Archives: Articles

IssueM Articles

The Link Between Aging and Populism

The right-wing populism that has emerged in many Western democracies in recent years could turn out to be much more than a blip on the political landscape. Beyond the Great Recession and the migration crisis, both of which created fertile ground for populist parties, the aging of the West’s population will continue to alter political power dynamics in populists’ favor.

It turns out that older voters are rather sympathetic to nationalist movements. Older Britons voted disproportionately in favor of leaving the European Union, and older Americans delivered the US presidency to Donald Trump. Neither the Law and Justice (PiS) party in Poland nor Fidesz in Hungary would be in power without the enthusiastic support of the elderly. And in Italy, the League has succeeded in large part by exploiting the discontent of Northern Italy’s seniors. Among today’s populists, only Marine Le Pen of France’s National Rally (formerly the National Front) – and possibly Jair Bolsonaro in Brazil – relies on younger voters.

Next spring, this age-driven voting pattern could drive the outcome of the European Parliament election. According to recent studies, older Europeans – especially those with less education – are more suspicious of the European project and less trusting of the European Parliament than younger Europeans are. This is surprising, given that memories of World War II and its legacy should be fresher for older generations. Nevertheless, their skepticism toward democratic EU institutions may explain their receptiveness to authoritarian leaders.

Most likely, a growing sense of insecurity is pushing the elderly into the populists’ arms. Leaving aside country-specific peculiarities, nationalist parties all promise to stem global forces that will affect older people disproportionately.

For example, immigration tends to instill more fear in older voters, because they are usually more attached to traditional values and self-contained communities. Likewise, globalization and technological progress often disrupt traditional or legacy industries, where older workers are more likely to be employed. The rise of the digital economy, dominated by people in their twenties and thirties, is also pushing older workers to the margins. But, unlike in the past, crumbling pension systems can no longer absorb such labor-market shocks. The result is that older workers who lose their job are condemned to long-term unemployment.

Moreover, pensioners now have reason to worry about threats to their retirement benefits from their own children. Young people, frustrated with socioeconomic systems that are clearly tilted in favor of retirees, are increasingly calling for fairer intergenerational redistribution of scarce resources. For example, Italy’s Five Star Movement, which governs in a coalition with the League, recently called for a “citizen’s income” that would be available to all unemployed people regardless of age. So, while right-wing populists have attracted older voters, left-wing populist have gained a following among younger generations.

By backing right-wing populists, older voters hope to return to a time when domestic affairs were insulated from global forces and national borders were less porous. At the heart of today’s nationalist politics is a promise to preserve the status quo – or even to restore a mythical past.

Hence, nationalist politicians often resort to nostalgic rhetoric to mobilize their older supporters. For his part, Trump has pledged to bring back jobs in the American Rust Belt, once the center of US manufacturing. Likewise, there could be no clearer symbol of resistance to change than his proposed wall on the US-Mexico border. And his crackdown on illegal immigration and ban on travelers from predominantly Muslim countries signals his commitment to a “pure” American nation.

Similarly, in continental Europe, right-wing populists want to return to a time before the adoption of the euro and the Schengen system of passport-free travel within most of the EU. And they often appeal directly to older voters by promising to lower the retirement age and expand pension benefits (both are flagship policies of the League).

In the United Kingdom, the “Leave” campaign promised vindication for those who have been left behind in the age of globalization. Never mind that it also touted the idea of a free and independent “Global Britain.” The Brexiteers are not known for their consistency.

At any rate, to the extent that today’s populist wave is driven by demographics, it is not likely to crest anytime soon. In graying societies, the political clout of the elderly will steadily grow; and in rapidly changing economies, their ability to adapt will decline. As a result, older voters will demand more and more socioeconomic security, and irresponsible populists will be waiting in the wings to accommodate them.

Can anything be done? To stem the nationalist tide, mainstream parties urgently need to devise a new social compact that addresses the mounting sense of insecurity among older voters. They will need to strike a better balance between openness and protection, innovation and regulation; and they will need to do so without falling into a regressive populist trap.

The answer is not to suffocate global forces, but to render them more tolerable. Citizens of all ages need to be equipped to face current and future disruptions. In this sense, it is better to empower the elderly than simply to protect them. Most advanced economies simply cannot afford massive new benefits for an oversized interest group. And besides, a policy that makes people reliant on some form of external support is morally questionable, at best.

Instead, governments should focus on upgrading older workers’ skills, creating more opportunities for older and younger generations to work together, and holding disruptors accountable for the socioeconomic consequences they generate. Subsidies to the most vulnerable should remain a last resort.

In many ways, older voters’ infatuation with populists is a cry for help. It is up to enlightened politicians to respond to it constructively.

Edoardo Campanella is a Future of the World Fellow at the Center for the Governance of Change of IE University in Madrid.

Will Fee-Only Advisors Warm to Annuities?

The trouble with fee-only advisors—from an annuity marketer’s viewpoint—is that they are master craftsmen. They dig annuities as much as Culinary Institute grads dig Swanson TV dinners. They do custom work. They’re fiduciaries. As a rule, they don’t buy packaged products.

When fee-only advisors attend annuity breakouts at conferences, they ask a lot of sharp-pencil questions. They’re keen to learn how actuarial magicians pull doves out of top hats. They’re sure they can do the same tricks at lower cost. In short, they’re a tough audience.

But annuity promoters, aware that fee-only advisors and registered investment advisors (RIAs) represent a big, untapped market, feel hopeful. Another reason for optimism: Some fee-only advisors now admit that it might be unfiduciary not to consider annuities in retirement planning.

So it was that Wade Pfau, Ph.D., head of the doctoral program in retirement income at American College of Financial Services, and David Lau, creator of the new DPL Financial no-commission annuity platform, could be found preaching annuities to sizable audiences of fee-only advisors at the National Association of Personal Financial Planners conference in Philadelphia this week.

The Pfau philosophy

Wade Pfau

Pfau, as he often does, presented the case that there’s no cheaper way for a retiree to deal with longevity risk—which he called the “overarching financial risk in retirement”—than to transfer that risk to a life insurance company by buying some form of life-contingent annuity.

Indeed, it’s almost QED that, if you’re training to live to 100 by eating kale, drinking turmeric chai, taking Pilates classes and wintering in Arizona, it’s almost a no-brainer to let an insurance company pay you an income based on the assumption that you’ll only live to age 85 (the approximate average life expectancy for 65-year-olds).

Pfau’s claim to fame, in addition to having had Alan Blinder as a thesis advisor at Princeton, is that he has crunched the numbers on the “alpha” of life-contingent annuities so thoroughly over the past decade that even a Ken Fisher would be hard-pressed to refute them.

Although there is no orthodoxy when it comes to retirement income planning, Pfau explained that there are three main schools of thought. There is the time-segmentation method (whose merits are largely behavioral). There is also the Bengen safe withdrawal method (which lacks the certainty that retirees like).

Finally, there’s the build-a-floor-and-go-for-upside method: Retirees should cover all their essential expenses with sources of income that are guaranteed for life (Social Security, pensions and annuities). They should divide the rest of their money between growth-oriented assets (for discretionary expenses or inflation-protection) and short-term reserves for emergencies.

This approach is goal-based, and the goals will vary by client. See Pfau’s presentation slide below. He’s close to finishing a new book on the synergies between annuities and investments in retirement.

DPL Financial Partners

In the other annuity-based presentation in Philadelphia this week, serial insurance entrepreneur David Lau (who co-created Jefferson National’s low-cost investment-only variable annuity business for RIAs and sold it to Nationwide) gave a talk about indexed and variable annuities with lifetime income riders and, to a lesser degree, about income annuities.

Lau has created an Internet platform, DPL Financial, where RIAs and fee-only planners without insurance licenses can buy no-commission annuities from a variety of insurers, including Allianz, TIAA, Great American, AXA, Great-West Financial, Integrity, Security Benefit, and Colorado Bankers Life.

No-commission FIAs tend to have higher caps.

Only indirectly promoting his platform, Lau made the case for deferred annuities with lifetime income benefit riders. These products are hard to explain. It’s not the underlying assets that are hard to explain: Indexed annuities are merely a cake of bonds or bond ladders with an icing of options on an equity index such as, most commonly, the S&P 500 Index.

David Lau

No, what’s hard to explain is the income option. The income options on indexed annuities have drawn interest lately because they promise high annual payouts, relative to deferred income annuities (DIAs) or income options in variable annuities (VA), for retirees who buy their contracts ten years before they intend to take a monthly income from their accounts.

Part of the opacity stems from the fact that there are two layers of options in an indexed annuity with an income rider. There are the equity options in the underlying asset pool. Then there is the put option, which typically costs about 1% per year. When exercised, this allows the owner to convert an actuarially notional sum—the “benefit base”—to a stream of income that cannot be outlived. (The annual income is typically restricted to 5% or 6% of the benefit base.)

Under what circumstances might the owner exercise the income option? You would ordinarily do it if the market has done badly and the actual account value (liquid, accessible) is significantly lower than the benefit base. But the option doesn’t give you direct access to the benefit base—it only gives you access to a guaranteed income equal to a percentage of the benefit base. The client still has access to the money in the account, although taking ad-lib withdrawals will reduce the annual income.

After the presentation, an advisor from Rye, NY, turned and said, “I think I’m starting to understand it.” It all depends on whether the client, after six, seven or 10 years, exercises the option and takes the annual income.

There’s the rub. The promised payouts on the product are high in part because quite a few contract owners pay for the option and never use it. Ergo, don’t use this product unless you know you’ll exercise the option, or unless you use the option for protection only during the 5-10 retirement “red zone” years. If the market doesn’t crash during that time, you can stop paying for the option.

How does DPL get paid for providing its annuity platform? “RIAs pay a membership fee to join DPL.  That’s an expense for the firm essentially hiring us as an outside expert,” said Heather Rosato, DPL Financial’s chief marketing officer. “The carriers pay us an administration fee for the infrastructure we provide to distribute their products to RIAs (product education, licensing capabilities, broker-dealer, etc. That fee is baked into the product cost. Carriers can eliminate not only the commission but also their wholesaling and marketing costs. Our fee replaces those distribution costs and is 80-90% lower.”

The new no-commission platforms mentioned above may not be an entirely new phenomenon. In the exhibition area of the conference, one of the booths was sponsored by LLiS. It bills itself as “The advisor’s insurance advisor.” The person manning the booth assured me that LLiS, whose CEO is Mark Maurer, has been offering commission-less annuities and other insurance products to RIAs and fee-only advisors for years. It seems that LLiS now has more competition.

Compensation dilemma

Some fee-only advisors are, not surprisingly, a bit confused about how to get paid for recommending a no-commission annuity to a client. In sidebar discussions at the conference, some of them confessed they would not feel right in buying, for instance, a no-commission annuity for a client and then charging the client a 1% management fee for the money in the annuity.

At the same time, some feel that it wouldn’t be ethical to deny their older clients the demonstrable insurance benefits of annuities just because such products don’t fit their business model. It’s a dilemma.

© 2018 RIJ Publishing LLC. All rights reserved.

Flight from active to passive funds and ETFs slowed in September: Morningstar

Investors placed $19.4 billion into passive U.S. equity funds in September, compared with inflows of $13.0 billion in the previous month, according to Morningstar’s latest flow report on U.S. mutual funds and exchange-traded funds (ETF).

On the active front, investors pulled $8.8 billion, compared with $14.4 billion of outflows as reported last month. Morningstar’s report about U.S. asset flows for September 2018 is available here.

Highlights from the report include:

  • Estimated long-term flows were $28.2 billion as U.S. equity funds rebounded with $10.6 billion of inflows and taxable bond funds led all groups with $20.9 billion, while international equity demand remained light with approximately $850 million.
  • Morningstar’s large blend, intermediate-term bond, and ultrashort bond categories continue as the most popular categories among bonds, with inflows of $9.1 billion, $6.1 billion, and $5.3 billion, respectively. Allocation—30% to 50% Equity was the least popular category, with outflows of $2.4 billion in September.
  • Vanguard had the highest monthly firm inflows of $16.5 billion among top U.S. fund families, while State Street Global Advisors saw the second highest firm inflows of $10.4 billion.
  • Among all U.S. open-end mutual funds and ETFs, Fidelity Advisor Growth & Income saw the most inflows of all active strategies at $1.8 billion, the fund’s highest inflows in a decade.
  • Fund families that saw the greatest outflows included Harbor, which had approximately $3.5 billion of outflows in September. Harbor International, an active fund with a Morningstar Analyst Rating of Bronze, was responsible for majority of those outflows at $3.4 billion.
  • Franklin Templeton had the second-highest outflows at $2.7 billion with T. Rowe Price and AQR following with outflows of $1.9 and $1.1 billion, respectively.

Morningstar estimates net flow for mutual funds by computing the change in assets not explained by the performance of the fund and net flow for ETFs by computing the change in shares outstanding.

© 2018 RIJ Publishing LLC. All rights reserved.

Two firms position themselves for the ‘open MEP’ market

Two firms that have been active in the emerging area of provider-sponsored multiple employer retirement plans–a market that could explode if Congress passes the pending Family Savings Act of 2018–announced a new partnership this week.

TAG Resources has appointed Mesirow Financial to act as the 3(38) investment fiduciary on the TAG 401(k) Aggregated Solution, according to a release. Together, they will offer employers of all sizes “end to end” retirement plan fiduciary oversight.

TAG Resources will serve as the plan administrator and named fiduciary, as defined under ERISA sections 402(a), 3(16), and 3(21), with Mesirow Financial serving as the 3(38) investment manager.

A 3(38) Investment Manager is responsible for the investment selection, monitoring, and ongoing due diligence of the funds in the investment menu in accordance with the Investment Policy Statement for the plan.

The 401(k) Aggregated Solution offers outsourced retirement plan administration. Because the program is built on an “aggregated” model, smaller companies gain the advantages of an institutional service model which would otherwise not be available to them. Benefits include ease to the administrator, minimal fiduciary liability, partnerships with well-known providers, regulated compliance, and competitive cost.

Mesirow Financial specializes in investment, risk management and advisory services. Advisory services are offered through Mesirow Financial Investment Management, Inc., an SEC-registered investment advisor. To learn more, please visit mesirowfinancial.com.

TAG Resources, LLC, headquartered in Knoxville, TN, is a pioneer in the area of Multiple Employer Plans (MEPs), including creating and trademarking “The Open MEP.”

© 2018 RIJ Publishing LLC. All rights reserved.

Some investors ‘bet the farm’

Despite the infinitesimal odds of winning a state lottery, millions of hopeful people buy tickets every day. One explanation for this behavior is that many individuals substantially overstate their likelihood of winning. The tendency for individuals to over-weight low probability events, while also under-weighting high probability outcomes, is known as “probability weighting.”

In “Household Portfolio Under­diversification and Probability Weighting: Evidence from the Field” (NBER Working Paper No. 24928), Stephen G. Dimmock, Roy Kouwenberg, Olivia S. Mitchell, and Kim Peijnenburg show that probability weighting leads investors to under-diversify their stock holdings, hoping to win big by picking “the next Apple,” but thereby taking on more risk than necessary and missing out on improved financial performance.

The researchers surveyed several thousand respondents in the RAND Corporation’s American Life Panel. The survey, required participants to choose between small but highly probable payouts and large but low-probability payouts, allowed the researchers to calculate the guaranteed amount that an individual required to forego an opportunity for a more uncertain, but higher expected payout. Participants were betting with real money.

Most respondents overestimated the probability of rare events, and underestimated the likelihood of more certain, but lower-value, payouts, the researchers found.

“On average, when the probability of winning a lottery is only 5%, our subjects’ certainty equivalent is greater than the expected value of the lottery, which is consistent with overweighting the small probability of winning,” they report. “By contrast, when the probability of winning a lottery is higher (e.g., 50%), our subjects’ certainty equivalent is less than the expected value of the lottery.”

The stronger someone’s probability-weighting tendency, the more likely she or he is to “bet the farm” on individual stocks, rather than investing in a mutual fund that tracks the market. Among those who own individual stocks, 75% held five or fewer, and half held stocks in just one or two individual companies.

Among those in the sample who participated in the stock market, the average share of their portfolio allocated to individual stocks was 45%. When high, this can be a tell-tale sign of under-diversification.

Under-diversification reduces investors’ risk-adjusted returns relative to a fully diversified portfolio. The researchers estimate that the average stockholder’s reliance on probability weighting reduces that investor’s risk-adjusted portfolio income by about $2,500 per year.

When investigating the factors that affect stock ownership, the study controlled for age, income, financial wealth, and education, as well as risk aversion, financial literacy, trust, optimism, and numeracy. Probability weighting was not correlated with intelligence, education or optimism.

© 2018 RIJ Publishing LLC. All rights reserved.

Individual Tontine Accounts – Yes, Seriously!

Tontines are a much-misunderstood investment arrangement that deserve a fresh look. Put aside everything you thought you knew about them. Forget the devious plots found in fiction novels, and do not confuse modern day tontines with the sketchy, opaque products called “tontine insurance” that were banned out of existence a century ago.

Modern day tontines such as we envision are fair to all, completely transparent, simple to understand, perpetually open to new members, always fully funded, able to provide the assurance of lifetime income to those who want it, less expensive than guaranteed lifetime income alternatives… and surprisingly versatile!

In a recent study, we explored this versatility potential by examining the concept of tontine brokerage accounts in which individuals freely invest as they choose and select from a wide array of payout options. We show that such arrangements, which we call individual tontine accounts, or ITAs, can be fair to all members regardless of who else participates and what decisions they make in their own accounts.

ITAs could serve as a special type of mortality-pooled Individual Retirement Account (IRA), allowing retirees to derive extra income from their savings without taking on additional investment risk, and giving themselves the option to secure annuity-like lifetime income at lower cost. The time is ripe to take a serious examination of the modern-day fair tontine as an important new arrow in the quiver for addressing the global retirement crisis.

What is a tontine and how is it different?

A tontine is a financial arrangement in which members mutually and irrevocably agree to receive payouts while living and share the proceeds of their accounts upon death. Specifically, a member’s account is forfeited at death, with the proceeds apportioned among the surviving members. Payouts naturally vary depending on investment performance and the mortality experience of the membership pool.

Tontines offer investors a way to pool mortality and longevity risks directly among themselves, without intervention by any insurance company. Risk pooling is powerful because although the lifespan of any individual member is highly uncertain, the lifespan of the group is much less uncertain.

Tontines allow members to diversify away substantially all idiosyncratic longevity risk – the uncertainty associated with how long they will live and how much they can withdraw or spend without outliving their savings.

Members do bear systematic mortality risk – the risk that the entire membership group lives longer or shorter than expected. However, this risk is mitigated by the fact that adjustments to tontine payouts are made gradually over time. Should the membership die slower (or faster) than expected, payouts adjust downward (or upward). These continual adjustments, along with similar adjustments for investment performance, are the mechanism that keeps the tontine fully funded at all times and allows it to offer the assurance of lifetime payouts. To anyone concerned about the sad state of underfunded pensions, these words are music to the ears.

How does a tontine compare to a payout annuity?

Unlike payout annuities, tontines guarantee nothing. Fixed income annuities guarantee some assumed interest rate, whereas variable income annuities do not. Both types of annuities provide guarantees that cover both the idiosyncratic and systematic components of longevity risk. Tontines alleviate the idiosyncratic component only, but keep in mind that this component represents by far the greatest worry. In addition, since insurers must charge for the risks they take on, annuity purchasers sacrifice a significant yield as the price for transferring the systematic component of mortality risk to an insurer rather than bearing it themselves.

How do tontine returns compare to those a regular investment?

The total return of a tontine investment is a function of two components: 1) the investment returns, and 2) the amounts credited to survivors when other members forfeit their accounts at death. It is the second component, which actuaries call “mortality credits” but we call “tontine gains,” that makes the tontine return different from that of a regular investment.

Tontine gains reflect the extra amount credited to a surviving member’s account due specifically to having invested in a tontine. Members suffer complete tontine losses when their account balances are forfeited upon death, but surviving members enjoy tontine gains when the proceeds of these forfeitures are shared among them. For actuarially fair tontines such as we advocate, the net effect is that the expected total tontine gain to each member is zero.

Zero?

“Yeah, zero is a wonderful thing. In fact, zero is my hero.”

As proffered in the 1973 Schoolhouse Rock song lyrics by the late jazzman Bob Dorough, zero is a wonderful thing. That the expected net total tontine gain for each member is zero means that the expected total return of each member’s investment is the same regardless of whether it is made inside or outside of the tontine. This principle is what enforces fairness; no one is advantaged or disadvantaged by entering the tontine.

The useful thing about this is that although the expected value is the same whether inside or outside a tontine, investing inside a tontine changes the conditional distribution of outcomes – those who live long lives do better by participating in the tontine, while those who die early do worse. (The zero expectation is an average, weighted by the member’s probability of survival.)

Individual Tontine Accounts

We envision ITAs as individually owned investment brokerage accounts offered through a common tontine pool. They may be opened as IRAs or standard taxable accounts. Contributions are irrevocable, but members may invest and trade as they wish, selecting among a range of permissible liquid investments, including stocks, bonds, exchange traded funds (ETFs), and mutual funds. Naturally, those desiring smoother payouts would select more conservative (i.e., less volatile) investments.

At the time an account is opened, the member elects a payout option from a wide variety of alternatives. Examples include lifetime payouts similar to immediate life annuities, deferred lifetime payouts similar to longevity insurance, payouts over a specified period similar to term annuities, or even a simple term investment. This election is binding such that the selected payout schedule may not be accelerated.

Fees would be plainly and transparently disclosed, and all-in costs to members could be very low when low-cost investments are selected. Our proposed method of tontine accounting is fully transparent and readily auditable. Member statements are easy to understand, showing a full accounting of the cash flows that affect a member’s account balance and payout.

Surprise! The decisions of others do not matter

One of the most paradoxical attributes of fair tontines in general and ITAs in particular is that an individual member’s results are largely unaffected by the investment and payout choices of the other members. How can it be that an aggressive investor is not disadvantaged by being in a pool full of conservative investors who are likely to die with lower balances than if they had invested more aggressively? Wouldn’t he be better off if the other members also invested aggressively and died with larger balances? The surprising answer is no – the decisions of others will not much matter (nor will their demographics). Those who find this puzzling may wish to read our Individual Tontine Accounts paper.

Individual tontine accounts are an attractive solution to the retirement income problem. They operate like IRA brokerage accounts, with the added benefit of providing tontine gains on top of a member’s underlying investment returns.

Economists and public policy makers have long pondered the so-called annuity puzzle; namely, why do so few people annuitize when it seems to be in their interest to do so? To the extent that the answer involves the perceived high costs and lack of transparency of annuity products, ITAs represent an attractive remedy.

ITAs give retirees a low-cost way to derive extra income from their savings without taking on additional investment risk. Since account holders cannot withdraw freely from their accounts whenever they wish but rather only per a payout schedule selected at the time of contribution, ITAs are not a complete replacement to traditional IRAs. But they could be a useful complement, one with unique benefits not otherwise available from traditional investment and annuity products.

Richard Fullmer is founder of Nuova Longevità Research in Baltimore, MD. Michael Sabin is an independent consultant in Sunnyvale, CA.

© 2018 Richard Fullmer and Michael Sabin. Used by permission of the authors.

Are fewer people seeking financial advice?

Given the increasingly complex and critical nature of households’ use of financial services and the growing pressure that limits time in which to research and make good decisions, one might think that households’ use of professional financial advice would be increasing. In fact, however, the opposite is true.

After an extended period of good economic news—and right before recessions—people tend to believe that they do not need financial advice. Or, as the adage asserts, investors mistake a bull market for brains. Although it’s true that that immediately following a recession the proportion of households that seek financial advice increases, overall, the proportion of households doing so remains consistent at about 25%, give or take 5%.

Figure 1: Have Obtained Professional Financial Advice in the Past Two Years

When one uses age cohorts to deconstruct households that obtain financial advice, a disturbing pattern emerges. Since the Great Recession, older age cohorts (Boomers and Silent/Greatest Generation) are more likely than all households to obtain professional advice; younger cohorts (Gen Xers and Millennials) are less likely to do so. The divergence is not attributable to the increasing need for advice among older cohorts. During the decade before the Great Recession, little difference existed in the proportion of households—except Greatest Generation households—obtaining professional financial advice by cohort. If the pattern of decline continues, Boomers may be the last age cohort to obtain professional financial advice. Ultra-high-net-worth households will always be an exception to this pattern; use of professional financial advice among mass-affluent households is likely in jeopardy.

Figure 2: Likely to Obtain Professional Financial Advice in the Next 12 Months

Evidence of this disturbing downward trend: The proportion of households that say they are somewhat or very likely to obtain professional financial advice in the next 12 months continues to decline from a high of 50% in 2000 to a low of just below 30% in 2016. Overall, recessions seem to have no impact on this trend. In fact, following the most recent recession, Boomers are only somewhat more likely and Millennials are less likely to be thinking about seeking advice. Because Boomers are such a large cohort, some decline may not be readily apparent; the numbers may be blinding some institutions to this trend. By the time Boomers enter their later years—when financial planning declines because plans are set—a more precipitous drop-off may become obvious.

Why are the use of and the propensity to use professional financial advice declining? Given the complexity and importance of households’ effective use of financial products and services in order to survive and thrive in modern society, why is professional financial advice vulnerable?

MacroMonitor subscribers have access to this month’s Segment Summary, Households That Need Professional Financial Advice: An Opportunity?an analysis of households (with at least $100k in financial assets) that have not recently obtained nor are likely to obtain professional financial advice. Subscribers may also request the underlying set of data for the Segment Summary. For more information, contact CFD.

Ohio National Hits the Trail

Hell hath no fury like a financial advisor denied a promised trail commission on a significant book of variable annuity business.

Not long after Ohio National’s September 28 announcement that it would cease paying certain financial advisor their roughly one percent annual “trail” commission on perhaps hundreds of millions of dollars worth of sales of a no-longer-issued ONcore Lite and similar variable annuities, one of the affected advisors vented about it on the phone.

An opinion-maker in the $2 trillion variable annuity universe who requested anonymity, said he was astounded. But he was far from speechless.

“It creates a tremendous conflict of interest, because advisors are left to service the contract, with all the liability that goes with that, for no revenue. They’re creating suitability issues and a high probability that either the registered rep or the policyholder will engage in terrible behavior. FINRA needs to step in,” he said.

Ohio National’s move stings, he said, because the products in question had been highly popular and attractive (i.e., underpriced) and because it hurts advisors who were trying to get paid in a client-friendly way. That is, they accepted a trail commission from the issuer instead of the “heat” commission—a one-time up-front payment that gives the advisor minimal incentive to “service” the contract over the ensuing years.

“Those Lite products had the richest guaranteed minimum income benefits. My own money is in it. It had unlimited investment restrictions. You needed to maintain it carefully, because you could void the guarantee if you didn’t annuitize at the right time, but it was gold. It had a 6% withdrawal rate, net of fees. And if you got close to running out of your own money, you could annuitize the full benefit for life with 10 years certain.”

Variable annuities with lifetime income benefit riders are riddled with complex tradeoffs, not just for the contract owners, but also for the advisors. Depending on how advisors prefer to get paid (which depends on their licenses and business models), they may have several payment options: an upfront 7% commission, or a one percent trail commission, or no commission. If they choose the latter, they charge clients their usual comprehensive fee on the value of the assets in the mutual funds “inside” the insurance wrapper.

Now the advisors who took the trail are being punished. “It’s a terrible precedent. For last decade, advisors have been pounded from officials about upfront commissions. They wanted us align our interest with the client and stop churning. Now everybody will want to take the front-end commission. It will set the industry back a decade,” he said.

The crux of the matter is that, as long as those trail-fed contracts are in force, Ohio National may be collecting a 1.40% annual fee from the client but not transferring the agreed-upon portion of that fee to advisor. In addition, Ohio National is said to still be compensating its captive advisors (full-time employees) who sold the products in question.

A high-stakes game of chicken may be going on here. By its actions, Ohio National appears to hope that advisors will advise contract owners to cash-out of the product or exchange it for another one. That would relieve Ohio National of unwanted liabilities without the insurer making an expensive offer to buy out the contracts, which other variable annuity issuers in a similar position have done.

“[Ohio National] offered a buy-out earlier this year,” the advisor said. “But it was a dried-up carrot. Now they’re using a stick.” He said that when John Hancock and the Hartford got out of the variable business, they continued t pay trail commissions. And when AXA and ING, for instance, wanted to escape from certain contracts, they offered attractive buy-outs.

If Ohio National is playing chicken, the strategy carries obvious reputational risks, not to mention its negative impact on others. Contract owners may feel squeezed into abandoning products they like. Advisors, with no incentive to continue advising the client, could cease to do so, perhaps unethically. Without advice, contract owners could fail to use the contract properly and lose the guarantees they’ve been paying for.

There’s a larger context to this news item. The advisor told RIJ, “Ohio National has had a new president since August 22. He fired 25% of the staff. He let go 300 out of 1,300 employees. He got out of the variable business and, through a loophole in every contract, he’s trying to stop paying contractual compensation to advisors.”

In August, Chris Carlson, Ohio National’s vice-chairman of strategic business, replaced Gary “Doc” Huffman as CEO. In September, the Cincinnati-based life insurer announced that it would drop its annuity and retirement businesses and lay off 300 workers. On September 7, Standard & Poor’s downgraded Ohio National’s financial strength rating to an A rating (sixth of 21) from an A+ rating (fifth of 21), with a negative outlook.

Today, an Ohio National spokesperson gave RIJ this statement:

We recently announced a new strategy focused on growing our life insurance and disability income insurance businesses. As part of our strategic planning process, we completed a comprehensive evaluation of our entire business. Based on this evaluation, we’ve made the strategic decision to focus Ohio National to build on our strengths in life insurance and disability income insurance.

As a result of our focused strategy in life insurance and disability income insurance, we are no longer selling new annuity contracts and retirement plans, but will continue to service and support our significant block of existing contract owners. This focus will increase our organizational agility, and our laser-focused business mix enables greater long-term financial flexibility to invest in growth opportunities.

While the majority of our selling agreements are being replaced with a service agreement or service letter as a result of our new strategy, the steps we are taking allow for advisers to continue to service their clients’ needs as they do today. All advisors continue to have access to their client information and can continue to service them. Consistent with our more than 100-year history, we will continue to service and support all our existing annuity and retirement plan contract owners now and going forward.

Our arrangements with individual broker-dealers or categories of broker-dealers may differ due to a range of factors. While a vast majority of policies are unaffected, generally the changes made were to older generation products—those written prior to May 2010. We believe advisors do and will continue to act in the best interest of their clients.

Ohio National is only the latest life insurer to reduce its exposure to variable annuity risks. The stock market collapse in 2008 and the subsequent period of low interest rates made it difficult for many issuers to support products.

In the years that followed, some issuers “de-risked” their products (i.e., made the guarantees less generous), some bought back their riskiest products, and some left the variable annuity business. As supply has fallen, so have sales. The VA industry is now highly concentrated. Four life insurers—Jackson National, Lincoln Financial, Prudential Financial, and AIG—accounted for 40% of VA sales in the first half of this year.

Ironically, the news that Ohio National stopped paying intermediaries came only a week before a big media event in New York for the Alliance for Lifetime Income, which is trying to spruce up the image of the annuity industry and raise its popularity as a solution for Boomers without pensions (see today’s lead story). Ohio National is not a member of that non-profit, industry-funded organization.

Sheryl Moore, CEO of Wink, Inc., a provider of annuity data to life insurers, told RIJ, “I am surprised to hear that an insurance company has opted to discontinue paying trail commissions to a select portion of their salespeople on their living benefits. I have to wonder how this will affect the sales of their other products.”

Moore put a fine point on it: “I am saddened to hear that another insurance company is exiting the annuity business at a time when Americans need a guaranteed paycheck to insure their retirements more than ever.”

© 2018 RIJ Publishing LLC. All rights reserved.

Jackson joins Envestnet Insurance Exchange

Jackson National Life Insurance Company will offer its suite of advisory annuities on the Envestnet Insurance Exchange, including Perspective Advisory II, Elite Access Advisory and MarketProtector Advisory, the company announced recently.

The Envestnet Insurance Exchange will be available through various tools and features within the advisor portal of the Envestnet Platform later this year. Financial advisors will need an insurance license to introduce insurance products.

Envestnet will be offering a service called Guidance Desk that will allow unlicensed RIAs access to the consulting and fiduciary services that would enable them to use the Insurance Exchange. This service is still in development.

The Envestnet Insurance Exchange connects select insurance carriers and established account processing vendors with Envestnet enterprise clients, allowing advisors to deliver cohesive and consistent holistic advice by incorporating insurance solutions into the wealth management process.
“The planning process will be much more seamless. There won’t be a separate experience for the insurance part. The whole annuity function will be integrated into Envestnet’s financial planning tool. The advisors will have an integrated annuity product selection tool sitting alongside their managed accounts,” Dev Ganguly, senior vice president and chief information officer at Jackson, told RIJ in an interview.

“When advisors create a goal-based financial plan combining other investments and annuities, customers benefit from having comprehensive solutions to support their desired outcomes,” he said. “Technology integration supports order entry; providing near straight-through-processing with the established annuity vendors. The advisor will be able to transfer funds [between variable annuity subaccounts] and digitally make withdrawals, with pricing that comes straight from the carrier. We’re planning on allowing electronic signatures.

“The fee-based RIA typically utilizes a platform rather than paper,” Ganguly added. “And the type of advisor who uses Envestnet is used to creating a financial plan, moving right into order entry, placement and expects post issue capabilities digitally.  If a certain product type, like variable annuities, does not fit that flow they’re reluctant to use it.

“There are also RIAs with no broker-dealer affiliation, limiting their capability to sell annuities. In those cases, Envestnet’s Guidance Desk will provide the services of a broker-dealer.

“Even if you look at our top broker-dealer relationships, where we distribute commission-based variable annuities, fee based annuities are not sold very much because of the limited capabilities of the platform to complete the sale. On the fee-based side, the integration between other investments and insurance is non-existent. By contrast, the Envestnet Insurance Exchange integrates everything, and so takes away a lot of the advisors’ objections to annuities.”

© 2018 RIJ Publishing LLC. All rights reserved.

Which annuities pay the most income? Cannex has a clue.

There’s no easy response to the question, “Which annuities provide the highest guaranteed income?” But product appraisal tools introduced last year by Cannex, the Canadian-American annuity data shop, are designed to help advisors make something reasonably close to apples-to-apples comparisons.

A new report, “Guaranteed Income Across Annuity Products,” is based on a study conducted using those analytic tools. The report shows that even when different annuity contracts offer equivalent benefits “on paper,” they can still generate different amounts of monthly income for different clients. Individual payouts depend in part on gender, age when income begins, length of delay between purchase and when income begins, whether the contract is single or joint-and-survivor, and whether the income is inflation-adjusted.

“Using our quantitative tools to compare different types of annuities across products and providers on an apples-to-apples basis, the study reveals a complex story—the highest guaranteed income product varies significantly by client and when income begins,” said Tamiko Toland, head of Annuity Research at Cannex.

“There are many factors that go into the selection of an annuity. Income generation is not the only one, but it is central to their value proposition. Advisors need to rely on real analytics, not traditional perceptions or best guesses of how guarantees work to best serve their clients.”

For those seeking immediate income, single premium immediate annuities (SPIAs) usually provide the highest guaranteed income, the Cannex report says. But a variable annuity (VA) with guaranteed income may generate the highest annual payments under certain circumstances, such as when a man and wife of different ages buy a joint-and-survivor contract.

For people who can wait five or ten years after purchase to begin taking income from their contracts, fixed indexed annuities (FIAs) with lifetime income guarantees typically provide more income than either deferred income annuities (DIA) or deferred variable annuities with lifetime income guarantees.

This advantage stems in part from the fact that FIA owners sometimes don’t exercise their optional income riders, even after paying fees for them. That allows issuers to promise higher benefits to the people who stay. Unlike DIAs, FIAs with “living” income benefits are always liquid and can be cashed out, exchanged for another annuity, or left permanently in accumulation-mode.

For women, FIA income riders tend to pay more than DIA guarantees. The differential between a fixed indexed annuity and a deferred income annuity is greater for a woman because DIA benefit payments are based on gender-specific longevity expectations while FIA payments are not. The longer she waits to take income, the more a woman benefits from choosing an FIA over a DIA.

Based on a $100,000 premium investment in a DIA at age 65, a woman of average projected longevity would receive, after a 10-year deferral, around $11,700 in annual income at age 75. A man would receive about $12,900. By contrast, an FIA could generate as much as $14,313 of annual income regardless of gender.

“It’s often assumed that simple income annuities provide the highest guaranteed lifetime income compared to savings annuities such as FIAs or VAs,” said Gary Baker, president of Cannex USA. “This idea has become ingrained in the way we talk about income annuities in the planning process.

“As the industry leans towards a best interest standard for advisors, it is important for them to be aware that they should consider guaranteed income across all available products for clients with an income objective.”

The report draws upon Cannex’s quantitative annuity comparison tools. The tools enable financial institutions and advisors to evaluate the value of annuity guarantees based on the design of the benefit. In addition to looking at the minimum income guarantee, the tools arrive at an average income using a wide range of market performance scenarios.

For SPIAs and DIAs, projections include a death benefit and 100% spousal income continuity option, so full benefits are comparable to FIAs and VAs. For VA simulations, the asset allocation mix is 60% equity and 40% fixed income. The FIA performance is contingent on the crediting method and index; this research compares designs based on the S&P 500 Index.

By evaluating the performance of savings annuities in a range of market scenarios, the report highlights an additional important consideration when comparing guaranteed income benefits. The data reflects the trade-off between the level of guarantee and the upside potential in a rising market.

FIAs with the highest guarantee are less likely to experience a noticeable increase in income based on market performance. Those with lower guarantees are more likely to see greater upside potential. This applies to FIAs and to a lesser extent to VAs.

© 2018 RIJ Publishing LLC. All rights reserved.

Meet the Dare-Devils Who Own Annuities

Even at 51, Elaine Larsen—sunflower-blonde, Southern-folksy, and right at home in a split-hem pencil skirt—is always the fastest, hottest woman in any of the racing-circuit towns that she and Chris, her husband and chief mechanic, decide to visit.

That’s because she drives a jet-powered slingshot dragster for Larsen MotorSports, a car that reaches record-setting speeds of 250 mph or more and internal temperatures of thousands of degrees while torching quarter-mile tracks in less than five seconds.

It’s a dangerous profession, and Larsen knows the cost of mortality risk. Her life insurance policy is suspended when she races; a 2011 crash left a titanium plate under her mane of yellow hair. But when she reached AARP age, the former Mennonite farm girl became aware of what the life insurance industry calls longevity risk. So she recently diverted 10% of her savings into a variable annuity with a lifetime income guarantee and a deferral bonus.

Elaine Larsen. Photo by Daryl LaBello

Larsen delivered a testimonial for annuities last week in a conference room at the W Hotel on Times Square in mid-town Manhattan. She was a star performer in a half-day publicity effort by the Alliance For Lifetime on what it styled “Protect Your Retirement Income Day.” The Alliance is the four-month-old 501(c)6 organization formed by two dozen life insurers, asset managers and related firms to reverse the troublesome trend in variable annuity sales and stimulate awareness of annuities in general.

The Alliance has enlisted several other professional daredevils—a Californian who dives with sharks, a volcanologist, a lady smokejumper, and an MD who makes house calls at coastal villages in Panama—who own annuities to embody its “Retire Your Risks” slogan. The message: Smart, brave people are less afraid of dying too soon than of living too long.

This approach also levers the ad meme used by brands like TAG Heuer and Dewar’s: Glamour by association. Detroit-based ad agency Campbell Ewald, which has worked for Travelocity, Cadillac and Kaiser Permanente, created the theme. The New York public relations firm Peppercomm manages the multi-channel campaign. For its executive director, the Alliance picked Jean Statler from Statler Nagle, a Washington, DC-based communications firm.

“If you look at the annuities market, since 2013 you see a decline or a flattening out at a time when more people are entering retirement,” Statler told RIJ. “The 24 companies in the Alliance are committed to a two-year campaign. We’re trying to make a big impact in a small period of time. We have an index of protected income that will come out this year and next. We’ll have ROI measures. Those will allow the companies to decide whether to continue or not. But at this point we’re already 10 months into it. We just had a board meeting. Nineteen of the 24 companies were there. Nobody thinks it’s time to take the foot off the accelerator.”

Until now, the annuity industry has lacked a collective association for educating consumers about its products and its value proposition. Individual companies have invested heavily in consumer advertising, such as Prudential’s mid-decade “Bring Us Your Challenges” and “Race for Retirement” campaigns with Harvard happiness guru Dan Gilbert. The Insured Retirement Institute (IRI, which replaced the National Association for Variable Annuities a decade ago) promotes annuities, but mainly as a lobbying organization.

The Alliance focuses “more on direct messages to consumers and, also to advisors, and they are not an advocacy organization like IRI,” IRI spokesman Dan Zielinski told RIJ.  “We invited the Alliance to participate at our recent annual meeting to give an overview of their activities to date, which was well-received among our members. IRI also shared a substantial amount of research material to the Alliance to help them get started and to shape their own projects.”

The Alliance for Lifetime Income members includes Goldman Sachs, JP Morgan and Franklin Templeton, along with most of the largest life insurers. Milliman, which builds risk management components that go inside annuities, also belongs. MassMutual is there, but three other big “mutuals” are not.

Those firms—New York Life, Northwestern Mutual and Guardian—are in a somewhat different league. They are mutually-held by their customers, specialize in relatively simple, bond-based annuities, and employ captive sales forces. Their annual income annuity sales are relatively tiny. The Alliance’s members are mainly publicly-held companies that issue complex annuities involving equities, bonds, and/or derivatives. They use broker-dealers and insurance wholesalers for distribution. It’s two different worlds, to some extent. Nonetheless, the absence of three leaders in income products from an organization representing “lifetime income” is noteworthy. Statler said she will be meeting with those companies.

Larsen’s jet-car on the track.

The Alliance’s program encompassed several events over a five-hour period. It began with an early morning press conference where C-level life insurance executives from big variable annuity issuers fielded questions from Wall Street Journal, Bloomberg, and Investment News reporters.

It’s rare to see denizens of the annuity stratosphere descend to earth, but four of them appeared together on a single panel at a single media event: Jana Greer of AIG, Dennis Glass of Lincoln Financial, Barry Stowe of Jackson National and Stephen Pelletier of Prudential Financial. (Their combined annuity sales in the first half of 2018 were $27.12 billion or about one-third of all annuities sold in the US during that period. They accounted for $20.16 billion in variable annuity sales, or about 40% of total VA sales.)

Michael Finke, dean and chief academic officer of The American College, economist Ben Harris, a former Joe Biden aide, and attorney Seth Harris, a former official in the Clinton Labor Department, flanked the panel and offered comments. They, along with insurance company analyst Colin Devine, are formal advisors to the Alliance.

At the press conference, the Alliance showcased its Protected Income Index, which uses survey data to track the percentage of Americans ages 25 to 74 with guaranteed sources of retirement income besides Social Security. (People with such resources skew older and higher-income.) The Alliance also announced its RISE (Retirement Income Security Evaluation) Score calculator, which anyone can use to generate a retirement readiness score from 0 to 850, the same scale used to express credit scores. Scores are based on a consumer’s savings levels, demographic characteristics, and sources of retirement income. People can raise their scores by adding annuities to their portfolios. The calculator is expected to be available by the end of this year.

From the press conference, interested parties drifted over to the blue Alliance for Lifetime Income trailer parked outside the Old Navy store on Broadway Plaza between 44th and 45th Sts., competing with Time Square’s immense digital billboards and, on every street corner, with double-decker bus-tour pamphleteers, for the attention of selfie-taking tourists and preoccupied locals who tried to navigate the swirling crowds.

The trailer (click for brief video) labeled with the words “Protect Your Income. Retire Your Risks,” contained three video booths. Three visitors at a time could enter the trailer, don VR goggles and see what it looks like to ride a jet car, touch noses with sharks or venture close to the vents of an active volcano.

“The idea is to drive home the theme of “Retire Your Risk” from the Alliance ad campaign – i.e., you take risks in your work or day-to-day life or profession but should not risk your retirement,” Matt Conroy, Peppercomm’s director of media strategy, told RIJ.

The Alliance must have invested aggressively to get original VR footage for this attraction, but traffic through the trailer seemed tepid. (Times Square might be the worst place on the planet to try to get attention, given all the competition for eyeballs.) The Alliance has since sent the trailer on a national tour. It was parked at Philadelphia’s Barnes Foundation Impressionist art museum yesterday. It will be towed to Newark, NJ (home of Prudential), to Nashville (where Jackson National relocated from Denver), and then to TIAA Bank Field in Jacksonville, FL.

Seth Harris (l) and Michael Finke outside the Alliance trailer in New York.

Wait, there’s more. From Times Square, Alliance advisors and guests from overlapping or sympathetic organizations (the American Council of Life Insurers, WISER, the National Association of Insurance and Financial Advisors, the Defined Contribution Institutional Investors Association) returned to the W Hotel for a buffet lunch at the hotel’s Blue Fin restaurant.

After lunch, in the restaurant’s meeting room, NBC financial reporter and “HerMoney” podcaster Jean Chatzky pitched friendly questions about the ironic pairing of high-risk lifestyles and low-risk retirement products to three panelists: Larsen, Ben Harris, and James Moskito, the CEO of Ocean Safaris, a San Francisco Bay area adventure diving company. Moskito, like Larsen, is one of the Alliance’s annuity testimonial givers.

Chatzky, whose speaking fees start at $25,000, confessed that she drives a Volvo station wagon. She asked Larsen, who drives a Corvette when not piloting a jet-powered dragster, about “the role of risk in her life.”

“I still live my life at full-throttle, a quarter mile at a time,” said Larsen. But after a crash broke her skull, kneecap, ankle and molars, she began to think about the long-run. “I said, ‘If I use a parachute when I race, why didn’t I have a backup plan for my life? My fire suit only keeps me safe for five seconds.’

“My financial advisor talked to me about how I wanted to live in retirement. He said, ‘You want to live fast and fiery even when you’re no longer racing, right?’ Then he said, ‘Let’s put a little piece of your money aside and put it in annuity. You can take a little more risk with your other money, but let’s get you safe first.’

“I’m 51,” Larsen said. “The annuity has allowed me to look at the next stage of my life with a new attitude. It’s allowed me to relax. I’m not looking at the downside of things. I’m looking at what I can do next. When you’re running a business it’s hard to look up from what you’re doing and prepare for the distant future. Now I’m doing the grown-up thing. There’s no finish line for me.”

© 2018 RIJ Publishing LLC. All rights reserved.

Red Bulls and Blue Bears

Election night 2016: Red balloons rose at Trump Tower, tears fell in Chappaqua. The next day, and in the following weeks, extreme emotions overflowed into the financial markets as exuberant Republicans bought equities and dismayed Democrats shifted into bonds.

The cumulative effect was numerically slight—an estimated market-wide $3.3 billion decrease in demand for equities in the first six months post-election—but for the four MIT-Sloan School researchers who measured and analyzed it, the detection of politically-driven trading cast fresh doubt on conventional wisdom about investor behavior.

To those researchers, authors of “Belief Disagreement and Portfolio Choice” (NBER Working Paper 25108), Democratic investors didn’t seem to behave rationally. In theory, they too could see that Donald Trump’s tax and regulatory policies might lift the stock market, and would invest accordingly.

But they didn’t, even though it would have been in their economic best interest. In the year after the election, the Dow Jones Industrial Average grew 28.5%, from an already record-breaking base.

The study was based on trading activity by individual retirement account holders at an unnamed major financial institution. Their average household income was $101,600 and the median was $78,000. The average investor in the study had $156,500 in investable wealth, of which 81% was in retirement accounts. The researchers did not include the wealthiest or poorest 10% of the population.

“Our main finding is that (likely) Republicans increase the exposure of their investments to the US stock market relative to (likely) Democrats following the election. Democrats increase their relative holdings of bonds and cash-like securities. This result is not driven by differences in returns but by active trading over a six-month horizon following the election, and the relative change in equity shares is more than twice as large among previously active investors,” the paper said.

Maarten Meeuwis, Jonathan A. Parker, Antoinette Schoar and Duncan I. Simester, all of the MIT Sloan School of Management, co-authored the paper.

In an email to RIJ, Schoar wrote, “We provide evidence that people with different political affiliations take different portfolio actions that are not driven either by the different effects of the election on their own economic circumstances, such as cities and towns or jobs or tax burdens, but instead actively trade assets in response to the changes in their relative views about the national economy.”

Ironically, “Republicans report becoming relatively more optimistic about the national economy after the election, but they do not report becoming relatively more optimistic about their own economic situations,” the researchers wrote.

In most theoretical models of financial markets, participants typically agree about the probability of different states of the world, the researchers wrote. But, in practice, they showed, different people have different “models of the world,” and make investment decisions on that basis.

The researchers were somewhat surprised, and even troubled, by the finding “that people save and invest and react differently to public events not because of their own situations (like their age, their city, their job prospects), but because they fundamentally take different views from others,” Schoar told RIJ.

“This finding is worrisome, in that people should take into account that they may be wrong and so learn from the behavior of others and from objective information, which is the foundation for most asset valuation models and asset management advice.”

Another of the paper’s authors, Jonathan Parker, told RIJ, “Most investment advisors give the advice: Keep your politics out of your portfolio. The downside of disagreement is that people are not pooling risks and diversifying as much as they could.” We vote in different directions, he noted, but “with stocks, we can all bet in the same direction. We don’t have to bet against each other at all.”

The findings were based on the review of data provided by a large unidentified investment institution, which provided the researchers with “anonymized” information about individual client trading behavior before and after the election. One of the authors was a paid consultant to the financial institution.

Likely political affiliation was determined using publicly available data on individual campaign donations during the 2015-2016 election cycle, aggregated to the zip code level. The researchers restricted attention to contributions from individuals to political action committees with at least $20 million in donations and associated with the two main parties or with their presidential nominees.

The wealthiest and poorest 10% were excluded, and only one retirement investor (RI) per household was included. The survey included heads of households between the ages of 25 and 85 in retirement saving accounts (excluding defined benefit plans and Social Security).

The sample captured 40% of the US population and 47.3% of retirement wealth. According to the study, the richest 10% of Americans own about 50% of U.S. retirement wealth, which the Investment Company Institute estimates at $16.9 trillion in IRAs and defined contribution plans ($28.2 trillion if public and private defined benefit plans and annuities are included).

The $3.3 billion shift in overall portfolio allocations was small, the researchers wrote, because they observed differences at the zip code level, which would include both Republicans and Democrats, and because there is very little active trading in retirement accounts. The changes in asset allocation were larger among households that actively re-allocate their wealth.

© 2018 RIJ Publishing LLC. All rights reserved.

Do Spectacular Earnings Justify Spectacular Stock Prices?

The US stock market, as measured by the monthly real (inflation- adjusted) S&P Composite Index, or S&P 500, has increased 3.3-fold since its bottom in March 2009. This makes the US stock market the most expensive in the world, according to the cyclically adjusted price-to-earnings (CAPE) ratio that I have long advocated. Is the price increase justified, or are we witnessing a bubble?
One might think the increase is justified, given that real quarterly S&P 500 reported earnings per share rose 3.8-fold over essentially the same period, from the first quarter of 2009 to the second quarter of 2018. In fact, the price increase was a little less than equal to earnings.

Of course, 2008 was an unusual year. What if we measure earnings growth not from 2008, but from the beginning of the Trump administration, in January 2017?

Over that 20-month interval, real monthly US stock prices rose 24%. From the first quarter of 2017 to the second quarter of 2018, real earnings increased almost as much, by 20%.

With prices and earnings moving together on a nearly one-for-one basis, one might conclude that the US stock market is behaving sensibly, simply reflecting the US economy’s growing strength.

But it is important to bear in mind that earnings are highly volatile. Sudden sharp increases tend to be reversed within a few years. This has happened dramatically more than a dozen times in the US stock market’s history.
Earnings are different from most other economic variables, because they are defined essentially as the difference between two series: revenues and expenses. Rapid growth in earnings for a few years can thus easily be followed by a return to the long-term trend or even subpar levels. In fact, S&P 500 reported earnings per share were negative during the fourth quarter of 2008, partly owing to financial-crisis-induced write-offs. Of course, that episode didn’t last (and its significance has been questioned).

Market participants ought to know that they shouldn’t overreact to earnings growth, but they sometimes forget if popular narratives mislead. Consider an example from a century ago. Although real S&P Composite annual earnings rose 2.6-fold in just two years, from around trend in 1914 to a record high in 1916, stock prices rose only 16% from December 1914 to December 1916. Why didn’t the market respond as it has recently?

From newspaper reports at the time, one can glean some clues. Most important, people attributed the increase to sudden panicky demand for US goods from Europeans and others at the beginning of World War I. When the war ended, then, profits would return to normal. Moreover, widespread anger over high war profits while men were being conscripted to risk their lives led many people, not just Americans, to start advocating for “wealth conscription.” This forgotten term, which dropped out of usage following World War II, referred to heavy taxation on sudden increases in profits. Indeed, the US first imposed a punitive tax on corporate profits above prewar levels when it entered the war in April 1917.

But stock price movements haven’t always been as rational as they were in 1916. Market reaction to earnings increases was much more positive in the “roaring twenties.” After the end of the 1920-21 recession, real annual earnings, which had been depressed by the downturn, increased more than fivefold in the eight years to 1929, and real stock prices increased almost as much – more than fourfold.

What was different about the 1920s was the narrative. It wasn’t a foreign war story. It was a story of emergence from a “war to end all wars” that was safely in the past. It was a story of the liberating spirit of freedom and individualistic fulfillment. Unfortunately, that spirit did not end well, with both stock prices and corporate earnings crashing catastrophically at the end of the decade.

There was then a period, from 1982 to 2000, when real stock prices increased 7.5-fold while real annual earnings only doubled. The end of this period has been called the dot-com boom or Internet boom, but most of the price growth preceded the tech- driven “new economy” narrative, and declining inflation helped throughout. By 2003, however, both real earnings and real stock prices fell by almost half.

Then, from 2003 to 2007, during a period of gradual recovery following the 2001 recession, real corporate earnings per share almost tripled. But the real S&P 500 less than doubled, because investors apparently were unwilling to repeat their mistake in the years leading to 2000, when they overreacted to rapid earnings growth. Nonetheless, this period ended with the financial crisis and another collapse in earnings and stock prices.

That brings us to the current boom in earnings and prices. Apparently, investors believe that this boom is going to last, or at least that other investors think it should last, which is why they are bidding up stock prices in a dramatic response to the earnings increase.

The reason for this confidence is hard to pin down, but it must be rooted in the public’s loss of healthy skepticism about corporate earnings, together with an absence of popular narratives that tie the increase in earnings to transient factors. Talk of an expanding trade war and other possible actions by a volatile US president just does not seem strongly linked to talk of earnings forecasts – at least not yet.

A bear market could come without warning or apparent reason, or with the next recession, which would negatively affect corporate earnings. That outcome is hardly assured, but it would fit with a historical pattern of overreaction to earnings changes.

© 2018 Project Syndicate.

New robo-advice platform launches in Britain

Wealthsimple, a UK fintech firm backed by the parent of Great-West Financial, has introduced the Wealthsimple Pension, a “self-invested personal pension” (SIPP) that allows people to aggregate their retirement accounts and other investment accounts on a single platform.

The firm is backed by Power Financial Corporation, the parent of Great-West Financial, Empower Retirement and Putnam Investments.

Wealthsimple’s clients can get access to globally diversified low-fee portfolios, with no minimum account size. The platform also offers unlimited access to human advisers at no cost beyond the basic annual expense ratio, which is 0.7% (70 basis points) for accounts with assets under £100,000 ($129,000) and 0.50% (50 basis points) for accounts over £100,000.

According to Toby Triebel, CEO Europe, Wealthsimple, the Wealthsimple Pension is designed for people creating a retirement account for the first time, or for those who want to consolidate existing retirement accounts.

At launch, the Wealthsimple Pension will offer the following features and functions:

  • No account minimum
  • Globally diversified portfolio, automatic re-balancing
  • Transfer fees covered
  • Funding through direct debit or one-off payment
  • Fast account opening; no paperwork
  • Facilitation of employer contributions to a Wealthsimple Pension
  • Socially Responsible Investing portfolios
  • Unlimited access to human advisers

Wealthsimple, which is available to investors of any age or net worth, claims to have 100,000 users managing £2billion in savings. The fintech company currently offers services in the U.S., the U.K., and Canada. Power Financial Corporation (TSX: PWF) sector in Canada, the United States and Europe. http://www.wealthsimple.com.

© 2018 RIJ Publishing LLC. All rights reserved.

Master trusts face tighter regulation in the UK

As Congress moves closer to approving a change in US pension law that would allow the creation of open multiple employer defined contribution plans (OMEPs) in this country, UK pension officials are tightening regulation of these provider-sponsored plans, called “master trusts” in the UK.

IPE.com reported this week that 30 “master trusts” in the UK have stopped or are preparing to stop offering services because they can’t comply with stringent new government regulations, the Pensions Regulator (TPR) announced this week.

Another 58 providers—including well-known retirement plans offered by NEST (the government-sponsored National Employees Savings Trust), the People’s Pension and NOW: Pensions—have six-months in which to prove to the government that they have “fit and proper” staff, sufficient financial reserves and “robust” systems, processes and protections.

Here in the US, the House of Representatives recently passed The Family Savings Act of 2018. It includes a provision to allow unrelated employers to join defined contribution plans, known as OMEPs or Pooled Employer Plans (PEPs), that private retirement plan service providers would create and operate.

‘Too small to be viable’

OMEPs represent a deregulation of the 401(k) industry, and similar deregulation in the UK has raised concerns.

“The success of automatic enrolment has led to rapid growth in master trusts. Authorization and supervision is vital to ensure 10 million savers can have confidence that their retirement savings are safe,” said Nicola Parish, executive director for frontline regulation at TPR.

“Some master trusts are too small to be economically viable, while in other cases there have been claims of malpractice,” said Malcolm McLean, senior consultant at Barnett Waddingham. “We should welcome, therefore, a new regime which seeks to stabilize a market that may be dangerously out of control and hope and expect TPR will be able to weed out all schemes that fall short of the minimum standards required.”

Joel Eytle, pensions legal director at DLA Piper, said the new regulations would place “a much more active and onerous obligation” on TPR to oversee master trusts and ensure ongoing compliance with the new law.

“The concerns are whether the regulator will have sufficient resources to effectively police the regime, and whether the obligations on master trusts will prove too onerous and deter entrants to the market,” Eytle said.

“It will also be important for traditional multi-employer schemes with participating employers who are not in the same corporate group to take legal advice on whether they would be classified as a master trust, as this would mean that they would now need to be authorized under the new legislation.”

Consolidation expected

Sharon Bellingham, senior consultant at Hymans Robertson, said the authorization regime would drive consolidation among DC master trusts.

“It doesn’t take much crystal ball gazing to see that the consolidation already happening will gain pace,” she said. “Looking ahead, it’s pretty interesting to think about [how] the market might look like 12 months from now – survival of the fittest and most committed, who might ship out ahead of the new authorization regime and who might try but not make it.”

In April, the People’s Pension – one of the UK’s biggest master trusts with more than 4m members – acquired Your Workplace Pension, a £20m (€22.5m) DC fund. The same month, the Salvus Master Trust acquired the smaller Complete Master Trust, boosting its assets above £100m.

© 2018 RIJ Publishing LLC. All rights reserved.

TIAA VA joins RetireOne annuity platform for RIAs

TIAA-CREF Life Insurance Company’s investment-only, zero surrender-charge, no-commission variable annuity is now available for sale on RetireOne’s new insurance purchasing platform for registered investment advisors and other fee-based financial advisors, RetireOne announced this week.

TIAA Life will also add its no-load fixed annuity, which has 10 guarantee period options, and a no-load single premium immediate annuity, to the RetireOne platform, the release said. Other insurers with annuities already on the platform include Allianz Life, Nationwide, Ameritas, Great-West, and Transamerica.

As the RIA channel continues to grow, annuity issuers are naturally drawn in that direction. Now that new RIA insurance platforms like RetireOne are opening up (as RIJ reported in a September 6 lead article), RIAs who aren’t licensed to sell insurance themselves can recommend no-commission annuities to their clients through the platform. Other platforms include DPL Financial and Envestnet Insurance Exchange.

The platform’s licensed agent (ARIA Retirement Solutions, in this case) executing the sale for a fee, and the RIAs can then charge their regular management fee on the assets in the annuity. So far, several annuity insurers have joined the platforms as an avenue to RIAs; and at least one observer, Gary (“The Annuity Maestro”) Mettler, has indicated discomfort with this novel arrangement for the indirect sale of insurance products by unlicensed RIAs.

Before no-commission annuities came along as an adaptation to the now-aborted Department of Labor fiduciary rule past, an RIA without an insurance license who advised an annuity to a client would have had to send the client to a licensed insurance agent, who would charge a commission; the RIA would lose the assets under management. By using the platforms, RIAs keep that business. The platform sponsors hope for a surge in annuity purchases by RIAs, expecting them to use annuities in response to the longevity risk concerns of Boomer retiree clients.

RetireOne positioned the TIAA Life product as something that advisors could exchange for any high-fee variable annuities that their clients already own, or as a vehicle for tax-deferred investing. Variable annuities are unique in that clients can contribute almost any amount of after-tax money to them and then let the money grow tax-deferred until withdrawal. The gains aren’t taxed until they’re withdrawn, when they are taxed at ordinary income rates.

“Working with TIAA Life to offer their variable annuity was a priority for us. We want our platform to include access to the lowest-cost solutions that offer real client value. One of the most attractive features of TIAA Life’s product is the decremental pricing structure. In year 11, the M&E charge drops to 10 basis points,” said RetireOne CEO David Stone in the release.

Insurance policies are sold for RetireOne’s participating RIA advisors by Aria Retirement Solutions, Inc. doing business in California as Aria Insurance Solutions, Inc. (San Francisco, CA), a licensed insurance agency (CA License #0H44773).

© 2018 RIJ Publishing LLC. All rights reserved.

Society of Actuaries posts resources for actuaries, retirement planners

The Society of Actuaries (SoA) has announced its new Aging and Retirement Strategic Research Program, which offers a website where retirement income practitioners might find practical information to inform their planning chores for clients.

The program includes research topics dealing with a variety of retirement risks and plans, living longer, long-term care, and annuities.  The full program and the wide variety of SoA research can be found here.

https://www.soa.org/strategic-research/aging-retirement/

A key aspect of the launch is the release of a new series of reports examining financial challenges and perspectives on retirement planning across the Millennial, Gen X, Late Baby Boomer, Early Baby Boomer and Silent generations.  This inaugural study from the program builds on prior research focused on the societal impact of aging populations and solutions for mitigating retirement risks.

The first two special topic reports in the series were issued this week. They cover: (1) Financial priorities and behaviors, and their influence on retirement plans across generations, and

(2) Difficulties in gaining financial security for younger generations.

You can read more about this study at: https://www.soa.org/research-reports/2018/financial-perspectives-aging-retirement/

“This new concept is the first of five Strategic Research Programs that have been developed through the SoA’s Strategic Plan over the past two years,” an SoA release said.

Upcoming programs will focus on Actuarial Innovation and Technology; Mortality and Longevity; Health Care Cost Trends; and Catastrophe and Climate.

More highlights and research sessions from the Aging and Retirement Strategic Research Program will be introduced at the SoA Annual Meeting in Nashville, October 14-17, 2018.

https://www.soa.org/prof-dev/events/2018-annual-meeting/#

© 2018 RIJ Publishing LLC. All rights reserved.