, Jackson National $15.3 billion, TIAA-CREF $10.7 billion and Lincoln Financial $7.3 billion. A year ago, they had sold $15.8 billion, $13.7 billion, $10.1 billion and $7.2 billion, respectively.

The makeup and order of the 20 leading VA issuers has changed slightly this year. At this time in 2011, Sun Life was the 13^th largest issuer; it exited the business and doesn’t appear on LIMRA’s latest Top 20 list. John Hancock, which sold $1.46 billion in the first nine months of 2011, sold only $660 million in the first nine months of 2012.

While some are fading, others are rising. Guardian Life, which was 20^th a year ago with $793.8 million in sales through the first nine months of 2011, is now 17^th with $1.15 billion. Principal Financial, absent from the YTD 3Q 2011 list, was 20^th on the YTD 3Q 2012 list, with $622.8 million in sales.

Here come the DIAs

The fastest-growing product in the annuity industry this year has been the deferred income annuity (DIA). Sales have grown steadily in 2012, from $160 million in the first quarter to $210 million in the second quarter and $270 million in the third quarter of 2012, LIMRA said.

Sales of single premium immediate annuities (SPIAs), at $2.0 billion, were down 9% compared to one year ago, but were up slightly from the second quarter of 2012. In the first nine months of 2012, SPIA sales declined 8% compared with the prior year period.

Fixed indexed annuities (FIA) have continued to boom, relatively speaking, thanks largely to their guaranteed lifetime withdrawal riders (GLWB). LIMRA estimates that 88% of indexed annuities sold offer a GLWB option.

FIA sales were strong in the third quarter at $8.7 billion, primarily due to new companies like Security Benefit ($2.13 billion in total fixed annuity sales in first nine months of 2012) performing well in the market, LIMRA As of September 30, indexed annuity sales were up 6% year over year, at $25.4 billion. LIMRA expects another record sales year for FIAs in 2012.

Because of low yields, however, total fixed annuity sales remained bleak, falling 13% in the third quarter to levels not seen since early 2007. Fixed-rate deferred annuities (book value and market value adjusted) fell precipitously in the third quarter, down 26% from the third quarter of 2011.

Book value sales sank 28% in the third quarter to $5.0 billion. Market-value adjusted (MVA) sales were $1.0 billion, down 17%. For the year, book value and MVA declined 31% and 13% respectively. Fixed-rate deferred product sales are at the lowest level since the late 1990s.

Data Connection

Lists*