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Falling rates drove up pension liabilities in July: BNY Mellon

Posted on August 8, 2012 by -

The funded status of the typical U.S. corporate pension plan in July fell 2.9 percentage points to 68.7%, according to BNY Mellon, It was the lowest level since the company began tracking pension funded status in December 2007. 

“A 34 basis-point drop in the Aa corporate discount rate, to 3.64%, led to a 5.5% increase in pension liabilities,” the bank said in a release.

 The rise in liabilities overwhelmed a 1.2 gain in assets at the typical corporate plan, according to the BNY Mellon Pension Summary Report for July 2012. The funded status of the typical plan has now fallen 3.7 percentage points during 2012.

Assets in the typical plan benefited from a one percent gain in U.S. equity markets and a 1.1% increase in international developed markets, according to BNY Mellon.

“The continuing uncertainty regarding the euro zone and lack of a coordinated response to the debt issues in Europe continue to send investors into bonds that are perceived to be a safe haven,” said Jeffrey B. Saef, managing director, BNY Mellon Asset Management. “As long this uncertainty remains, we expect to see very low interest rates, which will continue to pressure plan sponsors.”

Saef also noted that portfolios for plan sponsors have performed well, with assets rising more than seven percent during the first seven months of the year for the typical U.S. corporate plan.  However, he added, “Hitting a return target isn’t enough these days if you’re not keeping up with the growth in liabilities.”

© 2012 RIJ Publishing LLC. All rights reserved.

Washington freeze chills the whole economy

Posted on August 8, 2012 by -

The pervasive sense that manufacturers are not investing or hiring this summer because of uncertainty—about the presidential election, the automatic spending reductions associated with the impending “fiscal cliff,” and the potential end of the Bush-era tax cuts in January—was documented in an article Monday in the New York Times.

The Times interviewed several executives who confirmed that industry is waiting for clear signals from Washington before placing any bets on the future.

“We’re in economic purgatory,” said Alexander M. Cutler, the chief executive of Eaton, a big Ohio maker of industrial equipment like drive trains and electrical and hydraulic systems. “In the nondefense, nongovernment sectors, that’s where the caution is creeping in. We’re seeing it when we talk to dealers, distributors and users.”

At Siemens, CFO Joe Kaeser said the German industrial giant has been slow to fill openings among its 60,000-member work force in the United States, while delaying some new investments and capital expenditures. “We would expect volatility till after the election and the fiscal cliff is sorted out,” he said.

“The fiscal cliff is the primary driver of uncertainty, and a person in my position is going to make a decision to postpone hiring and investments,” Timothy H. Powers, CEO of Connecticut-based electrical products maker Hubbell Inc., told the Times. “We can see it in our order patterns, and customers are delaying. We don’t have to get to the edge of the cliff before the damage is done.”

The Times cited data that reflect the slowdown. The annual rate of economic growth in the second quarter fell to 1.5% from 2% in the first quarter, and 4.1% in the last quarter of 2011, it reported. Labor market data showed job creation still falling short of the level needed to bring down the unemployment rate. On Thursday, the Commerce Department reported that factory orders unexpectedly fell 0.5% in June from the previous month.

A survey by Morgan Stanley in July showed that more than 40% of companies polled cited the fiscal cliff as a major reason for their spending restraint, according to Vincent Reinhart, chief U.S. economist at the bank. “Economists generally overstate the effects of uncertainty on spending, but in this case it does seem to be significant,” he told the Times. “It’s at the macro- and microeconomic levels.”

Unless Congress acts to extend the tax provisions and agrees on a budget that averts the planned reductions in spending on military and other programs, taxes will rise by $399 billion while federal government spending will fall by more than $100 billion, according to the Congressional Budget Office.  

The fiscal cliff’s total impact equals slightly more than $600 billion, or 4% of GDP. The Congressional Budget Office projects that, if no action is taken, the economy will shrink by 1.3% in the first half of 2013 as a result.

Last week, Congressional agreed tentatively to keep the government financed through next March, extending a deadline that had been set to expire Oct. 1, but that deal did not address the extension of the tax cuts or spending reductions.

© 2012 RIJ Publishing LLC. All rights reserved.

Bond guru to Wall St.: “You didn’t build that”

Posted on August 8, 2012 by -

William Gross, chief investment officer of PIMCO, and the undisputed king of active bond fund management in the U.S., used his latest column to assert that the equity market gains of the last several decades simply cannibalized other sectors of the economy and didn’t create new wealth.   

Asserting that there’s no other way to explain how average stock returns could be double the average growth of the economy for the past several decades, Gross argued that equities have outpaced GNP mainly because of falling tax rates and declining real wages.

“Economists will confirm that not only the return differentials within capital itself (bonds versus stocks to keep it simple) but the division of GDP between capital, labor and government can significantly advantage one sector versus the other… [R]eal wage gains for labor have been declining as a percentage of GDP since the early 1970s, a 40-year stretch which has yielded the majority of the past century’s real return advantage to stocks,” Gross wrote.

“Labor gaveth, capital tooketh away in part due to the significant shift to globalization and the utilization of cheaper emerging market labor. In addition, government has conceded a piece of their GDP share via lower taxes over the same time period. “Corporate tax rates are now at 30-year lows as a percentage of GDP and it is therefore not too surprising that those 6.6% historical real returns [of equities] were 3% higher than actual wealth creation for such a long period.”

© 2012 RIJ Publishing LLC. All rights reserved.

Are boomers doomed to live in trailers, clip coupons and eat dandelion leaves?

Posted on August 8, 2012 by -

More than one-third (34%) of defined contribution plan participants either “guessed” or “made up” estimates for the income they will need in retirement and only 30% said they consulted an advisor about retirement income planning, according to a survey of 3,370 participants by Diversified, a retirement plan administrator.

Almost 70% said their employer-sponsored DC plan was their only or primary retirement account. More than half (54%) said they had less than $100,000 saved for retirement, even though more than half were age 46 or older and earned at least $75,000. About one-third (37%) had less than $50,000 saved.

Only three percent said they saved $1 million or more. In other survey findings:

  • 61% said they were saving 10% a year or less of their annual salary
  • 25% said they were saving 5% a year or less.  
  • 19% said they were saving more than 15% annually.
  • 38% said they had increased their savings rate.
  • 11% said they took a loan against their DC plan over the past year.
  • 3% said they took a hardship withdrawal.

The survey was conducted via email by Diversified in the first quarter of 2012 among 3,370 defined contribution plan participants in plans administered by a wide variety of organizations.

Like some other recent surveys of plan participants, however, the news release about the survey didn’t say how many of the participants have working spouses who might have their own defined contribution savings accounts and their own Social Security.
Diversified provides customized retirement plan administration, participant communication and open architecture investment solutions for mid- to large-sized organizations.

© 2012 RIJ Publishing LLC. All rights reserved.

An Annuity Fee Record with an Asterisk

Posted on August 8, 2012 by -

Fee income from annuity sales at banks rose 4.5% to a quarterly record high of $781.7 million in the first quarter of 2012, compared with $748.2 million in the first quarter of 2011, according to the Michael White-ABIA Bank Annuity Fee Income Report. 

But all of the increase, and then some, came from the $61.0 million and 15.6 million in fees reported for the first time by Raymond James Financial, Inc., and from thrift holding companies, respectively. Without their contributions, the fee total would have been almost 10% lower. 

Wells Fargo & Company (CA), Morgan Stanley (NY), JPMorgan Chase & Co. (NY), Raymond James Financial, Inc. (FL), and Bank of America Corporation (NC) led all bank and thrift holding companies in annuity commission income in first quarter 2012. Institutions with $10 billion or more in assets earned over 90% of annuity sales fees. Morgan Stanley experienced a 48% increase in annuity fee income in the quarter. The report did not explain the reason for that anomalous jump.

Compiled by Michael White Associates (MWA) and sponsored by American Bankers Insurance Association (ABIA), the report is based on data from all 7,307 commercial banks, FDIC-supervised banks and savings associations (thrifts), and 1,074 large top-tier BHCs and THCs operating on March 31, 2012. 

Thrifts and THCs began reporting annuity fee income for the first time in first quarter 2012.  Several THCs and a BHC that are historically and traditionally insurance underwriting operations have been excluded from the report.

Far fewer top-tier bank and thrift holding companies achieved double-digit growth in annuity fee in 1Q 2012 and than in 1Q 2011. “Of 412 large top-tier BHCs and THCs reporting annuity fee income in first quarter 2012, 178 (43.2%) were on track to earn at least $250,000 this year,” said Kevin McKechnie, executive director of the ABIA.

“Of those 178 BHCs, 71 (39.9%) achieved double-digit growth in annuity fee income for the quarter. That’s nearly a 22-point decline from first quarter 2011, when 116 institutions or 63.4% of 183 of those on track to earn at least $250,000 in annuity fee income achieved double-digit growth.  Those findings are troublesome, particularly since they follow the significant slide in fourth quarter 2011 annuity income we previously reported.”

Of 1,078 BHCs and THCs, 412 (38.4%) participated in annuity sales activities during first quarter 2012.  Their $781.7 million in annuity commissions and fees constituted 14.0% of their total mutual fund and annuity income of $5.6 billion and 30.1% of total BHC and THC insurance sales volume (i.e., the sum of annuity and insurance brokerage income) of $2.60 billion. 

Of 7,307 banks and thrifts, 873 or 12.0% participated in first-quarter annuity sales activities.  Those participating banks and thrifts earned $180.5 million in annuity commissions or 23.1% of the banking industry’s total annuity fee income. The annuity production of banks and thrifts was down 11.6% from $204.2 million in first quarter 2011.

Sixty-seven percent (67.1%) of BHCs and THCs with over $10 billion in assets earned first-quarter annuity commissions of $736.9 million, constituting 94.3% of total annuity commissions reported by the banking industry.  Aided by the contribution of new BHC Raymond James Financial, Inc. (FL), this total was an increase of 4.0% from $708.3 million in annuity fee income in first quarter 2011.  Among this asset class of largest BHCs, annuity commissions made up 14.9% of their total mutual fund and annuity income of $4.96 billion and 31.8% of their total insurance sales revenue of $2.32 billion in first quarter 2012.

BHCs with assets between $1 billion and $10 billion recorded an increase of 8.9% in annuity fee income, growing from $33.8 million in first quarter 2011 to $36.9 million in first quarter 2012 and accounting for 17.5% of their total insurance sales income of $210.8 million.  BHCs with $500 million to $1 billion in assets generated $7.84 million in annuity commissions in first quarter 2012, up 28.1% from $6.12 million in first quarter 2011.  Only 27.8% of BHCs this size engaged in annuity sales activities, which was the lowest participation rate among all BHC asset classes. Among these BHCs, annuity commissions constituted the smallest proportion (11.4%) of total insurance sales volume of $68.6 million.

Among BHCs and THCs with assets between $1 billion and $10 billion, leaders included Stifel Financial Corp. (MO), SWS Group, Inc. (TX), National Penn Bancshares (PA), Old National Bancorp (IN), and First Citizens Bancorporation, Inc. (SC).  Among BHCs and THCs with assets between $500 million and $1 billion, leaders were First Command Financial Services, Inc. (TX), Liberty Shares, Inc. (GA), Nodaway Valley Bancshares, Inc. (MO), Nutmeg Financial MHC (CT), and Banctenn Corp. (TN). 

The smallest banks and thrifts, those with assets less than $500 million, were used as “proxies” for the smallest BHCs and THCs, which are not required to report annuity fee income.  Leaders among bank proxies for small BHCs were Essex Savings Bank (CT), Seneca Federal Savings and Loan Association (NY), FNB Bank, N.A. (PA), The Hardin County Bank (TN), and The Bennington State Bank (KS).

Among the top 50 BHCs nationally in annuity concentration (i.e., annuity fee income as a percent of noninterest income), the median Annuity Concentration Ratio was 7.2% in first quarter 2012.  Among the top 50 small banks and thrifts in annuity concentration that are serving as proxies for small BHCs and THCs, the median Annuity Concentration Ratio was 16.0% of noninterest income.

© 2012 RIJ Publishing LLC. All rights reserved.

A New NEST for British Nest-Eggs

Posted on August 8, 2012 by -

The fact that 45% of American workers have no access to an employer-sponsored retirement plan has troubled U.S. policy wonks for years. But proposed solutions to the problem, such as the so-called automatic-IRA, have run into government gridlock. 

In Britain, where even a smaller percentage of workers have DC plans at work, the story has played out differently.

Since before the turn of the millennium, as British employers abandoned DB plans, the government has tried to broaden DC plan coverage.  In 2001, a voluntary plan, called the Stakeholders Pension, was a flop. In 2002, a national commission was formed and spent almost 10 years crafting a national auto-enrolled DC policy and legislation that ultimately yielded the National Employment Savings Trust, or NEST, a DC “public option.” The legislation also requires all qualified plan sponsors to use auto-enrollment.

NEST was introduced on a voluntary basis to employers and workers in July 2011. Starting in October 2012, the new policies go into full effect. All qualified DC plans in the U.K. will start practicing auto-enrollment. Workers who have no private plan option will be auto-enrolled into NEST.

“We went live in July of last year, and we have over 100 employers working with us now,” said Helen Dean, a NEST managing director in London, in an interview with RIJ. “NEST is very simple to use. All people need to know is the date they want to retire. We compare it to driving a car. You can drive a car without understanding what’s going on under the bonnet.”

In the first of two articles on NEST, RIJ takes a look at how NEST works, and how it resembles and differs from American-style defined contribution plans. While some of NEST’s features might be transferable to the U.S., others—like mandatory employer contributions—would likely face stiff opposition. Next week, in the second installment, we’ll look at how NEST evolved and how it manages participants’ money.  

How the U.K. does retirement

To understand how NEST works, you have to understand a little about the British retirement system. As in the U.S., there’s been a hodgepodge of legacy defined benefit plans, privately provided defined contribution plans and annuities, and government-sponsored attempts to provide IRA-like vehicles to workers who have no other plan.

To sponsor a qualified (tax-deferred) plan under auto-enrollment, the employer must contribute at least 3% of pay per year and each participant must contribute at least 4% of pay, with another 1% coming in tax relief from the government. Unlike in the U.S., British DC providers can choose to enroll some employees but can turn away others. Hence, many employees remain uncovered even when the employer offers a plan.

In retirement, the U.K. government regulates the drawdown of assets, requiring everyone to buy a life annuity by age 75 with their remaining tax-deferred assets (they can cash out up to 25% tax-free at retirement) unless they can demonstrate income of at least £20,000 a year (about $35,000)—from other sources. The U.K. state pension is less robust than Social Security, involves means-testing, and may soon convert to a flat $800-a-month stipend.

NEST is aimed at the 50% or so of U.K. workers who are not currently offered a defined contribution. The NEST target audience includes young people and minorities who save little and in many cases don’t understand the basics of investing or finance. Starting in October, unless their employer offers them a qualified plan, they will be auto-enrolled into NEST and, unless they choose another option, defaulted into a target-date fund.

“Every employer has to offer a pension plan,” Dean (at right) told RIJ. “The employer could use NEST or a private plan,” she said. “It’s up to the employer to decide what to use NEST for. We will not turn any employer away who wants to use us. We don’t intend to compete with private plans but to complement them. Helen Dean

“What’s happening is that smaller employers are choosing to just use NEST, while the bigger employers are using a combination of NEST and a private plan. In companies where there’s a high level of turnover and people don’t stay a long time, employers might think it’s better to use NEST” because of its portability from one employer to another, she added.

“Anybody who has a qualifying plan—if the employee is contributing at least 5% of pay and the employer is contributing 3%—can keep their plan,” Dean said. “But every employer in the U.K. will be making a choice between using their own scheme, NEST, or a combination of the two—with different ones for different segments of the workforce.”

How NEST differs from 401(k)

NEST would probably not fly in the U.S., except perhaps among U.S. government employees, since it was modeled in part on the federal Thrift Savings Plan. It includes a number of restrictions that are not unusual for Britain but which American employers and employees alike would probably find restrictive and paternalistic.

But the British, many of whom had defined benefit pensions until relatively recently, don’t seem to mind DC with DB-like guardrails. More importantly, the British government is said to be serious about getting people to save more, partly because the state pension alone is deemed inadequate.

Here are a few of the ways NEST differs from U.S.-style DC plans: 

Persistent auto-enrollment. Starting in October, British workers will start being auto-enrolled in whatever defined contribution plan, including private plans and NEST, that their employer offers.  They can unenroll from the plan but they will be automatically re-enrolled every three years.

Mandatory contributions. NEST, like all qualified plans in the U.K., will involve mandatory contributions from both employers and participants. For private plans, the current minimum contributions, as mentioned above, are 3% for employers and 4% for participants. The government kicks in another 1% for the tax savings on the contributions. To ease the transition to auto-enrollment starting in October, contributions will start low (2% for employers and 1% for employees) and rise to the full 8% over time. This low starter rate applies to new private DC plan auto-enrollees as well as to NEST auto-enrollees. 

No withdrawals. Unlike Americans, the Brits can’t borrow from their DC plans and can’t take withdrawals for special needs such as education expenses, a down payment on a home or medical bills. When they change jobs, they can’t take a lump sum withdrawal, pay the tax (and penalty, in some cases), and spend it, as Americans can. There’s no U.K. counterpart to a rollover IRA. The earliest age at which British participants can access their money is age 55, but most don’t take distributions until they qualify for a state pension, which occurs at age 65 but will eventually climb to 68.        

Centralized investment management. NEST participants have personal accounts, but they don’t manage them directly. The default investment is a target date fund made up of five or six underlying funds. NEST hired Tata Consultancy Services, the India-based global IT firm, to administer the plan. State Street Global Advisors has a 10-year contract to administer the investment funds. The managers of the underlying funds are State Street, BlackRock, UBS, HSBC, F&C Investments, and Royal London Asset Management.

Target date funds with big differences. There are 45 different target date funds in NEST, one for each year that participants will retire. (In the U.S., of course, target-date funds are dated in five-year intervals.) The organizers of NEST intend to manage the funds very conservatively. Unlike target date funds in the U.S., where the equity allocation tends to be very high in the early years and to remain substantial even after retirement, NEST TDFs owned by 20-somethings will be highly conservative at the beginning, and will hold zero equities at the retirement date. Each account will go through three phases: a cash-preservation Foundation phase that lasts for up to five years, a long Growth phase, and then a Consolidation phase that starts about 10 years before retirement. The lines between phases may blur, because fund managers will actively manage asset allocations to avoid adverse timing.

Ultra-low fees. The ongoing all-in investment and administration fee load for NEST participants is only 30 basis points. For the first few years, participants will pay a 1.8% front-end load to help reimburse the British Treasury for lending NEST its startup funds.  

A different audience. The typical NEST participant is expected to be under age 35 and earning the equivalent of about $27,000 a year. Members of ethnic minorities will represent a large percentage. Most have little knowledge of saving or investing and NEST’s own surveys show that 37% are risk-averse. Many are excluded from participating in their employer’s private DC plan. In the U.S., 401(k) anti-discrimination regulations require plan sponsors to ensure that coverage is universal and participation is broad-based. The U.K. has no anti-discrimination laws that apply to DC plans. The NEST target audience has a counterpart in the U.S., however: the millions of American workers who have no access to an employer-sponsored retirement plan.   

Next week: How NEST came to be, how it invests participants’ money, and why corresponding efforts in the U.S. haven’t made much progress. 

© 2012 RIJ Publishing LLC. All rights reserved.

The Mid-Point of a Trying Year

Posted on August 8, 2012 by -

Second quarter earnings reports came out last week, and, in their annuity businesses, the major publicly-held U.S. life insurers appear to be in scrape-the-rust and repair mode rather than a go-go marketing mode. Although their share prices picked up a bit in the last 10 days, they are way off their highs for the year, posted last March.

MetLife’s variable annuity sales were down 34% in the second quarter, year-over year, but lower sales and less risk exposure were exactly what MetLife, the 2011 market leader, awanted this year. Prudential has spent $1.5 billion over the past year repurchasing its own shares.

The ever-steady Lincoln Financial, with the unusual i4Life variable income annuity option on its deferred variable annuity , has seen increases in variable annuity sales versus 2012, but it and Allianz Life of North America have both taken big hits on fixed and fixed indexed annuity sales, respectively.  The Hartford, still in recovery mode and no longer manufacturing individual annuities, is unwinding its massive 2008 loan from Allianz SE.

All of these companies, at the least the ones that are U.S.-domiciled, experienced a run-up in share prices early last spring. But those prices, like the overall economy, lost steam over the summer and are now back where they were late last fall. at bargain levels, assuming that interest rates will eventually rise. MetLife has a P/E ratio of 6.53, Hartford of 7.57, Prudential of 8.78, and Lincoln Financial of 6.9. 

Here’s a summary of earnings reports from the companies mentioned above:

MetLife variable annuity sales down 34%

MetLife, Inc., today reported second quarter 2012 operating earnings of $1.4 billion on net income of $2.3 billion. Operating earnings were up 18% from 1.19 billion in the second quarter of 2011. The net income included $1.4 billion in after-tax derivative gains that do not have an economic effect on the company, a MetLife release said.

Variable annuity sales were $4.6 billion in the quarter, down 34% from the second quarter of 2011, and reflected MetLife’s decision to rein in its variable annuity exposure after setting records in 2011.

Operating earnings for MetLife’s retail businesses, which includes U.S. retail life insurance and annuities, were $380 million, up 14%, on premiums, fees and other revenues of $2.4 billion, up 3% from a year ago.  The increase was attributed to favorable investment margins, higher fees and lower expenses. Higher annuity fees were partially offset by lower income annuity and life sales.

MetLife’s stock closed at $33.20 last week, down from a 52-week peak of about $39.50 set in mid-March 2012.

Prudential buys back shares

Prudential Financial saw higher gross and net individual annuity sales in the first quarter of 2012 compared with the prior quarter, but operating income for the individual annuities segment fell by almost half.

Net income for the firm’s Financial Services Businesses was $2.203 billion for the second quarter of 2012. That figure included $1.9 billion in pre-tax gains from changes in the value of currency derivatives. Those gains were “largely offset by adjustments to comprehensive income which are not reflected in net income or loss,” the company said in a release.

In the second quarter of 2011, net income was $779 million. In the first quarter, the company reported a net loss of $988 million, thanks to a $1.5 billion charge for currency derivatives losses.

After-tax adjusted operating income for the Financial Services Businesses was $627 million for the second quarter of 2012, down from $773 million for the year-ago quarter and down from $741 million in the first quarter of 2012.

The Individual Annuities segment reported adjusted operating income of $107 million in the current quarter, down from $207 million in the year-ago quarter. Individual annuity account values were $124.1 billion at June 30, 2012, up 7% from a year earlier. Gross sales for the quarter were $5.4 billion and net sales were $3.7 billion, up from $5.0 billion and $3.2 billion, respectively, in the first quarter of 2012.

Retirement account values were $244.8 billion at June 30, up 11% from a year earlier. Total Retirement gross deposits and sales were $12.8 billion and net additions were $6.3 billion for the quarter. Asset Management segment assets under management were $650.2 billion at mid-year, up 11% from mid-2011.

The Retirement segment reported adjusted operating income of $147 million for the current quarter, compared to $171 million in the year-ago quarter. Overall, operating income for the entire U.S. Retirement Solutions and Investment Management division was $302 million for the second quarter of 2012, compared with $605 million in the year-ago quarter.

During the second quarter of 2012, Prudential repurchased 4.8 million shares of its common stock for $250 million, at an average price of about $52 per share. From July 2011 through June 30, 2012, Prudential bought back 28.6 million shares of its common stock for $1.5 billion.

Prudential’s share price, which peaked last March at over $68, faded to about $45 in late July before catching the latest rally and rising to $52 last week. Prudential is also still digesting its circa-$30 billion acquisition of General Motors pension obligations.

The Hartford pays down debt to Allianz SE and takes loss

Hartford Financial Group incurred a second quarter 2012 net loss of $678 million compared with a net loss of $151 million in the second quarter of 2011. The net loss in the second quarter of 2012 included a $587 million after-tax loss from reducing its debt to Allianz SE by $1.75 billion. Hartford borrowed the money during the October 2008 market meltdown.

 “We are making progress executing on our strategy to focus The Hartford on its historical strength in insurance underwriting. We announced the definitive agreement to sell Woodbury Financial Services yesterday and the sales process for Individual Life and Retirement Plans is proceeding as expected,” said CEO Liam E. McGee in a release.

Hartford, which has withdrawn from writing new annuities, saw a 15% decline in the account values of its U.S. annuity book, to $77.8 billion from $91.3 billion, largely as a result of surrenders and withdrawals.

Hartford Financial Group’s share price has fallen from almost $22 last March to $16.16 on August 2, before bouncing to just over $17 two days ago.

Lincoln Financial’s net income rises by 7% in 2Q 2012, year-over-year

Lincoln Financial Group, which prides itself on sales consistency, saw net growth in variable annuity deposits in the second quarter of 2012. But, thanks to the ongoing impact of low interest rates, its fixed annuities department suffered net outflows.

Variable annuity deposits of $2.4 billion were up 3% from the second quarter of 2011 and up 11% from the first quarter of 2012. Variable annuity net flows were $0.7 billion compared to $0.6 billion in the prior-year quarter. In 2Q 2012, the company “introduced a family of risk-managed Protected Funds that provide an attractive value proposition to clients and lower the risk profile to the company,” according to a release. 

Fixed annuity deposits of $445 million were down 22% from the second quarter of last year, as low interest rates continued to discourage sales. Fixed annuity net outflows were $32 million compared to net inflows of $134 million in the prior-year quarter. 

Overall, the annuities segment reported a combined income from operations of $158 million in the second quarter of 2012, including a positive DAC adjustment of $5 million, compared to $145 million in the prior-year quarter. 

As a company, Lincoln Financial reported net income for the second quarter of 2012 of $324 million, up about 7% from $304 million in the second quarter of 2011. Income from operations was $322 million for the period, down slightly from $326 million in the second quarter of 2011. 

Share prices of Lincoln National Corp., the parent of Lincoln Financial, hit a 2012 peak of $27.10 last March but recently closed at about $22.43, surging 15% from $19.29 on July 26. It has benefited from an overall equities rally over the past two weeks, which saw the Dow Jones Industrial Average rise about 500 points and the S&P 500 rise about 60 points.

Allianz Life operating profits up 21% in first half of 2012

Allianz Life of North America, which dominates the fixed indexed annuity market in the U.S., saw a 15% drop in FIA premium in the first half of 2012, to $2.9 billion, compared with the first half of 2011. Variable annuity premium of $2.0 billion was virtually unchanged over the same period.

The release did not include Allianz Life’s quarterly results.

Overall, Allianz Life saw a 21% increase in operating profit in the half of this year, as profits rose to $381 million from $315 million in the same period in 2011. Total assets under management grew 9% in the first half of 2012, to $99.6 billion, compared with the first half of 2011. The Minneapolis-based firm is a unit of Allianz SE, the German financial conglomerate.

“Sustained customer balances coupled with positive investment returns generated this growth,” the company said in a release. New product offerings helped cement the company’s position as the top fixed index annuity provider in the U.S., according to AnnuitySpecs.com.

The low interest environment kept a lid on new annuity sales, and total annuity premiums fell to $5.2 billion in the first half of 2012 compared with $5.6 billion the first half of 2011. Fixed annuity premium of $2.9 billion was down 15% year-to-date compared to 2011 and variable annuity premium of $2.0 billion was flat. Sales of life insurance more than doubled, to $31 million, for the first half, year-over-year.   

© 2012 RIJ Publishing LLC. All rights reserved.

Employment gains not likely without further stimulus: TrimTabs

Posted on August 1, 2012 by -

TrimTabs Investment Research estimates The U.S. economy added an estimated 115,000 jobs in July, a 53% increase from its estimate of 75,000 new jobs in June, but down 7.3% from its estimate of 124,000 jobs in May, according to a release from TrimTabs Investment Research. U.S. Bureau of Labor Statistics (BLS) is expected to report July job growth of 90,000 on Friday, the release added.

“We are unlikely to see any significant improvements in the job market without further government stimulus,” said Madeline Schnapp, TrimTabs director of macroeconomic research.

TrimTabs bases its employment estimates on an analysis of daily income tax deposits to the U.S. Treasury from all salaried U.S. employees.  These estimates are historically more accurate than initial estimates from the BLS.

Although the U.S. economy has created an average of 105,000 new jobs a month over the past three months, job growth is not strong enough to significantly reduce the nation’s unemployment rate or boost economic growth, TrimTabs said, pointing out that the economy needs to create a minimum of 150,000 jobs per month to absorb all the new people entering the labor force. TrimTabs expects the unemployment rate to remain above 8%.

“Since consumption is now 71% of GDP growth, the lack of jobs is having a negative impact on disposable income, which is pulling down economic growth,” Schnapp said.

In a research note, TrimTabs points to several real-time indicators signaling sluggish economic growth for the foreseeable future:

  • According to real-time tax-withholding data, wages and salaries rose 3.1% year-over-year in July, up from 2.8% in June but down from an average 3.6% in April and May. Taking inflation into account, real wage and salary growth is just 1.4% year-over-year.  In a moderate economic growth environment, real wage and salary growth should be 3%-4%.
  • The TrimTabs Online Job Postings Index declined 1.5% in July and is down 2.4% over the past three months. This index gained 6.6% over the same time period in 2011.  
  • Initial unemployment insurance claims have been volatile since the week of the 4th of July due to elevated seasonal adjustments.  Taking a longer-term view, the unemployment insurance claims trend remains elevated and has returned to mid-March levels.  The lack of improvement in this indicator suggests that growth in the labor market has stalled.   

The Bucket

Posted on July 31, 2012 by -

Symetra forms team to support new variable annuity sales

Symetra Life Insurance Company has formed a wholesaling team to represent the company’s registered investment products, including Symetra True Variable Annuity, which launched on June 18, 2012.    

The team will focus on sales to fee-based and fee-only advisers. Industry veterans who recently joined the Symetra team include:

  • Dinah Bird, Ph.D., who was one of the original wholesalers of iShares exchange-traded funds at Barclays Global Investors. She earned a doctorate and master’s degree at Claremont Graduate School, a master’s degree at Texas Tech University and a bachelor’s degree at Southwest Texas University. She holds the CFP and CIMA designations, Kentucky life and health insurance license, and NASD Series 6, 7, 24, 26, 63, 65 and 79 licenses. She is also Symetra’s senior investment specialist for Ohio, Michigan, Indiana and Kentucky.
  • Jeffrey Jennings, who recently served as vice president, regional marketing director at Sun Life Financial in San Francisco where he was responsible for traditional and fee-based annuity sales through independent broker-dealers. He previously held regional vice president and account management positions at Guardian Investor Services and Hartford Financial Services. Jennings is a graduate of the University of Colorado, Boulder and holds NASD Series 6, 26 and 63 licenses. He is Symetra’s senior investment specialist for Northern California and the surrounding area.
  • James Maertz, who joins Symetra from Hartford Mutual Funds, where he was a regional vice president. He earned a bachelor’s degree at San Diego State University and holds NASD Series 6 and 63 licenses. Maertz is Symetra’s senior investment specialist for Southern California and the surrounding area.

Managing volatility a key problem for retirement advisors: Natixis  

Most financial advisors (81%) say it’s challenging to effectively manage volatility and generate sufficient income for clients already in retirement in 2012, nearly all advisors (95%) are confident that their current investment strategies will help clients better meet retirement income needs, according to a survey sponsored by Natixis Global Asset Management (NGAM).

According to the survey, eight in 10 advisors also say clients continue to be concerned about the “long-term durability” of their assets, including meeting their retirement income goals, outliving their assets (81%) and continuing declines in value of the real estate they own (59%).

Four in five advisors (81%) also reported that it will be difficult to effectively manage volatility risk for those in retirement, with four in ten advisors (41%) finding it “extremely difficult.”

In the area of public policy, 81% of advisors oppose proposals in Washington to scale back retirement savings incentives for 401(k) plans.

The retirement data is part of a study distributed by NGAM through its Durable Portfolio Construction Research Center, and are based on a nationwide survey of 163 advisors at 150 advisory firms whose firms collectively manage about $670 billion in assets.

Allianz Life promotes Emily Reitan

Allianz Life Insurance Company of North America has promoted Emily Reitan to a new role as senior director of Strategy and Business Development. She will be responsible for Allianz Life’s market and business development strategy, marketing planning and the company’s retirement strategy, and report to Nancy Jones, Allianz Life’s chief marketing officer. 
Prior to this, Reitan was director of executive projects where she managed the office of the CEO and reported to president and CEO Walter White and his predecessor, Gary C. Bhojwani. Prior to that, Emily was the chief financial officer for Questar Capital, a subsidiary of Allianz Life, responsible for modeling, business planning, regulatory reporting and audits. Before joining Allianz Life in 2005, Reitan was a senior financial analyst for Cardinal Health based in San Diego, Calif.
Reitan received a BA in economics and political science from the University of Puget Sound in Tacoma, Wash. She also earned an MA in international economic policy from American University in Washington, D.C. Reitan is a Financial and Operations Principal and holds FINRA Series 7, 24, and 27 registrations.

Fidelity to fund research on employee stock purchase plans

Fidelity Investments will sponsor a research fellowship at Rutgers University’s School of Management and Labor Relations “to help uncover emerging trends and issues regarding stock options, employee stock purchase plans, performance shares and other forms of equity compensation used by corporations to share ownership and capital income with employees,” the Boston-based fund company said in release.

Ilona Babenko, an assistant professor of finance in the W.P. Carey School of Business at Arizona State University, has been selected as the first recipient of the Fidelity fellowship. Babenko, who will begin her one-year research project this month, will explore why some workers do not invest in employee stock purchase plans (ESPPs). Rutgers University will provide her a $25,000 stipend funded by Fidelity.

The Fidelity Fellowship is one of 23 fellowships to be awarded by Rutgers this year as part of an equity compensation research program started in 2008 at the School of Management and Labor Relations.

Research fellowships are awarded to Ph.D. candidates and postdoctoral scholars who are studying employee ownership, profit sharing, stock options and related topics. They can reside at Rutgers or their home institution.

As part of her research, Babenko intends to survey groups of workers who don’t participate in ESPPs to determine the contributing factors such as financial illiteracy, unfamiliarity with stocks or personal financial constraints. She will also analyze what motivates employees to hold the company stock long-term versus selling soon after purchasing through the ESPP program. Finally, she will study whether employees who receive company stock through compensation plans tend to have higher participation in the equity markets and tend to make better financial decisions.

Fidelity is a major provider of stock plan administration services in the U.S. It services 230 employers nationwide, representing $125 billion in grant value and more than 1.5 million participants.

Genworth Financial announces 2Q 2012 results

Genworth Financial, Inc. has reported net income of $76 million, or $0.16 per diluted share, compared with a net loss of $136 million, or $0.28 per diluted share, in the second quarter of 2011. Net operating income2 for the second quarter of 2012 was $80 million, or $0.16 per diluted share, compared with a net operating loss of $113 million, or $0.23 per diluted share, in the second quarter of 2011.

“Total net operating income increased both year over year and sequentially, with substantial improvement in Global Mortgage Insurance results partly offset by declines in Insurance and Wealth Management,” said Martin P. Klein, acting chief executive officer and chief financial officer. “In long term care, we are implementing significant rate actions and product changes as part of a company-wide focus on improving business performance, which is key in achieving our longer term goals and objectives as a company.”

Managing volatility a key problem for retirement advisors: Natixis

Posted on July 31, 2012 by -

Most financial advisors (81%) say it’s challenging to effectively manage volatility and generate sufficient income for clients already in retirement in 2012, nearly all advisors (95%) are confident that their current investment strategies will help clients better meet retirement income needs, according to a survey sponsored by Natixis Global Asset Management (NGAM).

According to the survey, eight in 10 advisors also say clients continue to be concerned about the “long-term durability” of their assets, including meeting their retirement income goals, outliving their assets (81%) and continuing declines in value of the real estate they own (59%).

Four in five advisors (81%) also reported that it will be difficult to effectively manage volatility risk for those in retirement, with four in ten advisors (41%) finding it “extremely difficult.”

In the area of public policy, 81% of advisors oppose proposals in Washington to scale back retirement savings incentives for 401(k) plans.

The retirement data is part of a study distributed by NGAM through its Durable Portfolio Construction Research Center, and are based on a nationwide survey of 163 advisors at 150 advisory firms whose firms collectively manage about $670 billion in assets.

© 2012 RIJ Publishing LLC. All rights reserved.

Managing volatility a key problem for retirement advisors: Natixis

Posted on July 31, 2012 by -

Most financial advisors (81%) say it’s challenging to effectively manage volatility and generate sufficient income for clients already in retirement in 2012, nearly all advisors (95%) are confident that their current investment strategies will help clients better meet retirement income needs, according to a survey sponsored by Natixis Global Asset Management (NGAM).

According to the survey, eight in 10 advisors also say clients continue to be concerned about the “long-term durability” of their assets, including meeting their retirement income goals, outliving their assets (81%) and continuing declines in value of the real estate they own (59%).

Four in five advisors (81%) also reported that it will be difficult to effectively manage volatility risk for those in retirement, with four in ten advisors (41%) finding it “extremely difficult.”

In the area of public policy, 81% of advisors oppose proposals in Washington to scale back retirement savings incentives for 401(k) plans.

The retirement data is part of a study distributed by NGAM through its Durable Portfolio Construction Research Center, and are based on a nationwide survey of 163 advisors at 150 advisory firms whose firms collectively manage about $670 billion in assets.

© 2012 RIJ Publishing LLC. All rights reserved.

GDP growth rate of 2.8% predicted for 4Q 2012: Prudential

Posted on July 31, 2012 by -

Thanks to a slowdown in spending by consumers, businesses and government, the U.S. economy barely registered a pulse in 2Q 2012, according to the latest report from John Praveen, chief investment strategist of Prudential International Investments Advisors.

Concern over the economic slowdown, complicated by the pressure of the impending presidential election, is likely to compel the Fed to announce another round of qualitative easing at its August or September meeting, Praveen wrote.

Indeed, Praveen says, there’s plenty to worry about in the near future, including the approach of the so-called “fiscal cliff” and the unresolved sovereign debt crisis in Europe. But he expects U.S. growth to rise in the second half of 2012, predicting an annualized GDP rate of 2.8% in the fourth quarter.

Highlights of the report included:

  • U.S. GDP growth decelerated to 1.5% QoQ annualized pace in Q2, in line with expectations, slowing from 2% GDP growth in Q1 (revised from 1.9%) and 4.1% in Q4 2011 (revised from 3%).  On an annual basis, GDP growth moderated to 2.2% YoY after 2.4% in Q1.
  • The slower pace of GDP growth in Q2 was due to the drag from weaker consumer spending and government spending. In addition, trade subtracted from growth with imports outpacing exports. However, GDP growth was boosted by solid business investment spending and housing as well as a rise in inventories.
  • U.S. Q2 GDP growth was driven by contributions from consumer spending (1.05%), business investment (0.54%), inventories (0.32%), and residential investment (0.22%). Meanwhile, the largest drags came from government spending (-0.28%) and net exports (-0.31%).
  • Consumer spending slowed to 1.5% pace in Q2 from the stronger 2.4% increase in Q1 and contributed 1% after the 1.7% contribution in Q1. Consumer spending was dragged lower by a sharp correction in durable goods spending (to -1% after 11.5% in Q1) mainly led by a decline in Autos. Services spending, the largest component of consumer spending, improved to 1.9% after 1.3% in Q1. Non-durable spending rose 1.5% after 1.6%.
  • Business investment spending growth slowed to 5.4% from 7.4%, but still added 0.5% to Q2 GDP growth. Equipment and software strengthened to 7.2%, but investment in structures weakened to 0.9% after the strong growth the past four quarters. However, residential investment grew 9.8%, slowing from 20.6% in Q1, but added only 0.2% to growth since it is a relatively smaller component of GDP. Inventories added 0.3% to growth after subtracting -0.4% in Q1.
  • Government spending contracted -1.4%, subtracting -0.3% from growth, after falling -3% in Q1. State and local spending sunk -2.1%, compared to a more modest -0.4% decline in Federal spending. Net trade subtracted -0.3% with exports adding 0.7%, but imports subtracting -1%. Exports grew 5.3%, while imports grew a stronger 6%.
  • U.S. Q2 GDP growth came in largely in line with current lowered expectations though sharply lower than expectation at the beginning of the Q2 (2.5%).  The details of the GDP report do not indicate that the economy is on track to slow further in coming quarters.  In addition, GDP growth for earlier two quarters has been modestly revised higher. However, the Q2 U.S. GDP growth slowdown is likely to increase the odds of the Fed undertaking QE3 at the August/September FOMC meetings. With the U.S. Presidential elections due in November, the window for Fed action is narrow, forcing the Fed to announce additional QE measures over the next two meetings to protect the economy from downside risks.
  • Looking ahead, U.S. GDP growth is likely to rebound modestly to around 2.2%, in Q3 and further to 2.8% in Q4. Consumption spending is likely to recover to over 2% in Q3 from the anemic pace in Q2 with support from lower oil prices and stabilizing financial markets. Business investment spending remains supported by solid profits and cash levels, but policy uncertainty going into the Presidential election is likely to dampen business spending. Trade is likely to remain a drag with Europe in recession and the dollar appreciation.  
  • Further, there are significant risks to the U.S. economy in late 2012 with the potential massive fiscal cliff of large spending cuts and tax increases in 2013 resulting from expiring tax cuts and spending cuts set to be triggered at the end of 2012.  The ongoing European debt crisis and struggling Eurozone economic activity is another risk.

© 2012 RIJ Publishing LLC. All rights reserved.

Who’s Afraid of the Fiscal Cliff?

Posted on July 31, 2012 by -

At the end of this year, the U.S. economy faces the so-called “fiscal cliff”: the Bush tax cuts will expire, and as a result of the 2011 deal that raised the debt ceiling, automatic spending cuts will begin.

Policymakers are considering how to respond, given the weak prospects for the economy in the short-run, and the dismal prospects for the federal budget in the medium- and long-term. President Obama has proposed extending most of the Bush-era tax cuts, but not the tax rate cuts for the highest-income households, whereas Congressional Republicans would like to extend all of the tax cuts.

A better approach would be to go over the fiscal cliff—that is, let the tax cuts expire and the automatic spending cuts occur—and to enact a temporary stimulus package.

Going over the cliff is the only way to get the economy on a good long-term budget path with a deficit reduction package that balances revenue increases and spending cuts.

It would put the economy on a better long-term path through cutting deficits by about $4 trillion over the next 10 years relative to current policy and by stabilizing the ratio of debt to GDP. This is no small feat. It would be the opposite of “kicking the can down the road,” which is what Congress has done in the past and has been roundly criticized by experts and others.

It is the only way to get a deficit reduction package that is fairly balanced between spending cuts and revenue increases. About 90% of Republicans in Congress have signed the “No New Taxes” pledge. This is a mainstream Republican position, not some fringe part of the party.

The signers pledge to oppose any net tax increases, regardless of the situation. (Think about this: even if we were being invaded and needed revenues to defend the homeland, the Pledge would require its signees to eschew tax increases.)

That means that, although an overwhelming majority of Americans—70% in a recent Pew survey—would like to see revenues account for a significant share of a long-term budget agreement, there is no way to achieve that outcome via a budget “deal” in the current situation. Going over the cliff solves that problem, raising revenue by about $2.8 trillion over the next decade. And, of course, we don’t need a vote to achieve that. Just doing nothing—letting the tax cuts expire—suffices.

Going over the fiscal cliff does create two problems, however, both of which are solvable.

The first is that although it would put the overall budget on a good long-term path, the structure of the resulting tax or spending policies may find disfavor. The revenue increases would come from tax rate increases, rather than deduction-reducing, base-broadening efforts that would make taxes simpler and fairer. The spending cuts would come from military and domestic discretionary spending—where most government investments occur—rather than from the chief drivers of long-term spending growth, Medicare and Medicaid.

The key point, though, is that having the additional revenues and lower spending path that comes from going over the cliff would give policymakers the opportunity—the budget resources —to strike a budget deal, and the less-than-ideal structure of the tax and spending changes would give them the incentive. And because the “No New Taxes” pledge makes it impossible to include significant revenues as part of a budget deal now, it will be easier to reach a balanced deficit reduction package if we go over the cliff first and then negotiate spending up a little and taxes down a little, rather than trying to reach balanced deal now by negotiating taxes up and spending down.

The second problem is that going over the fiscal cliff, without enacting other policy changes, would likely hurt the economy in the short-run, as the Congressional Budget Office and others have noted. This is basically an argument that spending cuts and tax increases will hurt the economy in the short-run, and therefore it is an argument that a stimulus package—that is, tax cuts and spending increases—could help the economy in the short-run.

A stimulus package that stays away from the partisan wrangling over the Bush tax cuts, and consists instead of payroll tax cuts, infrastructure investment and aid to the states could be structured as temporary and would have a bigger “bang for the buck” than extending the Bush tax cuts, while also being more progressive.

The expiration of the Bush tax cuts and the automatic spending cuts slated to take effect in a few months offer a rare chance to do what policymakers have not, so far, been able to do—deal seriously with the 10-year budget deficits looming over the economy.  Legislators should embrace that opportunity while also tending to the short-term needs of the economy.

© 2012 RIJ Publishing LLC. All rights reserved.

On Moshe Milevsky’s “The 7 Most Important Equations”

Posted on July 31, 2012 by -

Wit, a lively narrative voice, and a gift for invention—these were scarce commodities in retirement finance books until Moshe Milevsky started writing them. Life-or-death drama and graveyard humor always lay latent under the actuarial tables, but nobody ever liberated them the way this prolific 40-something Canadian finance professor has.

Imagine a reader’s surprise, a few years ago, on opening a text with the yawn-worthy title, The Calculus of Retirement Income: Financial Models for Pension Annuities and Life Insurance and finding this: “I arrived at the conference venue early—as most neurotic speakers do—and while I was waiting to go onstage, I decide to wander around the nearby casino, taking in the sights, sounds and smells of flashy cocktail waitresses, clanging coins, and musty cigars.”

Moshe MilevskyMilevsky (at left) proceeds to introduce the indelible “Jorge,” a (probably fictional) roulette player with a “very primitive gambling strategy.” Before every spin of the roulette wheel, Jorge bets a red $5 chip on black. After every spin, he tips the attentive cocktail waitress another $5 chip for refilling his scotch glass.

Inspired by his own fascination with Monte Carlo projections, Milevsky (as narrator) then tells us how he began to calculate mentally how long Jorge’s money, which he is spending, winning and losing as the hours fly by, are likely to last. Soon Milevsky reveals his point: Jorge is Everyman, and his roulette strategy is “a quaint metaphor on financial planning and risk management as retirees approach the end of the human life cycle,” when they are spending their savings even as they continue to risk them in the financial markets.

“So, in some odd way,” the opening anecdote of The Calculus of Retirement Income points out, “we are all destined to be Jorge.”

Milevsky wrote that book in 2006, when I was first searching the Web for books about annuities and retirement finance. It was already his fourth book—he had written or co-authored Money Logic, Insurance Logic and Wealth Logic and had yet to write Are You a Stock or a Bond? (about the nature of human capital), PensionizeTM Your Nest Egg, and Your Money Milestones, or to co-author Strategic Financial Planning over the Lifecycle. But it was perhaps the first serious book on retirement finance that I’d read, and all I could think was: Who is this guy?

Milevsky’ latest book, entitled The 7 Most Important Equations for Your Retirement: The Fascinating People and Ideas Behind Planning Your Retirement Income (Wiley 2012) plays even more to his abilities as a raconteur than his previous books. It’s an appreciation of his heroes, of the men who invented the conceptual tools that Milevsky uses on his professional workbench every day. It’s also about why those razor-sharp tools matter to the reader. Warning: Readers will need to be fairly smart even to grasp the handles of these tools—let alone juggle them with the casual ease that Milevsky does, like a teppan-yaki chef tossing his knives and spatulas.

The 7 Most Important Equations is challenging, but not inaccessible. While the concepts aren’t simple, the deft organization of the book helps. Each chapter focuses on a different important equation, on the genius who created it (or who won credit for creating it), and the application of that equation in solving retirement income problems.     

Leonardo Fibonacci (1170-1250) kicks off the book; Andrei N. Kolmogorov (1903-1987) concludes it. In between, we learn about the contributions of Benjamin Gompertz, Edmond Halley (of the eponymous comet), Solomon Huebner (creator of the Wharton School), Irving Fisher, and MIT’s Paul Samuelson (the Nobelist known as the “father of modern economics”).

There’s a fair amount of math here. If you’re a Wall Street quant, if you munch on mathematical symbols at your desk every day, or if you clearly recall your high school and college math, you won’t be intimidated by the formulas that appear at the start of every chapter. But if you don’t chuckle with recognition when you see something like,  ax = ∑i=1 ∞   iPx / (1+R)i  , you might feel intimidated and turn the page. That would be your loss (It was mine, sorry to say), because they are the real heroes of the book.

Even if you’re not a quant, however, and merely like learning the origins of things, you’ll probably enjoy hearing that it was Fibonacci who introduced Arabic numerals to Europe, that Gompertz showed the world that our probability of dying increases about 9% every year from early adulthood to old age, and that Irving Fisher was famous for something other his ill-timed comment, made in August 1929, that “stock prices have reached a permanent high plateau.”    

Just as importantly, the chapters show how each of these mathematical legends helped answer the questions that almost all of us, except perhaps the destitute or the well-fixed, will struggle with in retirement: How long will my money last? How long am I likely to live? Is it worth it to buy an annuity? Milevsky’s book demonstrates that the same questions that bug Boomers in the middle of the night have bugged great minds for hundreds of years.

Each chapter stops short, quite deliberately, of converting the mathematics and the history into news-you-can-use. As Milevsky writes in the introduction, “Most books about retirement planning are written as guides, instruction manuals or ‘how-to’ books. … Rest assured, this is not one of those books.” Instead, as he tells us, he intends the book to start “conversations” about retirement income planning between his readers and their families and financial advisors.

It’s a slim book—just 178 pages not counting the end matter. Milevsky’s schedule is probably still too hectic—he’s a consultant and speaker as well as a writer and tenured professor—to attempt something on the scale of Peter Bernstein’s Against the Gods. But it wouldn’t be surprising if The 7 Most Important Equations for Your Retirement turns out to be a warm-up for a literary project that Milevsky might be reserving for his own still-distant retirement from Toronto’s York University.

In sum, The 7 Most Important Equations for Your Retirement is a clever, erudite book  graced with learned, entertaining asides. If you’ve ever had a great professor, someone young enough to relate to you but old enough to command your implicit respect, who knew his stuff so thoroughly that he never had to hide behind an Oz-like curtain of severity or dumb the material down, then you’ll have a sense of the kind of authorial hands you’re in when you read almost any of Milevsky’s books. If you’re willing to put in the time and keep up the pace, you’ll be amply rewarded.

© 2012 RIJ Publishing LLC. All rights reserved.

Weighing the Value of a Variable Annuity

Posted on July 31, 2012 by -

How much is a variable annuity worth? For the average person, that would be a hard question to answer, especially in the abstract. Annuity wholesalers, on the other hand, might have to answer that question every time they visit an advisor or a broker.

For scholars Petra Steinorth and Olivia S. Mitchell, that question was the starting point for a rather precise evaluation of annuities, which they document in a new paper, “Valuing Variable Annuities with Guaranteed Minimum Lifetime Withdrawal Benefits” (National Bureau of Economic Research, July 2012).

In the paper, they assess the relative values of three types of annuities: a “ratchet” or “step-up” GLWB, a plain vanilla (no ratchet) GLWB, and a single premium immediate annuity, or SPIA. They use two yardsticks that academics often use to evaluate annuities: the money’s worth ratio (MWR) and the annuity equivalent wealth (AEW).

If a person wants to stay fully invested, they found a VA lifetime withdrawal benefit—especially one with a ratchet, which provides the potential to lock in market gains and produce larger payouts—can provide the balance between upside potential and downside protection that many Boomers are looking for in retirement.    

But when the three products are judged purely by the amount of uninsured wealth a retiree would need to enjoy the same protection from longevity risk that each annuity provided, the SPIA was the most valuable.

“A VA/GLWB combination does offer a higher expected utility than investment only alternative,” the authors wrote. “Still, the traditional SPIA appears to be a more attractive product than the VA/GWLB options examined here.”

VAs need “standardization”

In an interview with RIJ, Steinorth and Mitchell described the thrust of the paper. “Our research shows that variable annuities with guaranteed withdrawal lifetime benefits will be appealing to rational individuals who seek to protect against running out of money in old age. These products are more attractive than holding the same portfolio mix outside the VA/GWLB, due to the fact that people are protected against outliving their assets.”

They added, “These products also offer flexibility in that investors can withdraw more than their guaranteed benefit amount if they need to. We show that when people have a “ratchet” in the VA/GWLB – which resets people’s account values when markets do well—they are more likely to keep making just the guaranteed withdrawal amount, rather than depleting assets faster. From an industry perspective, this makes withdrawals more predictable.

“A payout annuity offers something that no plain stock or bond portfolio can provide—namely, protection against outliving one’s assets,” the authors wrote. “The VA/GWLBs we explored will be appealing to retirees seeking to balance capital market risk with longevity risk, and we anticipate that many Baby Boomers will find them to be a useful product.

“Nonetheless, the complexity of the product makes it difficult for many to understand. Greater standardization along a few dimensions might enhance their appeal in the marketplace.”

AEW versus MWR

To compare GLWBs and SPIAs, Steinorth and Mitchell hypothesized a 65-year-old man with $100,000 to invest in either a VA/GLWB with a ratchet and a 5% payout, a “plain” VA/GLWB without a ratchet and a 5% payout, and a single-premium immediate annuity with a fixed annual lifetime payout rate of $6,950. The man also had $13,000 in Social Security income.

The authors stipulated that the VA assets would be invested as follows: 48.5% in equities, 22.2% in fixed income securities, 14.7% in balanced/hybrid funds, 11.5% in bonds, and 3.3% in money market assets. In addition, they assumed that the investments would produce an average return, before fees, of 6.75% per year. VA/GLWB all-in fees were assumed to be 333 basis points per year (ratchet) and 308 bps per year (plain).

After a flurry of complex simulations and calculations, Steinorth, who teaches at St. John’s University, and Mitchell, who directs the Pension Research Council at the University of Pennsylvania’s Wharton School, determined the money’s worth ratios (MWR) and the annuity equivalent wealth (AEW) of the three products.

An annuity’s MWR is the ratio between the present value of the expected payments from the annuity (adjusted for mortality rates) and the purchase price of the annuity. An annuity with no distribution or administration costs or adjustment for adverse selection (the tendency for healthier people to buy annuities) would by definition have an MWR of one.

Steinorth and Mitchell determined that a 65-year-old male’s ratchet VA/GLWB (with the asset allocation and performance mentioned above) would have an MWR of 0.90, a plain VA/GLWB would have an MWR of 0.89, and his SPIA, with a $6,950 annual payout, would have an MWR of 0.80. (They noted, however, that SPIAs paying $7,950 a year, as they once did, would have MWRs of 0.90.)

By that measure, a VA/GLWB seemed to offer superior value. The authors then calculated the AEWs of the products. An annuity’s AEW is the amount of money a risk-averse person without an annuity would need in order to feel as secure—to have as much “utility”—as a person with an annuity.

By this measure, the SPIAs appeared to be superior. According to Steinorth and Mitchell, a person would need $107,000 in uninsured assets to feel as secure as he would with a $100,000 plain VA/GLWB, $114,000 to feel as secure as with a $100,000 ratchet VA/GLWB, and $135,000 to feel as secure as he would with a $100,000 SPIA. (They noted that the SPIA AEW would be $165,000 if the SPIA paid $7,950 a year.)

The paper also asserted that:

  • The VA/GLWB with the ratchet that they modeled can be a better value than a plain VA/GLWB, at current fee levels. “A ratchet priced at 25 bps is a valuable addition to a VA/GWLB from the consumer’s perspective,” the researchers wrote.
  • People who own GLWBs with step-ups (potential annual increases in the value on which the benefit is based during rising markets) are less likely to take withdrawals in the early years of the contract; and to spend the most starting after the 14th contract year.
  • People “mostly use the plain VA/GWLB a buffer or last resort to protect against extreme longevity. They take early excess withdrawals to significantly reduce the guarantee base and then rely on the guaranteed benefit after the account value has been mostly depleted or previous investments turned out poorly.”

© 2012 RIJ Publishing LLC. All rights reserved.

Floor-and-Upside: A New Strategy for a New Era

Posted on July 30, 2012 by -

“Anything is possible.”  Over the course of my career, this is perhaps the most important lesson I’ve learned. It holds a special relevance when I speak to financial advisors about the business strategies they should use to maximize their own success.

When it comes to generating retirement income, savvy advisors will move beyond old dogmas and open their minds to new investing strategies. Advisors should also try to position investors for a wider range of outcomes, including some that may be considered extremely unlikely.

Let me offer you a true story that helps frame my advice.

In 1989, one of my consulting clients, PaineWebber, sent me on a twelve-city speaking tour. I delivered the same seminar presentation in each venue: Tax-Advantaged Retirement Planning for Affluent Investors. The seminars took place in nice hotels in major cities.  In the morning I’d train the PaineWebber stockbrokers in the local branch office, and in the evening I’d present a seminar to the brokers’ clients and prospects on the utility of including insurance products in investment portfolios as a way of generating tax-favored retirement income.  

The impossible became possible

My seminars included a rather emotional discussion about Japan. Looking back, I see a striking parallel to the concerns of Americans today. In 1989, many American worried that the Japanese would surpass us in economic power.

This was quite understandable given the facts: In 1989, eight of the world’s ten largest banks were Japanese. In the 1980s the market value of Japanese real estate had skyrocketed to stratospheric levels. The world’s most expensive retail space was located not in London, New York or Beverly Hills, but in the Ginza section of Tokyo. From 1980 to1989 the Nikkei 225 stock index rose from about 5,000 points to more than 39,000 points. The index reached its all-time high in December 1989.

Japanese citizens possessed the world’s highest rate of personal savings—more than 14% a year. Japanese manufactures dominated in consumer electronics. The world’s most admired company was Sony. News reports in the U.S. about the acquisition of high profile American properties such Rockefeller Center and the Pebble Beach Golf Club by Japanese investors only added to the anxiety that caused Americans to feel that their country had become a declining economic power. Japan appeared to Americans much as China appears to us today: a seemingly unstoppable economic juggernaut destined to inevitably become the world’s largest economy.

Like most people in 1989, I would have told you with great conviction that what was soon to take place in Japan was impossible. Twenty-three years later, we can see that the impossible has actually occurred.

Japan has been mired in an economic decline for more than two decades. To stimulate its economy the Japanese government lowered interest rates to unprecedented low levels. As Japanese savers fled to safe assets, interest rates on 90-day Japanese government paper at times paid a negative rate of interest. Many Japanese savers viewed a small guaranteed loss as their safest option.

From 1989 to 2004, the value of Prime “A” commercial real estate in Tokyo fell 99%. By 2007 the once vaunted Japanese personal savings rate had declined to 1.7%. And by July of this year, the Nikkei 225 index had fallen by more than 30,000 points, to 9,104. Stock prices in Japan are at the same general price level that they were in 1984. In July the share price of Sony, originator of the Walkman and Trinitron TV fell to ¥990, its lowest level since 1980 and a fraction of its high of ¥16,900 in 2000.

Japan’s experience shows that our tendency to project past results into the future can be dangerous and even reckless. We’ve entered a new era where our frameworks for measuring risk are outdated or irrelevant. Regarding the range of possible economic outcomes, something fundamental has changed in our world. As result, our assumptions should be reconsidered.

I suggest that financial advisors consider this when they design investment strategies for their retirement income clients. When dealing with retirees, some of whom may have zero tolerance for economic failure, advisors can’t afford to rely upon models of thinking that may simply provide a false sense of security.

The anti-“floor” dogma

Many academics who have studied retirement income planning suggest that establishing a “floor” of lifetime income be the foundation of an investor’s retirement strategy. It’s hard to argue with this recommendation. If an investor can’t tolerate the risk of being unable to meet essential living expenses, an advisor should include a layer of lifetime guarantee income in the strategy.

The non-profit Retirement Income Industry Association (RIIA) has championed the importance of the income floor—an income source, generally payable for life, which is quite certain or guaranteed and which enables the investor to meet the most important living expenses. But the “floor” is just one component of the investing strategy. The companion component is the search for “upside” through exposure to risky assets such as equities.    

RIIA has also created a Client Segmentation Matrix that advisors can use to identify which investors need a “floor” as part of their retirement income investing strategies. RIIA categorizes investors not by AUM but rather by the ratio of their expected annual spending in retirement to the amount of their investible assets. Dividing the investor’s annual spending by his/her investible assets will place each investor in one of three segments: 

  • Overfunded (<3.5%)
  • Constrained (3.5% to 7%)  
  • Underfunded (>7%)  

Clients in the overfunded category are safe. They can choose almost any retirement income investing strategy, including a systematic withdrawal Plan (SWP), and be confident that they will be financially secure. By definition, they have more than enough assets to generate their required level of annual income in retirement.

Underfunded investors, by contrast, have too little money relative to their income needs. There’s not much that the financial advisors can do for them except try to align their income expectations with economic reality.

Constrained investors have the most to gain from a retirement income plan. In my experience, these investors tend to have between $250,000 and $1.5 million in investible assets. Typically, they have little or no margin for error once they start distributing their assets in retirement. Their choice of investing strategy is a truly high stakes proposition. They need an income floor.  

(If you wish to specialize in retirement income distribution planning, I recommend that you consider the Retirement Management Analyst (RMA) professional designation offered by the RIIA. Both Boston University and Texas Tech University offer preparatory classes to prepare candidates for the RMA exam. The courses offer income-planning concepts that can help you produce better results for your clients. They can also help you gain a competitive advantage over advisors who still follow the logic of asset accumulation.)

Embrace the “Floor” Your Way

For a variety of reasons, many financial advisors neglect one obvious way to create a floor—guaranteed income annuities. If so, they do a disservice to their constrained clients. In my view, advisors who reject annuities out of hand and have no other way to introduce predictable income won’t have a bright future in retirement income distribution planning and may even find it difficult to keep clients. 

Some advisors don’t like the fact that when clients buy annuities, assets escape their management. But that’s short-sighted. Investors tend to consolidate retirement assets with advisors who are experts in retirement income distribution planning, and consolidation may actually increase the total retirement assets advisors manage, even after the purchase of the annuity. Counter-intuitively, advisors who don’t consider annuities may be costing themselves a lot of income.

Moreover, new types of annuity structures make it possible to introduce lifetime guaranteed income within an advisory account. Stand-alone living benefit (SALB) products accomplish exactly this. One registered investment advisory firm (RIA), The Institute for Wealth in Colorado, has introduced the SALB solution in its investment program. San Francisco-based ARIA Retirement Solutions offers a program that makes SALBs available to other RIAs.

Some advisors overlook the fact that even high-net-worth investors can fall into the constrained investors segment and need a floor of guaranteed income. Investors may have $10 million in investible assets, but if they spend $1 million annually on living expenses, they are clearly underfunded.

I have found that financial advisors who wish to find new clients and retain the loyalty of their existing clients will be more successful if they leave old dogmas about “impossible” outcomes behind. “Floor plus upside” is a valuable planning strategy for advisors and retirees who are about to navigate a very different future—a future where nothing’s impossible.

David Macchia, RMA, is founder & CEO of Wealth2k, Inc. He serves as a board member and secretary of the Retirement income Industry Association.

What advisors were thinking at the Morningstar conference

Posted on July 30, 2012 by -

Because of the low yield environment, financial advisors are more likely to seek income for clients from emerging market bond funds and dividend-paying stocks than from traditional income-producing assets, according to a new survey from Oppenheimer Funds.

“A full 84% of advisors are more likely today to recommend dividend-paying equities and more than three-quarters (76%) of advisors cited a willingness to recommend emerging market bonds or related bond funds over other asset classes,” Oppenheimer said in a release. The survey was conducted on June 20 and 21 at the 2012 Morningstar Investment Conference in Chicago. 

For emerging market exposure, half (50%) of the advisors surveyed recommended investing directly in emerging markets companies, 26% were inclined to use funds that invest in companies domiciled in developed countries outside of the U.S., and 21% preferred funds investing in large global multi-national U.S. companies. Three percent of respondents said they don’t need emerging market equities exposure.

On the other hand, 43% of respondents said they’ve reduced exposure to international bonds and 41% have reduced exposure to international equities since the Eurozone crisis began. Almost six in ten advisors (59%) said the European sovereign debt crisis was the most important issue affecting their advice to clients and 26% named the U.S. presidential election.

Compared to the spring of 2011, 59% of advisors said they are seeing clients become more risk adverse in 2012, with increased interest in fixed income investments, while 35% said risk tolerance levels are largely unchanged.

Slightly more than half (52%) of the advisors surveyed agreed that “protecting clients from downside risk resulting from continued market volatility” is their greatest challenge. Another 19% and 18%, respectively, are challenged by “managing clients’ ongoing fears of investing in equity markets” and “helping clients earn real yield on their fixed income portfolios.”

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