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We’re devoting the bulk of this week’s and next week’s issues of Retirement Income Journal to the variable annuity market. This week, we focus on the latest products and sales trends. Next week, we’ll delve into some of the issues that cloud the variable annuity industry’s future.  

Later, we’ll combine all of the articles and data in a microsite within our website, to serve as an ongoing resource for annuity manufacturers, advisors and others who have an interest in this product category. Each year, we’ll conduct an industry review.

The VA industry is searching for new directions, new markets and new story lines. The confidence that the industry used to draw from bull markets has largely been missing in the past year, despite the re-inflation of equity prices. Some companies are enjoying immense sales, but even they would prefer to see the whole industry thrive.   

The future may yet belong to variable annuities or to their income guarantees. Five years from now, millions of plan participants might routinely add a guaranteed lifetime withdrawal benefit (or “stand alone living benefit”) to their 401(k) assets, and millions of new retirees might rollover their defined contribution money to a variable annuity in an IRA.

Or maybe not. The variable annuity with a GLWB might become a niche product or perhaps even a relic, as quaint as a Hummer or a video camera that’s so big and bulky you have to rest it on your shoulder. It will depend in part on the economy, both domestic and global. It may also depend on which political party controls Congress, or on who runs the Department of Labor.

The survivability of a particular product is not the most important goal, however. The important thing, at least for those who have a stake in perpetuating the success of insurance companies, is to adapt to circumstance, to continually improve, and to keep all eyes on the prize: designing and marketing tools that help the Baby Boom generation manage its financial risks in retirement.   

© 2010 RIJ Publishing. All rights reserved.

The mortality gap between males with and without a college degree has risen 21 percentage points from 1971 to 2000, so that by the last turn of the century college-educated 25-year-olds could expect to live seven longer than their peers with less schooling.

In a new research paper, “Explaining the Rise in Educational Gradients in Mortality,” David Cutler and Ellen Meara of Harvard, Fabian Lange of Yale, Seth Richards of Penn and Christopher Ruhm of the University of North Carolina at Greensboro, try to explain the gap. 

Even after controlling for smoking and body weight, the college-educated have lower expected mortality rates than their less educated peers. The authors estimate that differential changes in smoking and obesity would have led to a 4 or 5 point decrease, not 21 percentage points. For women, patterns of smoking and obesity only can explain approximately 3 points out of the 42 percentage-point increase.

One possible explanation was that the highly educated have better access to medical care and better adherence rates to prescribed regimes. Another is that environmental and geographically based risks may have declined more over time for the highly educated.

Although they weren’t sure why, the authors thought that even the complete elimination of disparities in behavioral risks across education groups would be unlikely to do away with education-differentials in mortality. A summary of the study did not mention the well-established association between education, wealth and longevity, or whether that association has strengthened over the past several decades.    

© 2010 RIJ Publishing. All rights reserved.

ING has introduced Select Multi-Index 5 and ING Select Multi-Index 7, two registered modified single-premium fixed deferred annuities whose fixed-rate returns are potentially enhanced by linkage to the performance of up to four market indices.

The indices are the S&P 500 Index, S&P MidCap 400 Index, Russell 2000 Index, and EURO STOXX 50 Index as well as a fixed-rate strategy. Investors are not invested directly in these indexes.

“Offering registered fixed index annuities gives us products that we can make available to many banks and full-service brokerage firms, which are looking for more conservative solutions for their clients in this challenging environment,” said Lynne Ford, CEO of ING Financial Solutions.

In late 2009, ING’s U.S. operations merged its annuity and rollover businesses into a new business unit called ING Financial Solutions. ING Select Multi-Index 5 and ING Select Multi-Index 7 were developed as part of a suite of simpler retirement solutions began rolling out earlier this year.

Since then, several new solutions-oriented products, including a multi-manager mutual fund custodial IRA account, a registered fixed annuity, and a lower-cost variable annuity, have been introduced.

ING will still continue to offer non-registered fixed index annuities issued by INGUSA Annuity and Life Insurance Company and ReliaStar Life Insurance Company of New York. 

© 2010 RIJ Publishing. All rights reserved.

Vanguard in the third quarter will introduce its latest target-date fund offering, aimed at investors between ages 18 and 22, confirmed spokesman Joshua Grandy, Pensions & Investments reported. 

The 2055 fund will initially have 72% in Vanguard’s Total Stock Market Index fund; 8.8% in its European Stock Index fund; 4.8% in the Vanguard Pacific Stock Index fund and 4.4% in the Vanguard Emerging Markets Stock Index fund. The remaining 10% will be in the Vanguard Total Bond Market II Index fund.

The Vanguard Target Retirement 2055 Fund will be the 12th in Vanguard’s lineup, which has garnered $41 billion in net flows over the past three years.

© 2010 RIJ Publishing. All rights reserved.

Last week, Sen. Max Baucus proposed changes to the American Jobs and Closing Tax Loopholes Act (H.R. 4213), which the House approved May 28, that would eliminate the requirement that 401(k)-type plans disclose all fees that participants pay.  

 U.S. Rep. George Miller (D-CA), the chair of the House Education and Labor Committee, said that the proposed elimination of fee disclosure requirements was “unacceptable.”  

Federal law does not require the disclosure of fees taken out of workers’ 401(k)-style accounts. The Government Accountability Office found that a one-percentage point difference in fees could cut retirement assets by nearly 20 percent.

Provisions regarding fee-disclosure were based on the 401(k) Fair Disclosure and Pension Security Act, authored by Miller and approved by the Education and Labor Committee last year. Miller’s original bill, which he said would save participants $2 billion, would:

• Help workers understand investment options by providing basic investment disclosures, including information on risk, return, and investment objectives.
• Require workers’ quarterly statements to list total contributions, earnings, closing account balance, net return, and all fees subtracted from the account.
• Give workers the name, risk level, and investment objective of each available investment option before enrolling in a 401(k) plan.
• Require disclosure of fees for each investment option the employee invests, expressed in dollars or as a percentage.
• Require 401(k) service providers to disclose to employers all fees assessed against the participant’s account, broken down into three categories: plan administration and recordkeeping fees, investment management fees, and all other fees.
• Require the U.S. Department of Labor to review compliance with new disclosure requirements and impose penalties for violations.
• Adjust funding requirements so plan sponsors will not have to choose between making forced cash contributions, freezing plans or cutting jobs.
• Adjust the amount of time a plan can make up losses over time and relief on funding-level restrictions, among other provisions.

© 2010 RIJ Publishing. All rights reserved.

Federal Reserve Board Chairman Ben Bernanke addressed the House Committee on the Budget on June 9 regarding economic and financial conditions and the federal budget. Despite improvements in the past year, he said, the long-term outlook is clouded by the aging of the Baby Boom generation. Here’s an excerpt from Bernanke’s remarks:

Our nation’s fiscal position has deteriorated appreciably since the onset of the financial crisis and the recession. The exceptional increase in the deficit has in large part reflected the effects of the weak economy on tax revenues and spending, along with the necessary policy actions taken to ease the recession and steady financial markets. As the economy and financial markets continue to recover, and as the actions taken to provide economic stimulus and promote financial stability are phased out, the budget deficit should narrow over the next few years.

Even after economic and financial conditions have returned to normal, however, in the absence of further policy actions, the federal budget appears to be on an unsustainable path. A variety of projections that extrapolate current policies and make plausible assumptions about the future evolution of the economy show a structural budget gap that is both large relative to the size of the economy and increasing over time.

Among the primary forces putting upward pressure on the deficit is the aging of the U.S. population, as the number of persons expected to be working and paying taxes into various programs is rising more slowly than the number of persons projected to receive benefits.

Notably, this year about five individuals are between the ages of 20 and 64 for each person aged 65 or older. By the time most of the baby boomers have retired in 2030, this ratio is projected to have declined to around 3. In addition, government expenditures on health care for both retirees and non-retirees have continued to rise rapidly as increases in the costs of care have exceeded increases in incomes.

To avoid sharp, disruptive shifts in spending programs and tax policies in the future, and to retain the confidence of the public and the markets, we should be planning now how we will meet these looming budgetary challenges.

© 2010 RIJ Publishing. All rights reserved.

In his new book, Retirementology: Rethinking the American Dream in a New Economy (FT Press, 2010), Greg Salsbury looks soberly at the varieties of financial intoxication that have led so many Baby Boomers to be ill-prepared for retirement.

Yet Salsbury, a vice president at Jackson National Life with a Ph.D. in organizational communication, approaches this serious topic in a mordantly funny way, amusing himself (and his readers) with a nonsense nomenclature of behavioral finance neologisms like“ohnosis,” “finertia” and “financia nervosa.”

Retirementology, a sequel to Salsbury’s But What If I Live? The American Retirement Crisis (National Underwriter, 2006), is based on focus groups with affluent Boomers and Salsbury’s own strong views. It catalogs the dumb things that smart people do with money they should otherwise be saving. It also points out the path to fiscal redemption. 

Recently, Salsbury chatted with RIJ about the book.

RIJ: How scientific or thorough a survey of the American public was the research behind your new book?

Salsbury: It was qualitative research, not empirical. We tried to get a wide swatch of ages, and tried to get typical clients of advisors. We were not particularly interested in the abject poor. They will be at the mercy of the prevailing social welfare systems. We were interested in people who had some savings, who were working toward retirement, who saw themselves as involved in investing.

In the book, you lament Americans’ lack of financial foresight. But how can we be in bad shape if Americans currently have $16 trillion in retirement savings currently invested?

There’s a very small percentage who have adequately saved and they control a disproportionate amount of the savings. A massive percentage of those funds are in a very small percentage of hands, if you will. Two-thirds of all investable assets are with the Baby Boomers, and it’s growing more that way.

But the Boomers represent a financial puzzle for a number of reasons.  Here’s a sobering statistic. Every day 10,000 Boomers, a group the size of the population of Sedona, Arizona, becomes eligible for Medicare and Social Security, the unfunded liabilities of which were $107 trillion before the financial crisis. Those are people who have most of the money to start with but who will be disproportionately draining the system as well.

Just because you have money doesn’t mean you aren’t making the mistakes that I talk about in the book. It might be someone who is buying too much car or buying a 56-foot sailboat. Folks who had multi-thousand-dollar credit card balances thought nothing of adding tens or hundreds of thousands of dollars onto their mortgages. The mistakes happen at all economic levels. There are a lot of boomers who have overspent. They were counting on their house or their vacation home to pay for their retirement.  

The 401(k) activity is disappointing. The number of active participants peaked in 2005, and enrollment hasn’t returned to that level since. People stopped saving. In 2006 alone, people spent $41 billion on their pets. That’s more than the GDP of many countries. Americans went on a spending binge. In the middle of 2005, 40% of all new mortgages were for non-residences. There was an orgy of spending, along with an abandonment of prudent savings.

With the new health care bill becoming law, that will burden the upper end on taxes even further. California is the poster child for the impact of taxes. For four years, more people have left that state than arrived. The wealthy are fleeing the state. The percentage of seven-figure wage earners has been cut in half since 2005. It’s one of the most tax punitive states in the country. And now they’re escalating taxes even further on the upper two percent. There are not enough of those people to generate enough revenue in the first place, and now you chase them out of the state. That’s what they’ve done.

Why are they having such trouble fiscally? One in five budget dollars goes to public pensions. It’s difficult to attack the policies without sounding like you’re attacking the professions. But look at the dollar amounts. The average policeman collects a $97,000 pension. In Vallejo, California, it’s up to $207,900 a year.  To fund the average captain’s pension, it takes $3 million. 

So what’s to be done?

Any retirement plan is doomed by over-expectations. It’s not reasonable to expect three vacation homes or to seven luxury cruises. People will have to look at their spending. They will have to reassess their priorities. They will have to re-examine the amount of assistance that they can or will give to children. They will have to reexamine their use of 529 plans. They will have to ask, ‘Do I fund my retirement properly or give my kid $50,000 and blow myself up?’ People have to make prudent decisions. A lot of people convinced themselves that they were geniuses during the boom. They had one or two homes that were appreciating. They didn’t think they needed a financial advisor.

You recommend the use of ‘holistic money managers.’ What do you mean by that?

Historically, advisors left people on their own for all of their money matters except for their investment portfolio. But those things can’t be as neatly divorced today as they were historically. What you’re doing with your vacation homes and your rental properties may have a material impact on your retirement portfolio. People’s homes morphed from their largest asset to their largest liability.  

How do you handle your own money?

 Personally, I have had more conversations with my wife about spending. I re-examined my household spending. I didn’t get as carried away as some during the boom, but I’ve tried to be even more cautious since then.  For instance, the other day, when I was still having my first morning cup of coffee, a woman walked up the back steps of my deck. She shook my hand and said, ‘Hi, I’m Lacey.’ I said, ‘I’m Greg Salsbury.’ She said, ‘Don’t you know who I am? I’m here for the dogs.’ My wife, unbeknownst to me, had signed up for a dog-walking service. I cut that frivolity out.

You didn’t refinance your house, not even for home improvements?

I refinanced, but I didn’t take money out. It was all about getting lower interest rates. I’ve always maintained a balanced approach on that. I’ve been pretty involved in behavioral finance, so I haven’t been terribly swayed by the momentum of the moment in the market. My 401(k) savings is in a pretty standard allocation. As a 52-year-old male, I have 40 to 45 % of my 401(k) in equities. I have other accounts of similar size that are 100% equities.

What would be your single piece of investment advice to readers?  How should they have handled the crash of 2008-2009? 

They should have been well diversified to begin with. Getting out in the middle of the crisis would have been an improper response. Those who pulled out at the trough in 2009 and who are still sitting on the sidelines aren’t doing so well. But those who stayed the course recovered nicely.

© 2010 RIJ Publishing. All rights reserved.

Jackson National Life Distributors LLC

Thomas M. Marra, 51, has been named president and CEO of Symetra Financial Corp., succeeding Randall H Talbot, who held those positions for 12 years. Marra had spent 29 years at The Hartford Financial Services Group, where he was president and chief operating officer from 2007 to 2009.

Symetra Financial is the parent of Symetra Life Insurance Company, a life and annuity company that raised about $365 million in a January IPO and was listed on the New York Stock Exchange. Symetra originally expected to sell shares for $18 to $20 but ended up selling them for $12 a share. 

The company earned $46 million for the first quarter on $453 million in revenue, up from $5.1 million in net income on $379 million in sales in the first quarter of 2009.

Berkshire Hathaway, Warren Buffett’s company, owns 26.3% of Symetra Financial, according to press reports. White Mountain Insurance Group, of which Berkshire Hathaway subsidiary General Re owns 16%, also owns 26.3%. 

The board of Symetra decided to bring in Marra because he was available, and because board members decided Marra could “take the company to new heights,” said Symetra Chairman Lon Smith in a teleconference, according to a report in National Underwriter.   

Marra has chaired the National Association of Variable Annuities (now Insured Retirement Institute) and the American Council of Life Insurers. He is a Fellow of the Society of Actuaries, a member of the American Academy of Actuaries, and he serves on the board of St. Bonaventure University.

A 30-year veteran of the financial services business, Marra joined The Hartford Financial Services Group, Inc., in 1980 as an actuarial student. He became executive vice president of Hartford Life, Inc., in 1996, COO in 2000 and president in 2002.

Until 2004, Symetra was the life insurance division of Safeco Corp. But Safeco, focusing on property and casualty business, sold the unit for $1.35 billion to investors led by White Mountains and Berkshire Hathaway.

Marra said he has some concerns about the risks associated with Symetra’s large block of fixed annuity business but believes Symetra’s directors and managers understand the pros and cons of that market, National Underwriter reported. “Right now, having a position in fixed annuities is probably our lead strategy,” he said.

© 2010 RIJ Publishing. All rights reserved.

Lincoln Financial Group has launched MyConfidentFuture.com, “a website designed to help people make informed, educated financial decisions.”

“MyConfidentFuture.com provides up-to-date information and timely insights to help empower people to face their futures with confidence,” said Heather Dzielak, Chief Marketing Officer, Lincoln Financial Group.

The website is organized around topics that are relevant in today’s environment and delivers information people can use to successfully navigate their lives through all its transitions including how to:

• Manage risk with insurance
• Retire with lifetime income
• Save for retirement
• Prepare for the unexpected
• Manage the uncertainty of taxes

Lincoln Financial thought leaders and subject matter experts provide valuable educational tools and resources including:

• Videos on the impact of current issues and trends in the industry
• Calculators that provide a snapshot of an individual’s financial situation including a Roth Conversion calculator
• Research and insights to help people understand issues that impact financial planning challenges and solutions
• Surveys and worksheets to get people involved in the income-planning process

© 2010 RIJ Publishing. All rights reserved.

On June 2, the New York Insurance Department published a draft letter, “Guaranteed Withdrawal Benefits and Excess Withdrawals,” on its website that would give owners of annuities with guaranteed minimum withdrawal benefits a 30-day period in which to reconsider intentional or unintentional excess withdrawals.

The draft letter, which will be on the agency’s website until June 16, is intended to elicit comments from writers of annuities with that living benefit.

The agency is concerned that an unwitting excess withdrawal could, depending on the exact terms of the contract, cause a permanent and possibly disproportionate reduction in a contract owner’s guaranteed income base, thus affecting the owner’s financial security in retirement.

In proposing new requirements for such contracts, the draft letter states:

At the time an excess withdrawal is requested, insurers should provide a clear explanation of how the excess withdrawal will affect the contract owner’s guaranteed withdrawal amount.

Providing an explanation at the time the excess withdrawal is requested will enable the contract owner to assess the potential permanent impact on the guaranteed withdrawal amount and make an informed decision whether or not to take the excess withdrawal.

Insurers may want to consider as a best practice informing contract owners at the time of a request that an excess withdrawal may be cancelled within 30 days by returning the withdrawal to the company for crediting as of the date of receipt to the same investment options from which the withdrawal was taken.

To discourage owners of GMWB contracts from taking withdrawals during market downturns, when their account values are depressed, most GMWB contracts reduce the guaranteed income base to the same degree that the withdrawal reduces the account value. For example, if the income base were $100,000 and the account value were $80,000, a $20,000 withdrawal would reduce the income base to just $75,000 and reduce the annual payout (at a 5% payout rate) to $3,750 from $5,000.

While recognizing the insurers’ need to limit their exposure to such adverse behavior, New York insurance regulators wrote, “proportional reductions may result in guaranteed withdrawal reductions that are unfairly disproportionate to the excess withdrawal or amount received for a full surrender.”

New York proposes disclosure of the mechanism of the excess withdrawal aspects of the contract before the contract is issued and at the time of the request for a withdrawal that would cause a reduction in guaranteed income.

© 2010 RIJ Publishing. All rights reserved.

Providers of stable value funds for employer-sponsored retirement plans are concerned that some of the tougher restrictions on derivatives trading in the Democrats’ proposed financial regulations could disrupt their business and hurt the plan participants who hold about $650 billion in the funds.

The campaign to protect stable value funds from collateral damage under the new proposals (S. 3217 and H.R. 4173) is being led by the Defined Contribution Institutional Investors Association (DCIIA), a recently formed trade group of plan providers. According to a recent release from the DCIIA, “Financial Regulation and Consequences on America’s Retirement Savings”:

We believe that the definition of a “swap” contained in the bills could have the unintended consequence of materially and adversely impacting stable value funds.

Existing language in the bill could be interpreted to define “swaps” to include synthetic guaranteed investment contracts, sometimes referred to as “synthetic GICs,” and other types of stable value investment contracts.

DCIIA believes the impact of including stable value investment contracts in the provisions of the bill regulating ‘swaps’ may reduce millions of 401(k) plan participants’ access to or, at minimum increase the cost of, stable value funds.

We also believe it is possible that this legislation may lead to the complete elimination of stable value funds in DC plans, impacting the millions of Americans at or near retirement who rely the return and stability of stable value.”

The conflict apparently stems from the fact that stable value funds have, since the early 1990s, used swaps in the wrap contracts that keep their values stable. According to the Pension Investment Handbook (1998): 

“A synthetic GIC is an investment for tax-qualified, defined contribution pension plans consisting of two parts: an asset owned directly by the plan trust and a wrap contract providing book value protection for participant withdrawals prior to maturity.

“The synthetic is an alternative to a traditional GIC in a stable value fund that unbundles the GIC’s investment and insurance components. The plan investing in a traditional GIC owns a group annuity contract, and the insurance company owns and retains custody of the assets backing the contract. With a synthetic, the plan has custody of the asset and negotiates for the wrap contract providing the book value insurance protection separately.

“Synthetic GICs were first introduced in the late 1980s by banks and investment managers anxious to capture a share of the rapidly growing stable value market. By replicating the traditional GIC’s book value payment feature for participants, synthetic GICs were granted similar book value accounting treatment by many accounting firms.

“Synthetics offered the investor the opportunity to diversify away from what had become a very large single-industry concentration in their GIC funds. This need for diversification became a driving force in the stable value market following the financial difficulties of Executive Life and Mutual Benefit in 1991 and 1992 respectively. From a very low volume of sales in 1990, synthetic GICs rose to 35% of stable value sales in 1996.”

Other language in the proposed legislation would cause the swap dealers who are parties to stable value fund management to become fiduciaries and would redefine 401(k) plans as “major swap participants,” thus subjecting them to a host of new regulations and requirements.

In its release, DCIIA recommends that S. 3217 and H.R. 4173 “be reconciled to preserve the benefits of the current system for stable value funds.” It calls for:

• An exemption for stable value investment contracts issued by bank and other regulated financial institutions, to all or part of the swaps requirements of the bills.

• A provision that swaps dealers not be considered fiduciaries to those plans, when the swaps dealers don’t provide advice and when the plan is represented by an established fiduciary that is not related to the swaps dealer.

• An exemption of defined contribution plans that use swaps primarily to reduce portfolio risk from the definition of “major swap participant.”

© 2010 RIJ Publishing. All rights reserved.

If Americans begin to live longer than expected—that is, if miracle drugs overwhelm the effects of the obesity epidemic—then annuity manufacturers and the Social Security Administration would risk facing much higher payouts than expected.

Offsetting that risk by increasing reserves would force insurers to raise prices for life annuities. That would hurt demand annuities. Another solution that academics propose involves the use of so-called longevity bonds. 

A new brief from the Center for Retirement Research at Boston College, The Case for Longevity Bonds, highlights the benefits of these long-duration, coupon-only bonds, which governments alone would have the capacity to issue. (The brief is based on a longer paper, Sharing Longevity Risk: Why Governments Should Issue Longevity Bonds, from the Pensions Institute, Cass Business School, City University, London.)  

Governments would initially sell the bonds, earning a modest premium, to insurance companies. The bonds would pay coupons that would be higher when the more people outlived expectations and lower when fewer people did. No repayment of principal would be involved. As the brief explains:

• The bond coupons payable each year depend on the proportion of a given cohort that is alive in that year-for example, the percent of men born in 1945, and who were age 65 in 2010, that survives to 2011, 2012, and so on.

• Coupon payments are not made for ages for which longevity risk is low-for example, the first coupon might not be paid until the cohort reaches age 75 (such a bond would be called a deferred longevity bond.

• The coupon payments continue until the maturity date of the bond, which might be, for example, 40 years after the issue date, when the cohort of males reaches age 105.

• The bond pays coupons only and has no principal repayment.

It’s not a simple solution. The bonds would not make a perfect hedge for every insurer, since each insurer’s annuitant base would be different from the people on whose lives the bond’s coupons were calculated. Sub-populations with widely different longevities-African-American men from the southeast U.S. versus Hawaiian women of Asian descent, for instance-might need different longevity bonds.

The paper envisions a longevity bond market where, after a transition period, the government-sponsored bonds would cover only the risk from age 90 forward, thus relieving capital markets of the tail longevity risk that could eventually make life annuities prohibitively expensive.  

© 2010 RIJ Publishing. All rights reserved.

“The one investor who always loses money is the man who wants a piece of paper that represents both a sure thing and a gamble.”

Martin Mayer, the financial journalist (and my first cousin, once removed) used those words years ago to describe the participating preferred or income bond, which supposedly offered bond-like safety and stock-like potential.

As he wrote in Wall Street: Men and Money (Harper & Row, 1955), the first of his books about The Street, the banks, the Fed and other institutions, such securities were custom-built for the “sucker trade.” He didn’t think much of them.

When I study the complex income products that insurers and fund companies are cooking up for soon-to-retire Baby Boomers, Mr. Mayer’s description of income bonds often comes to mind. 

Many of us—and I include myself in the retirement income industry—are trying to build, sell or analyze products that purport to offer bond-like protection and stock-like potential.

The more I see of these products, the more they give me pause. I wonder not just about their ultimate value to the consumer, but also about their safety for the manufacturers. Even the principles that underlie them—which in their extreme forms seem to resemble the principles by which alchemists once tried to convert lead to gold—strike me as incongruously speculative, considering that they are purported to be risk-reduction tools.      

The products in question include almost anything that uses derivatives to keep risk temporarily at bay, in the way that music keeps risk temporarily at bay in a game of musical chairs.

Index annuities and variable annuities with lifetime income guarantees belong to this category. So do structured products that pay an absolute return unless the market vastly over- or underperforms, in which case the investor gets bupkes.

These products work great in the lab, and they keep financial engineers busy. But no one can promise or predict how they will perform. Every customer liquidates his product at a different point in financial history and ends up with different results.    

A product that is both a sure thing and a gamble obviously has broad appeal. Everyone loves one-stop shopping. We now have drugs that control both triglycerides and cholesterol. We have “crossover” automobiles that blend comfort, practicality and excitement. 

So it makes perfect sense that the financial services industry, forced to compete for the fragile resources of a feckless, flattered but financially unsophisticated (on average) cohort of Boomers, would concoct products that eliminate the need for tough choices.

Yet, at some point, the cost of the glue (i.e., derivatives) needed to overcome the tensions inside these products, plus the cost of feeding everyone at the table (manufacturers, distributors, corporate shareholders, employees, asset managers and, last of all, consumers) has to extinguish the value of the products in all but the most benign future scenarios.

In their complex versatility, many of today’s retirement products challenge the most basic and natural of laws: Keep It Simple Stupid (KISS). The more simplicity, the less room for stupidity. While bond funds and equity funds are not invulnerable to the uncertainty of the future, their risks seem relatively easy to gauge.

The issue goes beyond the virtue of simplicity over complexity and transparency over opacity. It involves the futility of creating win-win products for a market that thrives by generating losers and winners.

Still, it is the abiding nature of financial manufacturers to build products, and they must in turn dress up those products and move them. And for dressing, hope and optimism have always served well.

As my cousin also wrote in his first book, “It is notorious on Wall Street that a man selling stock in a gold mine may actually find some gold once the stock has been sold. It isn’t an everyday occurrence, but it isn’t impossible, either.”

© 2010 RIJ Publishing. All rights reserved.