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The Tax Deal Feels Wrong

Posted on December 8, 2010 by -

The long-predicted generational war has begun. The retirees lost the first battle over the weekend when it became apparent that President Obama would agree to extend the Bush tax cuts to 2012 and probably beyond.

This opening skirmish pitted two familiar opponents.  One side calls for diverting resources from the private sector to the public sector (i.e., through higher taxes). The goal: to lower the deficit and, beyond that, to bolster Social Security and Medicare and ensure that most Boomers won’t live in fear of poverty or illness during retirement.

The other position calls for diverting money from the public sector to the private sector by lowering taxes. The theory is that the private sector (and its wealthiest members, especially) can use the money more creatively and efficiently than the federal government can.  The country, through its Republican legislators, seems to have endorsed this approach.

That’s politically expedient but shortsighted. Tax cuts will simply drive up the deficit and the debt to the point where we have no choice but to take a blunt hatchet to Social Security and Medicare later on, under duress. Will that help us all in the long run? I don’t think so.

Big cuts will only require citizens to save more while working in order to offset the new shortfalls in social insurance. Pundits wonder why the Chinese don’t consume more. It’s because their government has largely rescinded its social safety net since 1997. Do we really want to be more like China and less like France?

We could be headed back to the pre-1937 world of self-insurance. By definition, that means a loss of utility. Families will have to choose between spending money on a child’s tuition and a grandparent’s rent, food and medical care. There may be no such thing as a free lunch, but there’s also no such thing as free starvation. Somehow, someone will pay.

Many sophisticated people will insist that tax cuts can stimulate the economy and thereby lower the deficit and even rescue Social Security indirectly. But David Stockman himself admitted in 1981 (to the journalist William Greider) that supply-side economics was a convenient lie. It still is.  

So the country must choose. It can face the demographically driven economics of an aging society by sharing wealth in a civilized way, with respect for all and special concern for the growing numbers of elderly.

Or it can split into mutually demonizing camps and engage in a zero-sum battle where the strong shift sacrifices onto the old and politically weak. Over the weekend, we took the first step down the second path. Something feels very wrong about this tax deal.

© 2010 RIJ Publishing LLC. All rights reserved.

Why Prudential Sells the Most VAs

Posted on December 8, 2010 by -

When Prudential Financial introduced its Highest Daily variable annuity design in 2007, not a few annuity industry insiders scoffed that Prudential was just repackaging a familiar structured product idea called constant proportion portfolio insurance, or CPPI. 

A CPPI product typically combines upside exposure to a risky asset with a principal guarantee. By definition, it’s conservative. During a market downturn, the issuer shifts money from the risky asset to the safe asset to protect the guarantee. That deprives the owner or his advisor of control.

Financial advisors would never go for that, skeptics said. The conventional wisdom was that advisors were buying variable annuities only because they offered control over investment choices and lifetime income guarantees. Why would they want a product that took away their control?

“In all honesty, prior to the financial crisis it was a tough sell, and it was easy for others to sell against it,” said Harvey Blake, vice president, Market Risk Management, at Prudential.

Then came the financial crisis. While other popular VA contracts lost up to 35% of their account values, exposing their issuers to huge potential losses, HD7 accounts fell by only about half as much. The perceived weakness of the Prudential product suddenly became a source of strength. (Yesterday, however, Prudential filed to reduce the product’s benefits. See accompanying article.)

Having survived the crisis in relatively good shape, Prudential didn’t have to cut back as much on contract benefits or sales capacity after the crash. Along with MetLife and Jackson National, it benefited from the flight to quality and security that occurred in the market rebound of the past 18 months.

In the first three quarters of 2010, Prudential sold $15.55 billion worth of variable annuities. That success has sparked new interest in CPPI. Indeed, at the Society of Actuaries’ annual conference on equity-linked insurance guarantees in New York at the beginning of November, CPPI was the star of the show.

“At the SoA conference, [CPPI] was a topic that got a lot of attention,” Deutsche Bank’s Cornelia Spiegel, who spoke about CPPI at the conference, told RIJ. “Most of the conversation in the past has been around hedging techniques. This was the first year where the product design was the highlighted topic. Issuers are trying to find ways to offer these products without incurring too much risk. It’s a tempting environment for CPPI.”

Indeed, the SoA stacked the conference in CPPI’s favor. “Our meeting planners thought it would be useful for the program to offer content on this issue and designed the program to reflect so,” noted the SoA’s Kim McKeown. “[We] intentionally offered more content on CPPI-type products because they are becoming popular with insurance companies.”

 

How CPPI works

Different types of CPPI-driven products have reported been around since the 1980s. Principal-protected, bank-issued savings products in Europe use a form of it as a risk management technique. In perhaps CPPI’s simplest form, the issuer will put 80% of the assets in a zero-coupon bond and the rest in risky assets. At worst, a client’s principal is guaranteed. In the U.S., fixed indexed annuities, an insurance product, does much the same thing.

The version of CPPI that was discussed at the recent Society of Actuaries meeting works a bit differently. Instead of putting 80% of the assets in the risk-free investment, the issuer might put as much as 80% of the money in the risky asset. If the risky asset loses value, the issuer moves money to the safe asset. The amount in the risky asset, added to the value of the safe asset at maturity, will always equal the principal.

Here’s a simplified example. Suppose someone bought a principal-guaranteed investment for $100. Suppose it would take $80 worth of zero-coupon bonds to return $100 at maturity. The client could then afford to lose $20 of his or her investment and still break even. By definition, the “cushion” is 20%.

To decide how much of the assets to risk, the issuer selects a factor, called the “multiplier,” which is based on the riskiness of the desired risky asset and the prevailing interest rates. Suppose that the multiplier is 4. Four times 20% equals 80%. So $80 goes into the risky asset and $20 goes into the safe asset.

If the value of the risky asset drops 10% (to $72), the account value is now $92. The cushion narrows to 13% (92 – 80/92). The new risky allocation will be 52% (4 x 13%). Of the remaining $92 account value, only 52% ($48) will stays in the risky asset. The rest ($44) will be in the safe asset. To rebalance, the issuer moves $24 from the risky asset to the safe asset.  

This technique has a couple of vulnerabilities, however. In a market panic, the value of the risky asset could fall through its floor ($80) before the issuer could get sell it all. To honor the guarantee, the issuer would take a loss.  

“One of the main risks for the manager of a CPPI strategy is “gap risk” when the price of the risky asset drops through the bond floor without enough time for the portfolio manager to reallocate enough funds into the riskless asset to maintain the guaranteed value of the strategy,” said Deutsche Bank’s Spiegel.

For the investor, there’s the danger of “knockout” or “lock-in.” If all the money goes into the safe asset during a downturn, it can’t easily get out. The investor can’t take advantage of an ensuing market upswing, and ends up with the equivalent of a very expensive bond or money market investment.   

 

How Prudential uses CPPI

Prudential’s VA/GLWB embeds a version of CPPI inside a variable annuity. The margin of safety provided by the CPPI, along with hedging strategies, enables the insurer to offer the product’s seductive features at competitive prices. Those include as many as 16 different investment options, a potential daily mark-up in the benefit base, and the ability for those who avoid withdrawals for 10 years to double their minimum retirement payout, regardless of market performance.   

“It’s not pure CPPI,” said Santosh Nabar of Barclays Capital, which works with insurance companies on managing variable annuity risk. “It’s approximately CPPI.”

When the contract’s mutual funds lose value, an automated process reallocates money to the safe asset. The mechanism puts no more than 90% of the account value in the safe asset, leaving 10% exposed to risky assets. The 10% exposure is a critical feature that protects clients from knock-out. But it isn’t necessarily enough to let them fully participate in a market rebound or for their account value or reach a new high water mark.

Prudential concedes that there’s nothing revolutionary about their technique, which it inherited, along with a platform for administering it, when it acquired American Skandia. “CPPI is a broad concept that’s been used for decades,” said Harvey Blake. “We use an algorithmic solution on a policy-by-policy basis. We’ve been doing it since 2001. It was an American Skandia product at the time. There’s no one single CPPI out there. If there are others similar to what we do, we’re not aware of it.”  

“Part of the execution of our product involves lower control over asset allocation,” Blake said. “You’re giving up some control in return for downside protection.” That’s a drawback in a bull market, but an advantage in volatile markets. “Since the crisis, that aspect of the product has resonated in the retail space. People put a high value or premium on loss aversion, and that has played very well with our design.”

Offering CPPI inside a variable annuity isn’t necessarily easy. Prudential has to treat every one of its 80,000 or so in-force HD7 or HD6 contracts as a separate, micro-CPPI product, automatically fine-tuning the allocation to each client’s choice of risky assets and the safe asset every day.

To copy Prudential or not 

Insurers who have pulled back from the VA market since the financial crisis are now wondering how they might safely reenter the game. CPPI would be one route to take.

Prudential thinks it would be difficult for other VA issuers, especially those whose wholesalers sold against CPPI in the past, to follow its example.

“Our algorithm is in our prospectus, people have easily replicated it just for fun to see how it works,” said Tom Diemer, Prudential’s head of annuities financial management. “It’s not the ‘Coke secret formula.’ But from what I’ve heard, there’s still a philosophical objection to it around the issue of control. Folks who have sold against this in the past might be able to pivot, but it would be a big change.”

“Companies have sold against it for years and for the distribution it would be difficult to turn around and try to promote it,” added Blake. “And it would take time to build even if you wrote the check today. We’ve estimated that it would take 18 months to two years.”

© 2010 RIJ Publishing LLC. All rights reserved.

Deficit Commission’s ‘Moment of Truth’

Posted on December 1, 2010 by -

Here’s a headline summary of the final report of the NCFRR:

•    Achieve nearly $4 trillion in deficit reduction through 2020, more than any effort in the nation’s history.
•    Reduce the deficit to 2.3% of GDP by 2015 (2.4% excluding Social Security reform), exceeding President’s goal of primary balance (about 3% of GDP).2
•    Sharply reduce tax rates, abolish the AMT, and cut backdoor spending in the tax code.
•    Cap revenue at 21% of GDP and get spending below 22% and eventually to 21%.
•    Ensure lasting Social Security solvency, prevent the projected 22% cuts to come in 2037, reduce elderly poverty, and distribute the burden fairly.
•    Stabilize debt by 2014 and reduce debt to 60% of GDP by 2023 and 40% by 2035.

 

Here’s a table that summarizes proposed changes in the tax code to reduce the deficit and debt:

The Bucket

Posted on December 1, 2010 by -

IRI Releases Third Quarter Product Trend Update for U.S. Variable Annuity Market

The Insured Retirement Institute (IRI) today released a report on product trend updates within the U.S. variable annuity market for the third quarter. Compiled by Morningstar, the report found a pick-up in new benefits for the third quarter, tripling the new number of issued lifetime benefits when compared to second quarter data. Nineteen new benefits were issued this quarter versus six in the previous quarter. 

Overall, carriers filed more than 60 changes in the third quarter, compared to 76 in the previous quarter. In addition, year-to-year quarterly product changes decreased by 31%, dropping from a pace of 87 filed changes in the third quarter in 2009. Of note, fee changes dropped by half, from 20 in the second quarter to 10 in the third quarter, indicating that the majority of carriers have made their pricing adjustments in response to the new market realities.

The report also found that the popularity of living benefits remained strong, especially the Lifetime GMWB. Nine out of the 11 new living benefits released this quarter were lifetime withdrawal benefits. Additionally, the number of new contracts for the quarter was 20, compared to 15 filed in the second quarter.

 

Securian Retirement and 401(k) Advisors in Pact 

Securian Retirement has teamed with 401(k) Advisors to offer a 3(38) investment management fiduciary service that allows employers to transfer the responsibility for selecting and monitoring funds to 401(k) Advisors, a nationally recognized investment advisory firm.

401(k) Advisors accepts responsibility and discretion for the investment due diligence process under section 3(38) of ERISA.  The new service also provides timely support to retirement plan advisors as the industry prepares for new rules regarding fiduciary roles. The rules are scheduled to go into effect July 2011 and will, in part, require service providers to disclose whether they act as a fiduciary to a plan and in what capacity.

“This 3(38) approach gives broker-dealers a way to support their retirement plan advisors by offering a means of addressing key aspects of new federal regulations,” said Bruce Shay, executive vice president, Securian Financial Group, Inc.

Shay said many employers exhibit a “do it for me” behavior when it comes to retirement plan investment selection. The new 3(38) service will help to bring clarity to this important fiduciary task for plan sponsors and for retirement plan advisors. 

“3(38) investment advisory services will appeal to many plan sponsors who do not have the time, resources, or expertise to select and monitor funds,” said Jeffrey Elvander, CFA, CIO, 401(k) Advisors. “They will embrace the simplicity and efficiency of having an outside investment expert accept this pivotal role in the investment due diligence process.”

Hedge Fund Managers: Yes on QE2, No on U.S. Equities 

Most hedge fund managers remain downbeat on U.S. equities, according to the TrimTabs/BarclayHedge Survey of Hedge Fund Managers for November. About 39% of the 83 hedge fund managers the firms surveyed in the past two weeks are bearish on the S&P 500, and bullish sentiment sank to 31% from 36% in October.

“Moods are still somewhat sour, but hedge funds returned 7.0% in the four months ended October following a rough patch in May and June,” said Sol Waksman, CEO of BarclayHedge.  “About 80% of the funds that reported returns for the January-October period are profitable in 2010.”

On QE2, or the second round of “quantitative easing” by the Federal Reserve, almost half of hedge fund managers thought it would help asset prices, but four in 10 said it will ultimately hurt the economy. Only 9% of managers plan to decrease leverage in the coming weeks, the smallest share since May, while 16% are inclined to increase it.

“It is telling that some managers aim to lever up even though they are predominantly downbeat on stocks,” explained Vincent Deluard, executive vice president at TrimTabs. 

“The Fed is begging firms, consumers, and market participants to take risks, and hedge fund managers are capitalizing on kind conditions. 

“They view QE as an asset-price gift horse—one they are not looking in the mouth—and hedge fund investors have handed them $33 billion in recent months. Also, it certainly doesn’t hurt that managers can borrow to buy assets for virtually nothing courtesy of historically low short rates,” he added.

Bearish sentiment on the U.S. Dollar Index surged to 44% in November, the highest level in six months, from 30% in October.  Meanwhile, bond sentiment has been hammered as long-term interest rates have spiked.  Bearish sentiment on the 10-year Treasury note vaulted to 49%, the highest level since May, while bullish sentiment dove to 13%, the lowest level in six months.

“Market participants have no interest in fighting the Fed in the belly of the curve, where its Treasury purchases are concentrated,” noted Deluard.  “But hedge fund managers are very bearish on the 10-year, and futures traders have been dumping the 30-year bond contract. 

“Also, mom and pop ditched bond mutual funds in the past fortnight after pouring money into them for 100 straight weeks, and TIPS funds have raked in assets in 2010.  The more the market feels the Fed’s reflation strategy will succeed, the more powerless policymakers become to prevent long yields from grinding higher.”

 

Keating to Lead American Bankers Association

Frank Keating, a former governor of Oklahoma who served as president of the American Council of Life Insurers from 2003 until the end of October 2010, will be the next president of the American Bankers Association, effective January 1, 2011.   

Keating, who will succeed Ed Yingling, worked as an assistant secretary and general counsel at the U.S. Treasury Department and later as acting deputy secretary at the U.S. Department of Housing and Urban Development. From 1995 to 2003, he was governor of Oklahoma.

Keating has served on the board of a savings bank, and his experience at HUD should be helpful when questions about housing finance and the federal mortgage guarantee agencies come up, according to ABA Chairman Stephen Wilson.

At the ACLI, Keating helped to keep the new Consumer Financial Protection Bureau from regulating the business of insurance. The same bureau will have jurisdiction over the big banks that belong to the ABA and over nonbank consumer finance operations.

 

LifeYield Integrates with Fidelity’s National Financial

LifeYield, LLC, a provider of tax-focused retirement income planning software, has integrated with Fidelity’s National Financial custodian platform. Advisors who use National Financial’s custodian services now can use LifeYield’s retirement income software with no additional data integration.

“NFS is one of the leading custodians for the financial advisory marketplace, including for many advisors at Cambridge Investment Research, LifeYield’s newest client,” said Mark Hoffman, LifeYield’s CEO and co-founder. “Integrating with NFS makes it easy for advisors to use LifeYield, so it makes perfect sense.” LifeYield is a retirement income generation software solution that helps advisors minimize the tax consequences of decumulation.

LifeYield is also integrated with Pershing’s custodian platform and with Albridge’s account aggregation services.  Any advisor using one or all of these services now can have client tax lot data imported directly into LifeYield’s retirement income software.

 

MassMutual Offers Document Management Solution for TPAs

MassMutual’s Retirement Services Division has introduced a new document management system for third-party administrators (TPAs) of employer-sponsored retirement plans. The system is available to all TPAs and offers unlimited use for one rate, MassMutual said in a release.

The new system includes:

  • Plan amendment processing.
  • Ability to create customized templates and designs at the TPA level so that many provisions can be pre-populated.
  • Tracking, monitoring and review of plan documents and amendment histories.
  • Batch processing of regulatory amendments and required participant notices.
  • Conversion from DC prototype to volume-submitter documents and vice versa.
  • Software upgrades coordinated by MassMutual independently from a TPA’s system.
  • Technical support by MassMutual’s ERISA Advisory Services Team. 

The service is available to all TPAs regardless of whether they have retirement plans on MassMutual’s platform. For more information or a demonstration of the system, call Steve Witkun at (413) 744-0744.

 

NPRF to contribute up to €10bn toward Ireland’s EU bailout, government confirms

Ireland’s National Pensions Reserve Fund (NPRF) contribute as much as €10bn toward the €85bn package under its bailout agreement with the European Union and its state pension will be frozen at 2010 rates for three years, with no COLA, IPE.com reported.

NPRF assets will be used to buy Irish bonds, according to the three-year National Recovery Plan anncounced by Taoiseach [prime minister] Brian Cowen and finance minister Brian Lenihan.  The total domestic contribution to the bailout was said to be €17.5bn.

He said any decisions about how soon and how fast the deinvestment would occur would be a decision for the National Treasury Management Agency. The spokesman added that further details would be released later in the week, when a Memorandum of Understanding would be published.

Jerry Moriarty, head of policy at the Irish Association of Pension Funds, said the NPRF’s funds would have never been sufficient to cover the estimated €116bn in liabilities of the public sector and the state pension.  

“The €25bn in the NPRF was the only pre-funding to cover that – that was never going to be enough anyway,” he said. “Now that’s reduced to €7bn means they are in a much worse place than they have been.” Moriarty said legislation existed to avoid any early draw down of assets prior to the 2025 payout date, simply because the country hit a rocky patch.

“Unfortunately, we’ve hit more than a rocky patch,” he added.

According to its third-quarter results, the NPRF holds €24.5bn in assets, with €6.6bn invested in bank shares of Allied Irish Bank and the Bank of Ireland. The remaining €17.9bn are held in its discretionary portfolio, which returned 6% for the nine months to September, compared with 1.9% returns over the same period for its holdings in the Irish lenders.

 

 

Putnam Lowers Fees on Absolute Return Funds

Posted on December 1, 2010 by -

Putnam Investments said it would lower total expense ratios of its four Absolute Return Funds, which have $2.6 billion in assets, by up to 54%. The reduction will reduce the expenses for Putnam’s 10 RetirementReady target date funds of funds, which include Absolute Return Funds, by up to 24%, the company said in a release.

The new total expense caps, which limit recurring costs such as management and service fees, were implemented retroactive to November 1, 2010, to align with the beginning of the new fiscal year of the Absolute Return Funds. The percentage reductions in the expenses of the Funds’ Class Y shares are as follows:

Absolute Return

Fund

 New total
expense cap*

Expense change (in bps)

Expense change (%)**

100 Fund

0.40%  

-47 bps

-54%

300 Fund

0.60%   

-35 bps

-37%

500 Fund

0.90%   

-29 bps

-24%

700 Fund

1.10%   

-24 bps

-18

* Total expense caps are before any performance fees and exclude certain expenses, such as distribution and service (12b-1) fees (if applicable for a share class). Please see the Absolute Return Funds’ prospectuses for additional details.
** Expense reductions are shown as compared to the expense ratios shown in the Absolute Return Funds’ prospectuses dated 2/28/2010.                
The total expense caps represent a contractual obligation of Putnam to limit the Funds’ total expenses through at least February 28, 2012. 

The Putnam RetirementReady Funds also saw significant reductions in their expense ratios as a result of the new total expense caps for the Absolute Return Funds. The percentage reductions in the expenses of the RetirementReady Funds’ Class Y shares are projected to be as follows:

Retirement

Ready Fund

New

projected
expense ratio

Expense

reduction

 (in bps)*

Expense reduction

(%)*

Maturity 2010

0.74%

-24 bps

-24%

Maturity 2015

0.79%

-20 bps

-20%

Maturity 2020

0.83%

-16 bps

-16%

Maturity 2025

0.88%

-12 bps

-12%

Maturity 2030

0.92%

-9 bps

-8%

Maturity 2035

0.96%

-6 bps

-6%

Maturity 2040

0.99%

-6 bps

-6%

Maturity 2045

1.02%

-5 bps

-4%

Maturity 2050

1.04%

-4 bps

-4%

Maturity 2055**

1.04%

–**

–**

* Expense reductions are shown as compared to the expense ratios shown in the RetirementReady Funds’ prospectuses dated 11/30/2009.
** Putnam RetirementReady® 2055 Fund will be launched on 11/30/2010.                  

This initiative follows the re-pricing of nearly all of Putnam’s other retail mutual funds announced in July 2009. At that time, management fees were significantly reduced or eliminated on fixed income, asset allocation and RetirementReady funds.

In addition, Putnam obtained shareholder approval of “fund family breakpoints” (under which asset-level discounts for management fee determinations are based on the growth of all Putnam mutual fund assets, rather than the growth of an individual Putnam mutual fund’s assets) for all funds and performance fees for U.S. growth funds, international funds and the Putnam Global Equity Fund.

Putnam Investments and Absolute Return Strategies

Putnam Investments launched the mutual fund industry’s first suite of Absolute Return Funds in January 2009 with four funds:

 

  • Putnam Absolute Return 100 Fund seeks to outperform inflation, as measured by T-bills, by 1%, net of all fund expenses, over periods of three years or more, and can be an alternative to short-term securities.

 

  • Putnam Absolute Return 300 Fund seeks to outperform inflation, as measured by T-bills, by 3%, net of all fund expenses, over periods of three years or more, and can be an alternative to bond funds.

 

  • Putnam Absolute Return 500 Fund seeks to outperform inflation, as measured by T-bills, by 5%, net of all fund expenses, over periods of three years or more, and can be an alternative to balanced funds.

 

  • Putnam Absolute Return 700 Fund seeks to outperform inflation, as measured by T-bills, by 7%, net of all fund expenses, over periods of three years or more, and can be an alternative to stock funds.

Absolute return strategies seek to earn a positive total return over a full market cycle with less volatility than traditional funds and largely independent of market conditions. Absolute return strategies also seek to outperform broad market indexes during periods of flat or negative market performance.

© 2010 RIJ Publishing LLC. All rights reserved.

EBSA Proposes Broader Fiduciary Definition for Plan Advisors

Posted on December 1, 2010 by -

The Labor Department’s Employee Benefits Security Administration (EBSA) posted a proposed rule in the Federal Register yesterday that would broaden the definition of a “fiduciary” of an ERISA retirement plan and protect “participants from conflicts of interest and self-dealing.”

Public comments are invited until January 20, 2011.

The proposed rule defines certain advisers as plan fiduciaries even if they do not provide advice “on a regular basis” to an employee benefit plan or to plan participants, according to the posting. Fiduciaries, by definition, must place their clients’ interest ahead of their own and may be held personally liable for lapses in duty. 

“Upon adoption, the proposed rule would affect sponsors, fiduciaries, participants, and beneficiaries of pension plans and individual retirement accounts, as well as providers of investment and investment advice related services to such plans and accounts,” the posting said.

“The proposal amends a thirty-five year old rule that may inappropriately limit the types of investment advice relationships that give rise to fiduciary duties on the part of the investment advisor. The proposed rule takes account of significant changes in both the financial industry and the expectations of plan officials and participants who receive investment advice.” 

 © 2010 RIJ Publishing LLC. All rights reserved.

‘Stretching’ the Match Raises Contribution Rates

Posted on December 1, 2010 by -

Employees tend to contribute more to their retirement plans if the employer matches a fraction of their contribution instead of their entire contribution, even when the employer’s contribution stays the same, according to a Principal Financial Group study.

As indicated in the chart below, employees contributed more when their employer matched 25% of up to 8% of pay than when their employer matched 50% of 4% or 100% of 5%. The maximum employer outlay was the same in each case.

Match Formula

Max. Employer Contribution

 Average Participant Contribution

Total

Contribution

 

100%, up to    2% of pay

2%

 5.3%

7.3%

50%, up to       4% of pay

2%

 5.6%

7.6%

25%, up to       8% of pay

2%

 7.0%

8.8%

“The data tells us that while the employer contribution stays at 2 percent, the higher target deferral in the match formula is spurring participants to save more,” said Barrie Christman, vice president of individual investor services at The Principal. “Employers can incent better savings behavior without having to increase their costs.” Stretching the matching contribution to a higher level does not hurt participation rates, the analysis showed.

Among participants contributing to plan with an employer match, 43% contributed 6% to 10% and 26% contributed 11% to 15%. “We believe most retirement plan participants should be saving in the 11-15 percent range–including employer match–in order to have a sufficient income at retirement,” said Christman. Of that sample group, 75% defer up to their employers’ matching contribution.

© 2010 RIJ Publishing LLC. All rights reserved.

Hungary Nationalizes Personal DC Account Assets

Posted on December 1, 2010 by -

Following Argentina’s 2009 example, cash-strapped Hungary appears to have appropriated the assets of its national defined contribution plan in order to fund its operations, IPE.com reported.

“This is effectively a nationalisation of private pension funds. It’s the nightmare scenario,” said Dávid Németh, an economist at ING in Budapest.

Despite protests from the European Commission and from its own pension funds and analysts, the Hungarian government terminated the country’s mandatory “second-pillar” pension system, consisting of notional individual accounts, and put the nearly €10 billion into the state treasury.

Hungary has a three-pillar pension system. The state-funded pay-as-you-go scheme, similar to Social Security, is the first pillar. In 1997, the country added a second pillar—a mandatory private pension funded by payroll deferral and invested in financial markets to generate additional returns and fund future individual pensions. Hungarians who adopted the second pillar were originally promised a three-quarters state pension.

The government now wants to scrap that program and absorb the savings amassed by the nearly three million people over the past 13 years back into the national treasury.

Participants left the second pillar plan en masse after György Matolcsy, the national economy minister, announced that those who didn’t agree to turn their contributions over to the state would lose their entitlement to any pay-as-you-go first pillar state pension. Before that announcement, polls suggested that up to 70% of participants would choose to keep their second-pillar accounts.    

A financier with ties to the governing Fidesz party said: “This is no longer a purely economic issue. If only 30% had opted back in, it would have represented an enormous loss of prestige.”

A government spokeswoman said that pension contributions would be renamed a pensions tax, implying that the government could spend contributions on anything it likes. Fund members have until the end of January 2011 to decide, but experts say the move makes it all but certain that the bulk of the country’s HUF2.7 trillion (€9.6bn) in second-pillar pension assets will be returned to the state treasury.

Gabriella Selmeczi, the prime ministerial commissioner entrusted with communicating the new plans, said today that future payouts would be based only on income and length of service, and not on the scale of an individual’s contributions.

A voluntary “third pillar” program enables people to save more money for retirement by contributing to private pension funds. Starting in 2012, management fees for those plans will be reduced from 4.5% to a maximum of 0.9% of total assets,  a level most industry experts regard as too low to pay for effective fund management.

A spokeswoman for Olli Rehn, the European Commission’s finance commissioner, said: “We are concerned by the Hungarian authorities’ latest announcement concerning the pension system. The announcements appear to reflect an aim of fully abolishing the private pension system.”

The Commission was concerned about the sustainability of the measure. “The pension funds’ accumulated assets are being used to finance current expenditure,” the spokeswoman said.

© 2010 RIJ Publishing LLC. All rights reserved.

 

Despite reform, retirees face steep health care costs

Posted on December 1, 2010 by -

 The new health reform law will reduce some health costs in retirement for many people, but retirees will still face substantial out-of-pocket health expenses, according to a new report from the Employee Benefit Research Institute (EBRI).

The full report is titled “Funding Savings Needed for Health Expenses for Persons Eligible for Medicare,” and is published in the December 2010 EBRI Issue Brief, online at www.ebri.org.

EBRI finds that men retiring in 2010 at age 65 will need $65,000 to $109,000 in savings to cover health insurance premiums and out-of-pocket expenses in retirement if they want a 50–50 chance of being able to have enough money. To improve the odds to 90 percent, they’ll need between $124,000–$211,000. 

Women retiring this year at 65 will need even more: $88,000 to $146,000 if they want a 50% chance of having enough money, and $143,000 to $242,000 if they want a 90% chance.

Some prior estimates have been significantly revised downward as a result of changes to Medicare Part D (prescription drug) cost sharing that will be phased in by 2020 due to the recently enacted health reform law, the Patient Protection and Affordable Care Act of 2010 (PPACA). These estimates are for Medicare beneficiaries ages 65 and older. Those retiring earlier would need more.

The new EBRI analysis details how much savings an individual or couple will need to cover Medicare and out-of-pocket health care expenses in retirement, updating earlier EBRI simulation results from 2008.

 “Because employers are continuing to scale back retiree health benefits, and policymakers may soon begin to address Medicare’s funding shortfall, more of the financial costs of health care will be shifted to Medicare beneficiaries in the future,” said Paul Fronstin, director of EBRI’s Health Research and Education Program, and a co-author of the report.  

EBRI notes that in 2007 (the most recent data available), Medicare covered 64% of the cost of health care services for Medicare beneficiaries age 65 and older. Retirees covered 14% and private insurance and various other government programs covered the remaining 12% percent of costs. 

Among the key findings of the EBRI analysis:

  • Single men. Men retiring at age 65 in 2010 will need $65,000 to $109,000 in savings to cover health insurance premiums and out-of-pocket expenses, if they want an average (50–50) chance of having enough money. If they want a 90% chance, they’ll need $124,000 to $211,000. 
  • Single women. Women retiring at age 65 in 2010 will need $88,000 to $146,000 in savings to cover health insurance premiums and out-of-pocket expenses for a 50% chance of having enough money, and $143,000 to $242,000 if they prefer a 90% chance. 
  • The near-elderly. Persons now age 55 will need even greater savings when they turn 65 in 2020. The needed savings for men retiring in 2020 range from $111,000 to $354,000, while needed savings for women range from $147,000 to $406,000 (in 2020 dollars), depending on individual factors.      

© 2010 RIJ Publishing LLC. All rights reserved.

Who Is the Typical SPIA Buyer?

Posted on December 1, 2010 by -

Six of every 10 immediate annuity purchasers are women, according to LIMRA’s Guaranteed Income Annuities report, which was based on a review of over 55,000 immediate annuity contracts issued in 2008 and 2009.

LIMRA conducted the report to help insurance companies understand their market, customize their products for specific market segments and to capture more of the research organization calls the $250 billion “unrealized annuitization market.” 

The report showed that:

  • The average age at purchase for an immediate annuity is 73. Immediate annuities purchased with pre-tax money were more likely to be clustered around ages that correspond either to the onset of Social Security benefits or IRS required minimum distributions.
  • The average immediate annuity premium was just over $107,000.
  • Seven out of 10 immediate annuity buyers purchased lifetime guaranteed income contracts.
  • Nine out 10 lifetime income annuity buyers chose payments that were guaranteed for a certain period of time or provided a refund guarantee that enabled beneficiaries to recoup some or all of any remaining premium.

Based on LIMRA’s quarterly annuity sales survey, the majority of immediate annuity sales are made through insurance agents. A growing portion is sold through banks, national full-service broker-dealers or independent broker-dealers.   

“One of the biggest obstacles for potential clients to buy an immediate annuity used to be fear of losing control of their money, said Matt Drinkwater, associate managing director, LIMRA retirement research. “Today, our research shows it’s not an all or nothing decision. Two thirds of the contracts allow annuitants to convert a portion of remaining payments to cash, if necessary.”

Many immediate annuity contracts offer the option to increase payouts by a fixed amount or adjusted by inflation. However, LIMRA found that 93% of income annuity contracts have no automatic payment increase. LIMRA researchers believe the demand for inflation-protected guaranteed payouts will grow in the coming years with more retirees challenged to address this issue as they live longer.

LIMRA projects that annual fixed immediate annuity sales will increase to more than $12 billion by 2014. In the third quarter of 2010, $2.3 billion was invested in immediate or deferred fixed income annuities, according to Beacon Research.

© 2010 RIJ Publishing LLC. All rights reserved.

The Point Person for ‘Secure Retirement Strategies’

Posted on December 1, 2010 by -

In his testimony before a panel of Department of Labor and Treasury officials last September, AllianceBernstein’s Mark N. Fortier described his company’s philosophy about helping plan participants convert life savings to lifetime income.

“We believe that combining a target-date portfolio with a withdrawal benefit can create an attractive QDIA⎯one that provides secure lifetime income similar to what’s offered by a traditional DB plan, but with the control and upside potential of a DC plan.

“I’ll refer to this alternative design as a ‘secure income target-date portfolio.’ Here’s how it works:

“In secure income target-date portfolios, the guarantee is a component of the target-date portfolio’s asset allocation. Starting at around midlife, more and more of the portfolio’s assets are automatically covered by guarantees.

“And the guarantees can be backed by multiple insurers.

What this helps do is promote price competition…It also addresses the risk that any one insurer might default or run out of capacity to guarantee more assets. In our conversations with sponsors, they felt that having the guarantee backed by multiple insurers was more than nice… it was a necessity.”

That, in brief, describes the Secure Retirement Strategies program that AllianceBernstein announced this week. Fortier, who joined AllianceBernstein in 2007 after serving as senior vice president and chief technology officer at Diversified Investment Advisors, worked as a senior portfolio manager on defined contribution plan investments until switching to head of products for defined contribution. He spoke about SRS with Retirement Income Journal this week.

RIJ: How does SRS work?

Fortier: Participants get defaulted into target date funds based on the plan rules, and they start to buy protection based on their age. It can vary from client to client, but we think the right age is about 48. The protection is gradually extended until it covers all of the money in the target date fund.  

Think of it as tranches of lifetime withdrawal benefits. Here’s an analogy. If I buy into 2020 fund, for instance, my money could be split among multiple investment managers. Here, you slice up each contribution three ways, and each insurer insures a portion of money.

All that the participants need to see is how much money they have and how much income they accrued. It’s an incredibly simple concept. First the asset allocation and now the income is provided by experts. At the same time, you’re weaning people off the focus on account values and onto income.

RIJ: How did the program come about?

Fortier: Our development effort has been three to four years in the making. One of the big concerns we heard from plan sponsors from the get-go was that the single-insurer solution was a showstopper. They said, we can’t put all our eggs in one basket. Now what usually gets portrayed as ‘single issuer is actually default risk. I don’t think default risk is the big issue.

On a percentage basis, default risk has been insignificant. What they don’t emphasize is pricing risk and capacity risk. That is, can we be sure we have a competitive offer? If an insurer were struggling, the first thing they would do would be to raise prices or limit capacity.  How can we be sure that that won’t happen? These are the things that are driving us to the multi-insurer solution.”

Not only did the sponsor have heightened sensitivity to the risk of a single issuer, they were also sensitive to fee variability. All of the traditional living benefit riders had price changes built into them, but to the large plan DC market that was a negative. They prefer fee certainty.

So we re-engineered the basic GLWB, and rather than hold the withdrawal rate constant, we said,  Let’s let the fee stay the same, and each of the insurers will put forth an appropriate withdrawal rate for money contributed this quarter. Next quarter, if interest rates go from 5% to 10%, the insurer can increase the withdrawal rate. It’s like dollar cost-averaging.

RIJ: In what sense do the insurers compete?

Fortier: You have three insurers vying for each allocation, and if one offers four percent, and another offers five and the third one offers six, the one offering six will get more money. The one who offers four may be signaling that it doesn’t want any more money right now. If the insurers are afraid of market volatility and can’t afford to offer a five percent payout, all three can lower their withdrawal rates for new money yet to come in.

But this is all done through technology under the surface.

RIJ: Sounds complicated.

Fortier: It sounds complicated but the components are all available today. A TDF does virtually the same thing with multiple investment managers. Regarding the infrastructure, however, AllianceBernstein said, ‘We need to step up and we built the infrastructure.’ That was a departure for us, since we’re pure asset management. We built a benefit administration for this. The recordkeeper maintains control of the client-facing side, but we’re the Intel inside. That makes portability easier because the plan sponsor can change recordkeepers and the new one won’t have to start from scratch.    

RIJ: And it all helps you retain assets.

Fortier: The strategy is ultimately transformative for the defined contribution space. What’s been missing for most DC participants is that they have no reason to leave their money in their plan. So they roll it over. And as long as the world thinks of rollovers as the default at retirement, then for large institutional managers like ourselves the business model is keeping the money in the plan.”

© 2010 RIJ Publishing LLC. All rights reserved.

AllianceBernstein’s Multi-Insurer In-Plan Annuity

Posted on December 1, 2010 by -

Investment management giant AllianceBernstein has formed an alliance with three of the largest annuity issuers—AXA Equitable, Lincoln Financial, and Nationwide—to offer defined contribution plan participants a way to turn their target date funds into a lifetime income stream.

Under the new program, which the company calls Secure Retirement Strategies, plan participants who invest in AllianceBernstein’s target date funds will, about 20 years before retirement, begin protecting that money with a so-called stand-alone living benefit that provides an income that the participant can’t outlive.

Attaching stand-alone lifetime income benefits to target date funds in 401(k) plans isn’t new—Prudential Retirement has been doing it for several years through its IncomeFlex program and Great-West Life & Annuity’s retirement division began marketing a similar program to plan sponsors last spring.

What’s new is that three insurance companies are collaborating to provide the living benefit, not one. AllianceBernstein will face the client, and it has created a proprietary administration system called GATES (Guarantee Aggregation, Trading and Expensing System) to handle the job. But behind the scenes, AXA Equitable, Lincoln and Nationwide will be splitting the task of providing the living benefit.

On a tactical level, AllianceBernstein hopes that this three-legged approach, and the diversification it provides, will quell plan sponsors’ queasiness about liability in case their plan’s insurer defaults on its obligations down the road. For some sponsors, it probably will. Others won’t feel safe offering annuities until the Department of Labor offers an explicit “safe harbor” that exempts them from future risk.

On a strategic level, the $496 billion (as of 12/31/2009) manager of defined benefit, DC and individual assets, wants to find ways to retain participant money under management more or less permanently. Indeed, all of the big institutional investment managers are maneuvering to hold onto the Boomer assets they have and add as much to them as possible. It’s a 21st century financial version of the Great Game, where the prize is management fees on a pool of trillions in savings as rather than Central Asian oil and gas.

How SRS works

Secure Retirement Strategies works like existing SALB programs. When plan participants who have invested in Alliance Bernstein target date funds (whose other managers are bond specialist PIMCO, large-cap value equity specialist Wellington Management and index specialist State Street Global Advisors) reach their mid to late 40s, they begin purchasing a rider that puts a floor under the “benefit base”—the notional amount on which future income payments will be based.

As participants make their period contributions to their TDFs,  AXA Equitable Life (whose parent, AXA Financial, owns 63% of AllianceBernstein), Nationwide, and Lincoln Financial, will compete to guarantee a future chunk of income based on each contribution. The guaranteed payout rates fluctuate with market conditions. They’re also based on the age of participant at the time he or she makes the contribution. That is, earlier contributions buy more future income than later contributions. The standard fee for the guarantee is one percent, although plan sponsors can buy a richer guarantee by paying more.

“It sounds complicated but the components are all available today,” said Mark N. Fortier, CFA, head of the SRS project at AllianceBernstein. “A TDF does virtually the same thing with multiple investment managers.” [See accompanying feature, “The Point Person for Secure Retirement Strategies.”]

Nationwide became involved in the project after receiving a request for proposal from AllianceBernstein in 2009.  “They were looking for multiple insurers [for their project] and we were interested in trying to penetrate the in-plan guarantee market,” said Cathy Marasco, assistant vice president, Nationwide’s Individual Investments Group. AllianceBernstein sought proposals from eight or nine strong insurers at the beginning of the project, Fortier told RIJ. All three of the finalists have A+ ratings (second of 16 categories) from A.M. Best. 

AllianceBernstein provides investment options for Nationwide’s retirement plans, but the companies don’t compete directly in the institutional arena. AllianceBernstein focuses on larger plans and Nationwide focuses on large plans only in the public pension market. The deal gives AXA Equitable and Lincoln access to a large plan market they don’t ordinarily reach, Fortier said.  Lincoln was not available for comment and AXA referred all questions to AllianceBernstein.

 “We’re just providing the guarantee behind the scenes,” Marasco said. “The participants think they have one guarantee but actually their guarantee is split across three insurers. We’ve looked at other designs where there was a lead insurer and a reinsurer. But in this case we own our guarantee and we’re not taking on the risk of the other insurers.

“Each insurer will set its own guaranteed income rates quarterly,” she added. “[Regarding fees], we agreed upon a price, but we have the flexibility to change the payout rate based on the market environment and hedging costs.” 

Outside perspectives

Prudential, whose IncomeFlex program pioneered the addition of stand-alone living benefits to target date funds, is watching the AllianceBernstein effort. The Newark, N.J. based company, the leading seller of individual variable annuity contracts, thinks the three insurer approach solves some problems but creates others.

“We emerged from the financial crisis stronger than ever and we’re leveraging that advantage. So we haven’t had to go the multi insurer solution,” said Brent Walder, senior vice president in Institutional Income Innovations, Prudential Retirement. “We have over 1,000 plans, and our plan sponsors are comfortable with a single insurer solution. We’ve had a lot of dialogues with very large plan sponsors [about liability].

“One way to solve that need is the AllianceBernstein way and split it three ways. You have a higher likelihood of a problem but less severity if one happens. But as you introduce more insurers, there’s more to explain. You have different withdrawal rates for different contributions. Our product is more straightforward and simpler. Those are the tradeoffs.”

Also watching the AllianceBernstein launch is Ron Surz, president of Target Date Solutions in San Clemente, Calif., who designs custom target date funds and is an advocate of TDFs that have zero equity allocation at the planned retirement date. (AllianceBernstein’s institutional TDFs reach a 50% equity allocation at maturity and maintain it through retirement. That makes them easier to hedge than than the firm’s retail TDFs, which have up to a 60% equity allocation at the retirement date.)

Surz thinks that SRS is a step-forward but not a complete retirement income solution for plan participants. “The desire to ‘DB-ize’ DC plans is reasonable and honorable on its surface, but [the retirement income challenge] requires something more creative than jamming retirees into anything, like annuities and/or GLWBs,” Surz told RIJ. “Retirement is way too complex for a one-size-fits-all solution. So the majority should opt out. Those who don’t opt out might be better off with a GLWB than not, but they would be best served by some serious education and review of their options.

“As Einstein said, ‘We cannot solve today’s problems at the same level of thinking that created them,’” Surz added. “I personally don’t believe that the ‘solution’ is currently sitting on a GLWB shelf. But I applaud the efforts to seek out a better way. I also believe that we still haven’t properly tackled the much simpler accumulation phase, where product is primarily designed for profit rather than for the benefit of the participant.”

Liability concerns

Skepticism persists regarding the willingness of plan sponsors to accept in-plan annuities if they can be held responsible for the failure of the insurance partner they choose. “Having the opportunity to diversify the provider risk is something sponsors are interested in,” one observer close to the situation said. “But with this the participant is still getting a sponsor-selected solution.

“You have to remember that the plan sponsors’ confidence in the financial services industry has been shaken deeply. Until they feel that there’s a clear way to deal with the fiduciary liability, they won’t get excited about this. Some will pick it up but not others,” he added.

But he thought that AllianceBernstein was well-qualified be an innovator in the in-plan annuity area. “They get the plan sponsors more than a lot of other groups—maybe because they’re such a great plan sponsor themselves. They work hard at their own program. There’s no ‘shoemaker’s children’ there,” he said.

Lew Minsky, the executive director of the recently-formed Defined Contribution Institutional Investment Association, which is composed of large asset managers, including AllianceBernstein, has also been following the SRS launch closely.

“We went to five cities and talked to large plan sponsors and the most common concern was single insurer risk,” he told RIJ. “Whether it’s a real or a perceived issue, its been holding plan sponsors back from moving forward. That’s one of the things that AllianceBernstein saw in the marketplace. And they saw that if they could get plan sponsors past that issue it would be very impactful.

“AllianceBernstein has been working on this for a couple of years. It’s an incredibly complex and difficult process to get insurers together to collaborate.  You’ve got competing companies with their own business interests and historical differences. There are no anti-trust issues here, as far as I know, but you have a group of companies working in their individual business interests.

“In this case, they’ve decided that it’s in their business interest and in the broader interests of the industry to move this product forward. Equally important, from an industry evolution perspective, [is that] a certain group of insurers sees an unrealized opportunity in the in-plan market, but they’ve had real challenges in taking advantage of it. They see this as a way to tap into that opportunity.

“But I think asset managers in general, and AllianceBernstein in particular, as part of serving the DC marketplace, are honestly trying to figure out the best way to design to design these long-term default investment structures,” Minsky added. “That involves planning for accumulation and decumulation.

“I expect to see other companies trying this. I know of a couple of large sponsors that are looking at doing similar things with their custom target date funds, and one employer that’s looking at forming a multiple insurer pool. We have to get people away from a simple focus on accumulation, and this definitely speaks to that.”

© 2010 RIJ Publishing LLC. All rights reserved.

Four Firms Capture Half of VA Sales

Posted on November 24, 2010 by -

The top four variable annuity issuers—Prudential, MetLife, Jackson National and TIAA-CREF, in that order—accounted for over half of the $98.76 billion in new variable annuity sales in the first three quarters of 2010, according to Morningstar.  

The top 10 variable annuity sellers accounted for about three quarters of all sales through September 30, and the top 20 accounted for about 95% of all sales, as the industry continues to concentrate in the wake of the financial crisis. 

Third quarter sales were down just one percent from the second quarter, falling to $33.61 billion from $33.93 billion. Total YTD sales of $99.8 billion was up from $93.2 billion in the first three quarters of 2009.

But exchanges from one contract to another continue to dominate activity in the variable annuity space. Net flows (new sales, net of exchanges and payouts) were $6.4 billion, up from $6.2 billion in the second quarter and up 125% from net flows of just $2.9 billion in the third quarter of 2009.

Ameriprise experienced the biggest jump in sales from the second quarter to the third, with an increase of $904.2 million—a jump of 80%.  The company’s share of the market rose to 6% from only 3.3%. The only issuer with a comparable leap forward was Horace Mann, whose sales grew 75%, to $24.9 million.

Many companies saw double-digit declines in sales, due either to the customer flight to the top sellers, to a reduction in product benefits, to their business decision to reduce their exposure to risks associated with variable annuity contracts, or to a combination of all three.

The following major VA issuers all recorded double-digit percentage declines in sales in the third quarter (listed from largest to smallest in VA sales): Sun Life Financial, -11.2, Pacific Life, -11.3, John Hancock, -19.2, ING Group, -15.5, Thrivent Financial, -13, New York Life, -18.7, Hartford, -22.6, Northwestern Mutual, -15.6, Massachusetts Mutual, -15.5, Genworth Financial, -12.6, Midland National, -27.9 and State Farm, -42.2.

Asset allocations within variable annuities are less conservative than they were in the first quarter of 2009, but much more conservative than they were at the peak of the mid-decade bull market

In the quarter just ended, 45.6% of the $1.42 trillion in VA contracts was invested in equities, 21% in fixed income funds, 18.8% in balanced funds, 11.9% in bonds, and 2.7% in money market funds. During 2006 and 2007, the equity allocation stayed close to 60%, plus or minus a percent, while allocations to balanced funds ranged from 9% to 12%.

On a nominal basis, variable annuity AUM peaked at $1.49 trillion in the fourth quarter of 2007. At the end of the third quarter of 2010, AUM was $1.42 trillion.

© 2010 RIJ Publishing LLC. All rights reserved.

Decumulation Beat

Posted on November 24, 2010 by -

 A universal fiduciary standard requiring all financial advisors intermediaries to put their clients’ interest first sounds like a self-evident improvement over the status quo, but it’s hard to see how it could work.

Extending the fiduciary label assumes that all advice-giving intermediaries can act the way doctors and lawyers do. But M.D.s and attorneys usually have the independence to act in a client’s interest if they choose. Not all financial intermediaries can act independently.  

A person serves the one who signs the checks. While we live in a representative democracy, most of us (i.e., those who aren’t self-employed or unionized) work in more or less benevolent dictatorships where our loyalty belongs to the firm or the supervisor who pays our wages, salaries and bonuses and controls our advancement. 

As an newsroom colleague of mine used to point out long ago, people should always know “which side their head is battered on.” 

A fee-only advisor who gets paid by his or her clients can take a fiduciary oath fairly easily. Conflicts of interest will arise, but the conflict takes place in the conscience of the advisor. It’s a very different scenario for advisors who are employed by big companies. If they want to advance, they have to be more loyal to the company—to sell or recommend what the company has decided its advisors will sell or recommend, for instance—than to the client.     

We could debate the meaning of “advice,” “advisor,” or “best interest.” We could tell ourselves that an advisor can “switch hats” and use the fiduciary standard for one client and the suitability standard for another. We could conjecture that the parallel interests of the company, its shareholders, its employees and its clients eventually converge. But that’s only in a non-Euclidean universe, not in the everyday world.  

If we created a uniform or harmonized fiduciary standard, we’d be asking some advisors to serve two masters at the same time. That’s either an impossibility or a recipe for existential stress. Or a dilution of the standard itself.

I’m not saying that only self-employed fee-only advisors are capable of acting in the client’s best interest. They’re not necessarily selfless. At a fee-only advisor conference recently, one advisor told me that she doesn’t want to see a fiduciary standard for wirehouse advisors because the fiduciary standard represents her competitive advantage over brokers.

“When I first meet clients, I explain that I’m a fiduciary, and that I work for them. And they like that,” she said.  Sure, she was defending her turf from a new cohort of competitors. But she knows that when she makes a statement like that, she can make it stick. I may be wrong, but I don’t think most wirehouse advisors can do the same.

Disclosures aren’t the solution. Disclosing conflicts of interest doesn’t make them go away.  The most vulnerable investors don’t read disclosures.

Ironically, Securities and Exchange Commission chairperson Mary Schapiro could determine the outcome of this debate.  (The Dodd-Frank financial reform bill left the matter up to the regulators in the executive branch to define the fiduciary rules.)

Why “ironically”? According to reports in credible newspapers, Schapiro accepted a multi-million payout from the financial services industry when she left the top job at FINRA, where she was demonstrably ineffective. In her new, relatively low-paying government job, it must take a superhuman effort not to serve the financial industry first and investors second. 

© 2010 RIJ Publishing LLC. All rights reserved.

The Bucket

Posted on November 24, 2010 by -

Prudential Retirement Introduces FDIC-Insured Plan Option  

 In response to demand for safe investment options, Prudential has added Prudential Protection Account to its suite of institutional retirement solutions. The principal and accrued interest guaranteed investment option is insured by the FDIC for up to $250,000 per participant in Prudential’s 401(a), 401(k) and 457 employer-sponsored retirement plans. 

The Prudential Protection Account is an alternative stable value vehicle that allows for FDIC insurance for individual participants in 401(a) and 401(k) defined contribution plans and governmental 457 plans.

“Prudential Protection Account offers liquidity, principal protection, and a competitive rate of return for plans that use Prudential’s recordkeeping platform,” said Carlos Mello, vice president, Prudential Retirement. The account’s funds are deposited at Prudential Bank & Trust, FSB.

Prudential Retirement offers retirement plans to public, private and non-profit organizations with about 3.7 million participants and $194.3 billion in assets, as of September 30, 2010.  

 

Genworth Financial Repays Credit Facility Loans 

Genworth Financial, Inc., announced that it has repaid $480 million of outstanding borrowings under its five-year revolving credit facilities, paying down $240 million of outstanding borrowings under each of the two facilities. With this, the company has repaid all of the outstanding borrowings under the facilities, which will remain in effect through May and August of 2012.

 

Former Prudential Controller Moves to New York Life    

New York Life announced that John Fleurant has joined the company as senior vice president, finance, and controller, succeeding John Cullen, who spent 40 years at the company. The former controller at Prudential Financial, Fleurant reports to executive vice president and chief financial officer Michael Sproule.

Fleurant is responsible for overseeing the Controller’s, Tax, and Treasury departments, with responsibility for financial planning, accounting policy, and rating agency relationships.

In 15 years at Prudential, Fleurant was also chief financial officer for domestic businesses. He was a senior manager for Deloitte & Touche, where he spent nine years. He holds a bachelor’s degree in Accounting from Widener University and is a certified public accountant.  

Letter to the Editor

Posted on November 24, 2010 by -

Glenn Daily, a fee-only insurance consultant who publishes glenndaily.com, a website that describes itself as a “resource for making good decisions about insurance,” e-mailed RIJ last week with a response to Curtis Cloke’s letter comparing the merits of commissions and fees in the sale of income annuities. Here is Daily’s comment:
There are two problems with Curtis Cloke’s analysis of the relative merits of fees versus commissions for income
annuities (“Fees vs. Commissions in SPIA Sales,” RIJ, 11/17/10).
First, fees can be tax deductible, depending on the taxpayer’s situation. Commissions are not immediately deductible;
they become deductible as income payments are received, in the sense that the income payments are lower than they
would be without the commissions.
The tax disadvantage of commissions is even worse for qualified annuities. If tax rates remain constant, the after-tax
rate of return on qualified money is equal to the before-tax rate of return, so any expense that reduces the return is
costly. That’s why IRA plan sponsors give participants the option to pay administrative fees separately.
Second, for most consumers, separately-paid fees are more efficient than amortized commissions, because the insurer’s
cost of capital is likely to be higher than the consumer’s opportunity cost of money. Actuary Ralph Gorter explained
this product design issue very well in “Credit Card Approach to Pricing” (Product Development News, August 2000,
available at www.soa.org).
Insurers pay commissions when the annuity is issued, and then they recover those costs from the annuity. They typically
seek a return on invested capital of at least 10%, so the amortized cost will reduce the consumer’s benefits by more
than the amount of the commission—and probably by more than it would cost the consumer to finance those costs himself.
Upfront loads are better for long-term product performance, but consumers balk at upfront loads because they are
transparent and therefore painful. It is easier to sell products that bury the loading in interest rate spreads. 

Average Dutch Retirement Age Stays Level

Posted on November 24, 2010 by -

The average retirement age of Dutch workers in 2008 of 62 years did not increase compared with the previous year, Statistics Netherlands (CBS) has found. Nearly 80% of workers who retired in 2008 were younger than the official retirement age of 65.

The leveling off of the retirement age has also been attributed to weakening labor demand in the wake of the financial crisis. That is expected to change, however.

“Because pension funds can hardly pay any indexation now, people will feel the urge to keep on working longer, supported by a recovering economy and a growing demand for labor,” said Lans Bovenberg, an economist at Tilburg University and a director at Netspar, the network for retirement, pensions and aging.

Bovenberg has argued that the state pension should be raised to 68 to meet growing life expectancy. The current minority government has agreed to increase the official retirement age to 66 in 2020, but has not yet passed any legislation.

Between 2000 and 2006, employees stopped working at age 61 on average. However, in 2007, following legislation to discourage early retirement, the average retirement age increased to 62 years.

The retirement age of workers in agriculture and fisheries was the highest in 2008, at almost 65. Employees in the hotel and catering business, as well as staff at service providers in the environmental and cultural sectors, retired at age 63 on average. Workers in the care and building sectors, and in public services, took the earliest retirement (age 61).

© 2010 RIJ Publishing LLC. All rights reserved.

Health Benefit Costs Grow 3X Faster than CPI

Posted on November 24, 2010 by -

Average total health benefit costs per employee grew 6.9% in 2010, or over $9,500—a significant acceleration from the 5.5% increase in 2009 and the biggest increase since 2004, according to the latest National Survey of Employer-Sponsored Health Plans, conducted annually by Mercer. 

That was also three times faster than the growth of the Consumer Price Index in 2010 (the last year before the provisions of the Patient Protection and Affordable Care Act, known by its opponents as “Obamacare,” begin to take effect. Cost rose by 8.5% among employers with 500 or more employees, but by just 4.4% among those with 10–499 employees.

Employers expect high cost increases again in 2011. According to Mercer, employers believe that costs would rise by about 10% if they made no health program changes, with roughly two percentage points of this increase coming from changes mandated by PPACA for 2011.

However, employers expect to hold their actual cost increase to 6.4% by making changes to plan design or changing plan vendors.  Mercer’s survey includes public and private organizations with 10 or more employees; 2,836 employers responded in 2010.

“Employers did a little bit of everything to hold down cost increases in 2010,” said Beth Umland, Mercer’s director of health and benefits research. “The average individual PPO deductible rose by about $100. Employers dropped HMOs, which were more costly than PPOs this year. Large employers added low-cost consumer-directed health plans and found ways to encourage more employees to enroll in them. And more employers provided employees with financial incentives to take better care of their health.”

Enrollment in high-deductible, account-based consumer-directed health plans (CDHPs) grew from 9% of all covered employees in 2009 to 11% in 2010. CDHP enrollment has risen by two percentage points each year since 2006. The cost of HSA-based CDHP coverage averaged $6,759 per employee among all employers in 2010, or almost 25% lower than the cost of PPO coverage.

Starting in 2014, PPACA sets minimum standards for “plan value” (the percentage of health care expenses paid by the plan) and “affordability” (the employee’s share of the premium relative to household income). These changes are stimulating health promotion or “wellness” campaigns.   

In 2010 more employers added incentives or penalties to encourage more employees to participate: 27% of large employers with health management programs provided incentives, up from 21% last year.

As in 2009, medical plan cost increases in 2010 were about two percentage points lower, on average, among employers with extensive health management programs than among those employers offering limited or no health management programs. More than a fourth of employers with 20,000 or more employees require lower premium contributions from nonsmokers.   

The prevalence of retiree medical plans slid to its lowest point ever in 2010, with just 25% of large employers offering an ongoing plan to retirees under age 65 (down from 28% in 2009) and just 19% offering a plan to Medicare-eligible employees (down from 21%). An additional 10% of employers have closed their retiree plans to new hires but continue to offer coverage to employees retiring or hired after a specific date.

The full report on the Mercer survey will be published in late March 2011.  

© 2010 RIJ Publishing LLC. All rights reserved.

 

 

Balances of “Consistent” 401(k) Participants Up 32% in 2009

Posted on November 24, 2010 by -

The average 401(k) retirement account balance rose 31.9% in 2009, according to an survey of consistent participants by the Employee Benefit Research Institute (EBRI) and the Investment Company Institute (ICI).

After the 27.8% decline in 2008, the rise in 2009 was in line with the 2003–2007 pattern of steady increases in account balances. The full report is being published simultaneously at www.ebri.org and www.ici.org.

The EBRI/ICI survey, 401(k) Plan Asset Allocation, Account Balances, and Loan Activity in 2009, is based on records on 20.7 million participants at year-end 2009, including 4.3 million who have had 401(k) accounts with the same 401(k) plan each year from year-end 2003 through year-end 2009.

Though the average 401(k) account balance fluctuated with stock market performance, balances of consistent participants grew at an average annual rate of 10.5% between 2003 and 2009, to $109,723 at year-end 2009 from $61,106 at year-end 2003. 

The average account balance increased 31.9% in 2009 (compared with a 26.5% rise in the S&P 500 and a 27.2% increase in the Russell 2000 indices), which included changes in 401(k) participant account balances reflect ongoing worker contributions, employer contributions, investment gains and losses, and loan or withdrawal activity. The Barclays Capital U.S. Aggregate Bond Index rose by about 5.9 percent.

About one in five of over 20 million participants had loans outstanding at the end  of 2009, up from 18% at both year-end 2008 and year-end 2007. At year-end 2009, 89% percent of 401(k) participants were in plans offering loans.

The share of 401(k) accounts invested in company stock continued its decade-long decline, falling by half a percentage point to 9.2% in 2009.  Recently hired 401(k) participants generally were less likely to hold employer stock.

Stocks are still the most popular asset class. At year-end 2009, 60% of participants’ assets were invested in equity funds, the equity portion of balanced funds, and company stock, while 36% was in stable value investments and bond and money funds.

More than three-quarters of 401(k) plans offered target-date funds (TDFs) last year. At year-end 2009, nearly 10% of the assets in the EBRI/ICI 401(k) database were invested in TDFs. One in three 401(k) participants held TDFs.  

Recent hires were more likely to hold balanced funds or TDFs compared with earlier time periods. At year-end 2009, about 42% of the balances of participants in their 20s was invested in balanced funds, compared with 36% in 2008 and about only 7% in 1998. At year-end 2009, 31% of the balances of recently hired participants in their 20s was in TDFs, up from almost 23%at year-end 2008.

© 2010 RIJ Publishing LLC. All rights reserved.