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Auto-enrollment promotes debt as well as savings, study shows

Posted on March 30, 2017 by Editorial Staff -

Has auto-enrollment been successful in raising the financial wellness of the participants who are at greatest risk of not saving enough for retirement? A decade after the Pension Protection Act began allowing plan sponsor to “nudge” employees into defined-contribution plans, the answer appears to be yes—but with an asterisk.

According to an unpublished research paper, auto-enrollment may also be driving them deeper into debt. Low-income workers could be living so close to subsistence that DC participation may be a mixed blessing. An increase in debt appears to offset as much as 73% of the gains of low-income participants, the research showed.

The researchers analysed savings data on civilian employees of the U.S. Army who contributed to the federal defined-contribution Thrift Savings Plan. Automatic enrollment into the plan was associated with an increase inbut the average wealth of participants, more than a third of the average gain was offset by new consumer debt.

The authors compared the 32,088 civilian U.S. Army employees hired in the year prior to the implementation of auto-enrollment change with the 26,826 employees hired in the year after. The researchers also studied 2,345 employees hired in the month prior to the implementation to the 3,414 hired in the month after the change and got similar results.

During a four-year period after they were hired, auto-enrolled employees saw their wealth go up (as a result of employer and employee contributions, and as a percentage of their first-year salaries) by 5.2% on average, by 13.9% at the 25th percentile of income, and by 21.5% at the 10th percentile of income, the study showed. Auto-enrollment had no effect at the 75th and 90th percentiles.

But, when the employees’ new assumption of installment and credit card debt was factored in, automatic enrollment increased net wealth over the same period by an average of only 3.3% (a 37% “crowding out” effect), by 8.6% (38% crowd-out) at the 25th percentile, and by 5.8% (73% crowd-out) at the 10th percentile. There was no effect on net wealth at the 75th and 90th percentiles.

Brigitte Madrian, David Laibson and John Beshears of Harvard, James Choi of Yale, and William Skimmyhorn of the U.S. Military Academy were the authors of the study. Several of the authors have as a team been studying behavioral efforts to lift U.S. savings rates for a decade or more.

Sales of non-variable fixed annuities neared $100 billion in 2016: Wink’s

Posted on March 30, 2017 by Editorial Staff -

Total fourth quarter non-variable deferred annuity sales were $21.0 billion; down nearly 8% from the prior quarter, and down almost 14% from the same period a year prior, according to Wink’s Sales & Market Report for the fourth quarter of 2016. Overall non-variable deferred annuity sales for 2016 were $96.9 billion.

Since 2015, the Wink report has included all non-variable deferred annuities, including indexed annuities, traditional fixed annuities, and multi-year guaranteed annuities (MYGA) product lines.

Allianz Life was the top seller of non-variable deferred annuity sales in the fourth quarter with a market share of 9.1%, followed by Athene USA, American Equity Companies, New York Life, and AIG. Allianz Life’s Allianz 222 Annuity indexed annuity was the top selling non-variable deferred annuity.

“Indexed annuity sales for 2016 were $58 billion. That tops last year’s record by nearly 10%” said Sheryl J. Moore, president and CEO of both Moore Market Intelligence and Wink, Inc., in a press release. “Although the market stopped short of $60 billion in sales, this is still an impressive feat considering the Department of Labor’s pending Fiduciary Rule.”

In the indexed annuity category, Allianz Life was the top seller with a market share of 14.3%, followed by Athene USA, American Equity Companies, Great American Insurance Group, and AIG. The Allianz 222 Annuity was the overall best-selling indexed annuity for the tenth consecutive quarter.

Sales of traditional fixed annuity in the fourth quarter of last year were just over $1 billion, declining more than 16% from the third quarter of 2016 and down over 63% from the fourth quarter of 2015.

With a 14% market share, the top seller of fixed annuities was Jackson National Life, followed by MetLife (dba Brighthouse Financial), Great American Insurance Group, Reliance Standard, and Global Atlantic Financial Group. Forethought Life’s ForeCare Fixed Annuity was the top-selling fixed annuity for the quarter.

MYGA sales for the fourth quarter were $6.6 billion; down more than 8% from the previous quarter but up more than 12% over the same period last year.

New York Life was top seller of MYG annuities, with a market share of 19.4%, followed by Global Atlantic Financial Group, Security Benefit Life, and Symetra Financial. Security Benefit’s Life RateTrack 5-Year was the top-selling multi-year guaranteed annuity for the quarter.

Fifty-five indexed annuity providers, 48 fixed annuity providers, and 55 MYGA companies participated in the 78th edition of Wink’s Sales & Market Report for 4th Quarter, 2016.

Transamerica hires Salesforce’s “Einstein” to make distribution smarter

Posted on March 30, 2017 by Editorial Staff -

Driven by competitive, technological and regulatory force, the automation of traditional insurance and investment distribution networks is now reaching big financial services companies long hobbled by a patchwork of legacy systems.

This week, Transamerica Financial Network (TFN), Transamerica’s North American distribution channel, announced that it will use Salesforce Financial Services’ “Cloud Einstein” technology to link Transamerica’s investment advisors, insurance agents and some 27 million customers on Salesforce’s Intelligent Customer Success service platform.

In a release, Salesforce described Einstein as “powered by advanced machine learning, deep learning, predictive analytics, natural language processing and smart data discovery.”

In the past, TFN’s advisors and agents provided multi-carrier insurance and investment solutions across multiple customer systems, creating “disjointed retail customer experiences.” TFN wanted a new system that could serve customers over time, allow advisor and agents to provide “differentiated” customer experiences, and provide the documentation required to comply with the Department of Labor’s 2016 fiduciary rule and its “best interest” standard of conduct.

With consulting services from Deloitte, Salesforce is now rolling out Financial Services Cloud Einstein, Salesforce Shield, Community Cloud and Marketing Cloud to TFN offices and agents in the United States and Canada, and soon to other countries around the world, the release said.

TFN will use “Cloud Einstein’s intelligence and machine-learning capabilities to better understand and predict customer behaviors,” the release said. For instance, if a client makes multiple inquiries into the status of her accounts or movements of funds, the system will warn her advisor or agent that the customer might be planning to take their investments elsewhere, and reach out to the client.

“Einstein will also help advisors better understand broader household needs and provide services that extend beyond each individual customer,” the release said.

According to Salesforce, its Einstein technology “democratizes AI with state-of-the-art algorithms built directly into the Salesforce Intelligent Customer Success Platform and is delivered through the apps and workflows that millions of CRM users rely on every day.” Integrating the masses of data currently scattered among many silos at TFN, Einstein allows advisors to:

Automatically see if a client mentions a competitor in an email thread and — when coupled with a decrease in communications — receive a reminder to reach out and nurture the relationship.
Connect information about clients and their households in one place, and edit their existing roles and activities. For example, an advisor can easily add when a client has taken on a new role such as becoming a board member at a company.
Track when their clients take on new responsibilities within other households, such as becoming a power of attorney for an aging parent, and then proactively reach out with personalized advice.
Discover that a client has become the beneficiary of a trust that is in need of estate-planning services.

Genworth’s medically underwritten income annuity now quoted on CANNEX

Posted on March 30, 2017 by Editorial Staff -

Pricing and benefits information for Genworth Life’s medically underwritten “Income Assurance Immediate Need Annuity” is now available to financial advisors and insurance agents at the CANNEX Income Annuity Exchange, it was reported this week.

Genworth introduced the Income Assurance Immediate Need Annuity, a medically underwritten (or “impaired”) single premium immediate annuity, in 2016. This type of annuity contract offers higher monthly payments than a traditional immediate annuity if the beneficiary has a certifiable health condition that shortens his or her life expectancy. The annuity income can be applied to any expense, not just medical expenses.

The CANNEX quote process “allows us to provide financial professionals with monthly payment estimates based on a set of adverse health conditions at different ages, before moving forward with the underwriting process to obtain the final guaranteed income,” said Jerry Larkin, Genworth national sales manager, in a release.

The CANNEX Annuity Exchange is used by more than 400 financial institutions and supports over 500,000 financial advisors and consultants across North America. In addition to income annuities in the U.S., the platform also supports the evaluation and comparison of other guaranteed lifetime income products including variable annuities, indexed Annuities, and fixed rate annuities.

Survivor Funds: Not for the Faint of Heart

Posted on March 29, 2017 by Jonathan B. Forman and Michael J. Sabin -

In the reality television show Survivor, contestants are stranded in a remote location, and the sole “survivor” of a series of tasks wins a million-dollar prize. With what we call “survivor funds,” retirees could enjoy significantly higher returns—but no more investment risk—than they can get on today’s 10-year Treasury bonds.

Of course, there’s a catch. But it’s a catch that most retirees could “live” with: You need to be alive at the end of the term of the survivor fund, or you get nothing. That is, with a survivor fund, you will get a bonus if you live until the end of a relatively short investment period. If you die before then, you will get nothing.

But who cares? Although you’d receive zero on that particular investment, your need for income would be over.

Here is a simple example that shows how a survivor fund works, relative to an ordinary investment fund:

First, imagine a fund where ten 65-year-old men each invests $8,000 in a pool that buys 10-year Treasuries. At the current Treasury interest rate of 2.3% a year, that $80,000 investment would grow to $100,000 in 10 years, and each man—or his heirs—would get $10,000, reflecting that pitiful 2.3% yield.

But what if we created a pool that divided the $100,000 only among the men who survived ten years to age 75? According to the Social Security Administration, the typical 65-year-old man has an 80% chance of living to age 75. So, probably, just eight of our ten men will live to 75.

With a survivor fund, those eight survivors will divide the $100,000, and the two men who died will get nothing. In short, each of the eight survivors will get $12,500 on his $8,000 investment, and that works out to be a 4.6% yield. That’s double the 2.3% yield on the underlying Treasuries. (We chose “men” for our example only because a single-gender group has a more definable life expectancy than a group of men and women.)

In a recent law review article, we show how a new class of hypothetical savings products, called Survivor Funds, would use the survivor principle to benefit multiple investors. Each time an investor died, his account balance would be divided among the survivors. Survivor funds would be attractive investments because the survivors would get a greater return on their investments, while the decedents, because they no longer have longevity risk, would not care. (At right: Jonathan Forman)

In our example, instead of earning a measly 2.3% interest on a 10-year Treasury, our 75-year-old survivors get 4.6% (2.3 percentage points more). The bump from a survivor fund is not always that large, but as long as some investors in a survivor fund die, the rest will always get a higher return than they could get from the underlying investment. And even if no other investors die, the survivors will never get less than the return on the underlying investment.

Returns should be even higher if a survivor fund invests in stocks instead of bonds. For example, if our hypothetical survivor fund had instead invested in a Standard & Poor’s 500 Index fund that earned say 7%, the survivors would get 9.4%. If that S&P500 Index fund earned 10%, the survivors would get 12.5%.

Historically, such last-survivor-takes-all games were called “tontines”—after the 17th century Italian banker Lorenzo de Tonti who came up with the survivor principle—that the share of each, at death, is enjoyed by the survivors. (At right: Michael Sabin)

In a simple tontine, investors contribute equally to buy a portfolio of investments that is awarded entirely to the last surviving investor; and it can make for some great fiction. For the erudite, there is Robert Louis Stevenson’s 1889 book The Wrong Box. For the rest of us, there is the 1966 movie of the same name, starring Michael Caine.

There was also a 1980 episode of the popular television series M*A*S*H, in which Colonel Sherman T. Potter, as the last survivor of his World War I unit, got to open the bottle of cognac that he and his fellow doughboys brought back from France (and share it with his Korean War buddies). Even the Simpsons had an episode that involved a survivor-take-all tontine (in 1996).

But the survivor principle—that the share of each, at death, is enjoyed by the survivors—can be used to design financial products that benefit multiple survivors, not just the last survivor. For example, in the 17th and 18th centuries, European governments sometimes used variations on the simple tontine to raise money. And in our earlier research, we have shown how the survivor principle could be used to create “tontine annuities” and “tontine pensions” that would benefit lots of retirees.

Admittedly, there are no survivor funds out there today. After all, our survivor-fund idea is brand new. But there should be survivor funds soon. Lots of retirees want higher returns on their investments, and we think that investment companies could create survivor funds fairly easily.

Squaring such products with existing regulations would require time and effort, as one of the authors acknowledged in a recent New York Times article. State insurance laws and gambling laws might be obstacles, and issuers of the funds would probably want more certainty about the federal tax laws as well. But the problems aren’t insurmountable.

Our law review article focused on how to create those survivor funds—and how they should be regulated. As we envision it, survivor funds could easily accommodate thousands of investors of varying ages and investment levels. Administrative fees would be quite low, and the returns for survivors would be high; and that is exactly what today’s retirees want.

The origins of Wall Street investing date back to around 1793 when the Tontine Coffee House was established there as a meeting place for stockbrokers. We think survivor funds will also find a new home on Wall Street—with today’s investment companies and mutual-fund houses.

Jonathan Barry Forman is the Alfred P. Murrah professor of law at the University of Oklahoma, Norman, and Dr. Michael J. Sabin is an independent consultant in Sunnyvale, California. They are the authors of Survivor Funds, 37(1) Pace Law Review —204-291 (2016).

The Risks to America’s Booming Economy

Posted on March 29, 2017 by Martin Feldstein -

After a long and slow recovery from the recession that began a decade ago, the United States economy is now booming. The labor market is at full employment, the inflation rate is rising, and households are optimistic. Manufacturing firms and homebuilders are benefiting from increasing activity. The economy is poised for stronger growth in the year ahead. We no longer hear worries about secular stagnation.

The overall unemployment rate is just 4.7%, while unemployment among college graduates is only 2.4%. Average hourly earnings are 2.8% higher than they were a year ago. The tight labor market and rising wages are inducing some individuals who had stopped looking for work to return to the labor force, boosting the participation rate.

A clear indication that the economy is at full employment is that the rate of inflation is increasing. The “core” consumer price index (which omits volatile energy and food prices) has reached an annual rate of 2.2%, substantially higher than the 1.8% average during the previous three years. During the most recent three months, core inflation rose at a 2.8% annual rate.

Household wealth is also increasing. The price of homes, the most important asset for US households, rose by 5% during the most recent 12 months. The rising stock market has caused the broader measure of net worth to increase even faster.

Surveys of consumer attitudes point to strong positive feelings. The University of Michigan Consumer Sentiment Index recently reached a 17-year high. Likewise, the Conference Board Consumer Confidence Index hit a 15-year high in February.

Manufacturing firms have increased output in each of the last six months. Homebuilders are racing to keep up with demand, reflected in an increase of more than 6% in the number of new single-family houses in the past 12 months.

All of this suggests that real (inflation-adjusted) GDP will rise more quickly in 2017 than it did in the recent past. While volatile trade and inventory numbers have depressed the recent GDP figures, the more fundamental measure of final sales to private purchasers has been rising in real terms at an annual rate of about 2.5%. Overall GDP is likely to increase at a similar rate for 2017 as a whole.

But, although the economy currently is healthy, it is also fragile. The US has experienced a decade of excessively low interest rates, which have caused investors and lenders to seek higher yields by bidding up the prices of all types of assets and making risky loans. The danger is that overpriced assets and high-risk loans could lose value and cause an economic downturn.

The price-earnings ratio of the Standard & Poor’s 500 Index is now nearly 70% above its historic average. A return of the price-earnings ratio to its historic average would cause share prices to decline by 40%, implying a loss of more than $9 trillion, an amount equal to nearly half of total GDP.

Ten-year Treasury bonds now yield just 2.5%. With the current inflation rate of more than 2% and markets anticipating a similar inflation rate over the longer term (as measured by five-year five-year-forward inflation expectations), the yield on ten-year Treasury bonds should be above 4%. A rise of the ten-year yield to 4% would reduce the value of those bonds substantially. Other long-term bonds—both government bonds and corporate bonds—would suffer similar declines.

Reaching for yield has also narrowed credit spreads between high‐grade bonds and riskier domestic and emerging‐market bonds. And commercial real‐estate prices have been bid up to levels that are probably not sustainable.

At the same time, banks and other lenders have extended loans bearing interest rates that do not reflect the riskiness of the borrowers. And, because these covenant‐light loans impose fewer conditions on the borrowers, they are more susceptible to default if economic conditions deteriorate.

But a bad outcome is not inevitable. None of the risks I have described may materialize. Interest rates may return to normal levels, and asset prices may gradually correct. But there is a clear risk that a decade of excessively low interest rates will cause a collapse of asset prices and an economic downturn. This will be a major challenge to the US Federal Reserve and the Trump administration in the year ahead.

Martin Feldstein is a professor of economics at Harvard University and president emeritus of the National Bureau of Economic Research.

Leaks in the Bucket Method

Posted on March 29, 2017 by Kerry Pechter -

As a tool for retirement income planning, time segmentation offers something for almost everyone. Combining elements of behavioral finance with asset-liability matching and a dash of equity premium, time segmentation—aka bucketing—is broad enough and flexible enough to satisfy the needs of many different types of advisors and clients. It’s very popular.

If you’re not familiar with bucketing, it’s the practice of dividing an individual’s or couple’s retirement years into as many as six discreet time segments and designating a specific bucket of assets—an annuity, a bond ladder, an equity portfolio—as the current or future source of income in that segment. It breaks a big problem into manageable tranches.

Time segmentation has critics (mostly in academia). They’ve belittled it as a form of mental accounting that offers at best a thin sense of financial security, questioned its assumption that stocks pay off “in the long run,” and warned that transitions between buckets will be fraught with timing risk and sequence risk. The jury is still out.

The judge, however, is in. Wade Pfau, Ph.D., the eminent economist, professor and retirement specialist at The American College, examines the practice of bucketing in a new three-part series in the online publication AdvisorPerspectives.com. In the first article, which appeared this week, he puts bucketing into historical perspective and reviews its strengths and limitations. In future articles, he intends to dig deeper.

Hazards of bucketing

The concept of bucketing has always appealed to me. When I write articles, I use a five-bucket outlining method. One of the first people I met in the retirement business was David Macchia,whose Income for Life Model began as a bucketing solution but has since moved passed bucketing to embrace a hybrid solution that includes lifetime guaranted income. I entered this field via the annuity world, and annuities are easy to plug into a time-segmentation model. So RIJ is a bucket-friendly zone.

Pfau’s article raised my awareness of the hidden wrinkles of bucketing. He offers fresh analysis of the conflicts or tensions that bucketing might pose for advisors. For instance, he points out that bucketing can frustrate advisors who want to maintain a specific asset allocation and risk exposure. He acknowledges the sequence risk that can occur during transitions between buckets. After reading his article, I came to a few new conclusions about bucketing:

Reserves shouldn’t be risky, so using stocks for the final bucket may not be wise. A deferred income annuity strikes me as a more appropriate income provider in the last bucket than stocks. That runs counter to bucketing orthodoxy, but the more I think about it, the more sense it makes.

In standard bucketing, you put equities into the final bucket, the one that you tap last, or whose appreciation you occasionally take off the table and put into an earlier bucket. Equities certainly belong in a retirement portfolio, to protect against inflation or provide a bequest whose basis steps up. They satisfy a universal yen for upside; retirees don’t like to feel that they’re making a “dead-stick landing” to eternity.

But if a retiree wants to reduce longevity risk with the final bucket, equities don’t fill the bill. They carry market risk, which could potentially make longevity risk worse instead of making it go away. Pfau observes that people who have not saved enough may want to hold equities as a long-term catch-up strategy. That’s risky. Banks don’t hold equities as their reserves; why should retirees hold equities as their reserves?

For retirees who have under-saved, I think it makes more sense to rely on the mortality credits of a DIA (or, for tax-deferred savings, a qualified longevity annuity contract) rather on than the uncertain equity premium when assigning assets to the final bucket.

Retirees want simplicity, so advisors shouldn’t make their finances complicated.

Pfau’s article leaves the impression that the bucket method, if practiced with appropriate zeal, is likely to be labor-intensive for the advisor and perhaps fee-intensive for the client.

For instance, the more buckets there are in the plan, the more transitions there are between buckets. A transition might involve the exhaustion of one bucket and the liquidation of the next. Or it might involve the periodic refilling of a near-term bucket via sales of bonds or equities. Either way, transitions imply timing risk. To ensure that assets don’t need to be sold at unfavorable times or at unfavorable prices, advisors will have to monitor the portfolio closely.

A floor-and-upside income generation method seems more manageable. As flooring material, income-producing annuities would be easier than bond ladders. Manufacturing and distribution costs raise the price of income annuities by an estimated 15% above actuarial value, but they offer simplicity and peace of mind.

Bucketing isn’t necessarily for everyone, and advisors should assess their clients’ financial situations before choosing an income generation method. Academic comparisons between bucketing and total return investing or a floor-and-upside approach imply that the method is the priority, and that the best method is the one that produces the highest return, income rate, or final balance, according to Monte Carlo simulations. I would argue that that’s not necessarily client-centric.

The most logical first step in retirement planning might be to determine the client’s funding level. Canadian advisor Jim Otar assigns clients to a “green,” “orange” or “red” zone. Clients in the green zone have lots of money relative to their income needs; they can choose almost any income style they want. A total return method would be simpler than bucketing. Tax-efficient distributions may be their highest priority.

Clients in the red zone by definition have too little money relative to their income needs. Dangerously vulnerable to sequence risk, market risk or longevity risk, Otar wrote, red zoners typically need to transfer one or more of those risks to an insurance company through the purchase of annuities.

Clients in the orange zone pose the most interesting challenges for retirement income specialists. Orange zoners usually have a limited risk budget, which they can spend on a variety of combinations of risky and risk-free assets. Bucketing might suit them well. Bear in mind that clients can move to a better-funded zone simply by reducing their expenses. Bottom line: Clients’ funding levels help determine their income generation methods.

Stay tuned

Pfau frames bucketing as a compromise between the probabilistic (risky) total return approach and the deterministic (low-risk) floor-and-upside approach. He promises in the second part of his series (published today) to examine a hypothetical time-segmentation strategy that combines a bond ladder (using techniques described by Brent Burns and Stephen Huxley in their 2004 book, Asset Dedication) with equity investments. “Part 2 will formalize three different rules for how to implement time segmentation in practice,” Pfau wrote. “Part 3 will then compare time segmentation approaches to total-return investing strategies to determine whether it is a superior investing strategy.” I look forward to reading both.

Fixed Annuities Outsold Variable in 2016: LIMRA SRI

Posted on March 22, 2017 by Editorial Staff -

Despite a fourth quarter stumble, total fixed annuity sales reached $117.4 billion in 2016, a new record. Sales were 14% above 2015 levels and nearly $7 billion higher than the previous peak in 2009, according to LIMRA Secure Retirement Institute’s Fourth Quarter U.S. Annuity Sales survey.

Overall, 2016 was a good year for every type of annuity except variable, whose sales dropped 21%, to $104.7 billion from $133 billion. Fixed indexed annuity (FIA) sales hit record levels in 2016, up 12% to $60.9 billion, a record. Fixed-rate deferred product sales reached $38.7 billion, up 25% from 2015. DIA sales increased 4% to $2.8 billion in 2016.

Because of the softening in variable annuities, which represent such a large part of the market, total annuity sales fell 6% to $222.1 billion. In 2008, total sales were $265 billion.

The top five sellers of variable annuities were Jackson National Life ($18.6 billion), TIAA ($13.0 billion), AXA US ($10.4 billion), Prudential Annuities ($7.98 billion) and AIG Companies ($7.86 billion).

The top five sellers of fixed annuities were Allianz Life ($10.2 billion), New York Life ($9.95 billion), AIG Companies ($9.26 billion), American Equity Investment Life ($7.13 billion), and Athene Annuity & Life ($5.3 billion).

Since the end of 2008, VA sales have fallen by about one-third, or about $51 billion. While Jackson National’s VA sales have risen to $17.2 billion from $6.5 billion over that time, three major issuers in 2008—ING, John Hancock and Hartford—have all vanished from the top 20.

MetLife’s annual VA sales have dropped to $4.3 billion in 2016 from $13.9 billion in 2008 and Lincoln Financial’s to $6.7 billion last year from $11.1 billion eight years ago. TIAA, AXA US (previously AXA Equitable), AIG Companies, Lincoln Financial, Nationwide and Prudential Annuities were all among the top 10 variable annuity issuers in both 2008 and 2016.

Year-end fade

The final quarter of 2016 was a bloodbath for annuities. Overall, fixed annuity sales fell 13% to $25.7 billion, after strong results in the first three quarters. Fixed indexed annuity sales were down 13%, to $14.0 billion from $16.1 billion. Sales of fixed-rate deferred annuities, (Book Value and MVA) fell 9%, to $7.7 billion. Variable annuity sales totaled $25.3 billion in the fourth quarter, down 20% from the same quarter in 2015.

Income annuity sales also suffered in the fourth quarter. Despite the 85 basis point jump in the 10-year Treasury interest rate, fixed immediate annuity sales fell 23% in the fourth quarter to $2.0 billion. Deferred income annuity (DIA) sales fell 30% to $575 million.

Overall annuity sales declined for the third consecutive quarter and recorded the lowest quarterly sales since the first quarter 2002—$51.0 billion in the fourth quarter, down 17% year over year.

“Unlike the last several years where indexed annuities propelled overall fixed annuity growth, in 2016, fixed-rate deferred was the primary driver of fixed sales in 2016,” said Todd Giesing, assistant research director, LIMRA Secure Retirement Institute.

“A large block of fixed-rate deferred annuities purchased in 2009 came due in the first half of the year, creating a significant amount of money in motion.” The Institute expects sales to rebound in the first quarter 2017, responding to the post election interest rate spike late in 2016.

Waiting for yields

“This marks the ninth consecutive year of growth for FIAs,” noted Giesing. “We have noticed FIA sales have declined quarter over quarter since the Department of Labor (DOL) reclassified FIAs under the best interest contract exemption (BICE). Until there is some clarity on the DOL fiduciary rule, the Institute expects sales to continue to drop in 2017.”

“Until yields come up, consumers are going to resist giving up liquidity for the guaranteed income offered through income annuities,” said Giesing. “That said, demographics are in our favor, we expect slow steady growth in the income annuity market.”

Great American, Allianz Life and Lincoln Financial have begun wholesaling no-commission FIAs for brokers and agents who switched to a fee-based advisory model to avoid the impact of the BICE. But, even if the Obama fiduciary rule remains intact and in effect, they may not prove as popular as commission-paying products.

Advisors may find it difficult to levy a full advisory fee on assets that are in a packaged product. “I’m not sure how you can justify charging a management fee on a fixed annuity that typically has one time per year that you can change or modify the index option choices,” said Stan Haithcock, who is known professionally as “Stan the Annuity Man.’

“First of all, FIAs are fixed annuities, so the advisor is not managing risk. Secondly, the index option choices were designed in 1995 to compete with CD returns, and that is how they have historically performed. The caps and spreads—the upside limitations—are a little higher with these fee-based FIAs, but not as high as I expected with all of the commissions stripped out. I do not see these fee-based FIAs catching on with the advisors, who are the ones needed to push the strategy out to the consumer.”

Variable annuities’ long slide

VA sales have been below $30 billion every quarter of 2016 and have seen yearly sales declines for five consecutive years. VA sales are nearly $80 billion lower than their peak in 2007 and are at their lowest level since 1998.

“Aside from the DOL fiduciary rule, one of the factors driving VA sales declines has been a drop in sales of products with guaranteed living benefit riders,” noted Giesing. “LIMRA Secure Retirement Institute is expecting sales of variable annuities with a GLB rider to be around $50 billion in 2016. This is a decrease of nearly $20 billion from last year, and a drop of over 50% from just five years ago.”

LIMRA Secure Retirement Institute’s fourth quarter U.S. Individual Annuities Sales Survey represents data from 96% of the market.

Getting Basic Income Right

Posted on March 22, 2017 by Kemal Dervis -

Universal basic income (UBI) schemes are getting a lot of attention these days. Of course, the idea—to provide all legal residents of a country a standard sum of cash unconnected to work—is not new. The philosopher Thomas More advocated it back in the sixteenth century, and many others, including Milton Friedman on the right and John Kenneth Galbraith on the left, have promoted variants of it over the years. But the idea has lately been gaining much more traction, with some regarding it as a solution to today’s technology‐driven economic disruptions. Can it work?

The appeal of a UBI is rooted in three key features: it provides a basic social “floor” to all citizens; it lets people choose how to use that support; and it could help to streamline the bureaucracy on which many social‐support programs depend. A UBI would also be totally “portable,” thereby helping citizens who change jobs frequently, cannot depend on a long‐ term employer for social insurance, or are self‐employed.

Viewing a UBI as a straightforward means to limit poverty, many on the left have made it part of their program. Many libertarians like the concept, because it enables – indeed, requires – recipients to choose freely how to spend the money. Even very wealthy people sometimes support it, because it would enable them to go to bed knowing that their taxes had finally and efficiently eradicated extreme poverty.

The UBI concept also appeals to those who focus on how economic development can replace at least some of the in‐kind aid that is now given to the poor. Already, various local social programs in Latin America contain elements of the UBI idea, though they are targeted at the poor and usually conditional on certain behavior, such as having children regularly attend school.

But implementing a full‐blown UBI would be difficult, not least because it would require answering a number of complex questions about goals and priorities. Perhaps the most obvious balancing act relates to how much money is actually delivered to each citizen (or legal resident).

In the United States and Europe, a UBI of, say, $2,000 per year would not do much, except perhaps alleviate the most extreme poverty, even if it was added to existing social‐welfare programs. An UBI of $10,000 would make a real difference; but, depending on how many people qualify, that could cost as much as 10% or 15% of GDP—a huge fiscal outlay, particularly if it came on top of existing social programs.

Even with a significant increase in tax revenue, such a high basic income would have to be packaged with gradual reductions in some existing public spending—for example, on unemployment benefits, education, health, transportation, and housing—to be fiscally feasible. The system that would ultimately take shape would depend on how these components were balanced.

In today’s labor market, which is being transformed by digital technologies, one of the most important features of a UBI is portability. Indeed, to insist on greater labor‐market flexibility, without ensuring that workers, who face a constant need to adapt to technological disruptions, can rely on continuous social‐safety nets, is to advocate a lopsided world in which employers have all the flexibility and employees have very little.

Making modern labor markets flexible for employers and employees alike would require a UBI’s essential features, like portability and free choice. But only the most extreme libertarian would argue that the money should be handed out without any policy guidance. It would be more advisable to create a complementary active social policy that guides, to some extent, the use of the benefits.

Here, a proposal that has emerged in France is a step in the right direction. The idea is to endow each citizen with a personal social account containing partly redeemable “points.” Such accounts would work something like a savings account, with their owners augmenting a substantial public contribution to them by working, studying, or performing certain types of national service. The accounts could be drawn upon in times of need, particularly for training and re‐skilling, though the amount that could be withdrawn would be guided by predetermined “prices” and limited to a certain amount in a given period of time.

The approach seems like a good compromise between portability and personal choice, on the one hand, and sufficient social‐policy guidance, on the other. It contains elements of both US social security and individual retirement accounts, while reflecting a commitment to training and re-skilling. Such a program could be combined with a more flexible retirement system, and thus developed into a modern and comprehensive social‐solidarity system.

The challenge now—for the developed economies, at least—is to develop stronger and more streamlined social‐solidarity systems, create room for more individual choice in the use of benefits, and make benefits portable. Only by striking the right balance between individual choice and social‐policy guidance can modern economies build the social‐safety programs they need.

Assets flowed to fixed income and passive equity funds in February

Posted on March 22, 2017 by Editorial Staff -

In February, investors put $29.1 billion into U.S. equity passive funds, down from $30.6 billion in January 2017. On the active side, investors pulled $8.9 billion out of U.S. equity funds during the month.

Total inflows to U.S. equity funds, both active and passive, doubled since January, according to Morningstar’s February asset flow report.

Highlights from Morningstar’s report:

Investors continue to contribute to fixed income, adding $35.5 billion in estimated net flows.
The MSCI EAFE Index rose 1.4% in February, signaling modest growth in developed international markets.
International-equity funds enjoyed $14.7 billion in new flows, with passive making up the majority at $13.6 billion.
All category groups except allocation enjoyed positive flows in February, showing optimism about the U.S. market.
U.S. equity has been in positive-flow territory for four consecutive months, a feat not witnessed since late 2014.
Morningstar Category trends for February continue to show large- and mid-cap blend in the top five in terms of inflows.
Intermediate-term bond was in the top spot, with inflows of $6.2 billion to active and $6.0 billion flowing into passive.
Among top U.S. fund families, T. Rowe Price, American Funds, and PIMCO had modest inflows on the active side in February, with $1.7 billion, $1.5 billion, and $1.2 billion, respectively.
Vanguard and iShares continued to dominate on the passive side, garnering $29.8 billion and $16.7 billion, respectively.
Among active funds, PIMCO Income, which has a Morningstar Analyst Rating of Silver, attracted the largest inflows of $2.0 billion. Bronze-rated PIMCO Total Return continued to place in the bottom five despite good returns, with outflows of $1.0 billion in February.
Active fund Vanguard Institutional Short-Term Bond had the worst outflows of all active funds in February, at $1.6 billion.
In the passive arena, iShares saw three of its funds land in the bottom five: iShares Russell 2000, iShares iBoxx $ High Yield Corporate Bond, and iShares MSCI Japan, with $1.6 billion, $397.0 million, and $347.0 million in outflows, 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.

T. Rowe Price launches its version of a hybrid robo-advisory solution

Posted on March 22, 2017 by Editorial Staff -

Under T. Rowe Price’s new “ActivePlus Portfolios” program, IRA investors can receive the firm’s asset allocation expertise, rebalancing, and advice with no additional advisory fee. Investors pay only the expense ratio of the underlying funds in the portfolio.

The Baltimore-based no-load fund giant and 401(k) provider announced the program this week, calling it a “digital discretionary investment and advisor solution designed for investors who want access to actively managed funds.” BNY Mellon’s Pershing will serve as the broker-dealer for the accounts.

The ActivePlus Portfolios program is available at the initial launch for individual retirement accounts (IRAs). IRA Investors with a minimum of $50,000 will receive a model portfolio recommendation after answering a short questionnaire to assess risk tolerance, time horizon, and investment goals. Each model portfolio will consist of eight to 13 of T. Rowe Price’s actively managed mutual funds.

Features of the new program include:

No advisory fees. While investors will pay the expense ratios of the funds in their model portfolio, they will not be charged an additional advisory fee or commission.
T. Rowe Price’s asset allocation expertise and model portfolios.
Aside from digital services, investors will also have phone access to licensed client managers solely dedicated to ActivePlus Portfolios clients.
Investors will have full transparency into their mutual fund holdings and trading activity within their accounts, along with access to account values, performance information and details on cash flow and market movement.

Retirees confident about retirement; workers not so much: EBRI

Posted on March 22, 2017 by Editorial Staff -

Many American workers today feel stressed about retirement but aren’t doing much about it, according to the 2017 Retirement Confidence Survey (RCS) by the Employee Benefit Research Institute (EBRI) and Greenwald & Associates.

Only 18% of workers feel very confident about retirement, while 32% of retirees feel very confident, the survey showed. Almost 80% of retirees report feeling either very or somewhat confident about affording a comfortable retirement.

Three in 10 workers report that they feel mentally or emotionally stressed about preparing for retirement, according to the research. Another 30% say they worry about their personal finances while at work. Half of the workers surveyed believe they would be more productive at work if they didn’t worry as much. Among all workers, about half say that retirement planning (52%), financial planning (49%), or healthcare planning (47%) programs would enhance their productivity.

The survey was conducted from Jan. 6, 2017, to Jan. 13, 2017, through online interviews with 1,671 individuals (1,082 workers and 589 retirees) ages 25 and older in the United States.

Many workers are not taking critical retirement-planning steps, the survey showed. For instance:

39% say they have not saved for retirement.
59% have not tried to figure out how much money they will need in retirement.
Fewer than 40% have estimated how much income they would need each month in retirement, estimated the amount of their Social Security benefit, or estimated their expenses in retirement.
The share of workers reporting that they feel either very or somewhat confident is lower than last year (60% from 64% in 2016).
Worker confidence is very close to the levels measured in 2015 (when 59% were either very or somewhat confident).

“Debt, lack of a retirement plan at work, and low savings,” are the three main contributors to low retirement confidence, said Craig Copeland, EBRI senior research associate and co-author of the report. A third of workers who feel their debt is a major problem are very or somewhat confident about retirement, compared with 78% of those who say debt is not a problem. Confidence differences are similar between those who don’t or do have a retirement plan, respectively.

Other major findings in this year’s survey include:

73% who are not currently saving for retirement say they would be at least somewhat likely to save for retirement if their employers matched their contributions.
Two-thirds of non-saving workers say they would be likely to save for retirement if their employer offered automatic paycheck deductions at either 3% or 6% of salary, with the option of changing or stopping them.
Only 54% of workers say they’re very or somewhat confident about being able to afford medical expenses in retirement (vs. 77% of retirees).
Workers are less likely than retirees to be confident that Medicare will continue providing current level of benefits (38% of workers are confident about benefits vs. 52% of retirees).

For many, marriage and lack of debt define ‘middle class’: LIMRA study

Posted on March 22, 2017 by Editorial Staff -

The 68% of consumers who identify as “middle class” feel it is getting harder to be able to live a middle class lifestyle, according to a new report from LIMRA and Maddock Douglas, a consulting firm based in Elmhurst, Illinois.

“The majority of consumers believe they are in the middle class, including 81% of those who would be categorized as upper class (as defined by Pew Research),” said Scott Kallenbach, director LIMRA Strategic Research. “There in 10 self-identified middle class consumers say they are living paycheck-to-paycheck and fewer than half believe the ‘American Dream’ is alive.”

Eight in 10 middle class consumers have concerns of becoming seriously ill. Seven in ten worry that being injured; incurring an unplanned home expense; or significant financial loss could undermine their future. Three in ten say they are living paycheck-to-paycheck and feel it is impossible for them to save for the future.

Consumers did not agree on the definition of a typical middle class lifestyle. Seven in 10 married people feel that being married is part of being a typical middle class household. While only 4 in 10 who are not married share this sentiment.

Being debt-free within 10 years is the biggest goal for the third of those surveyed who currently have debt. Among adults aged 26-34, four in 10 say they want to be debt-free within the next 10 years. Prior LIMRA research shows that 39% of Millennials have student loan debt.

Most middle class consumers dream of having a comfortable, fulfilling lifestyle in the future. Unfulfilled goals that they think would help them achieve this are: taking vacations (cited by 20%), owning a home (14%) and living a healthy lifestyle (14%).

In other findings:

30% of those surveyed said they don’t expect to retire and more than half (52%) say they plan to work for pay in retirement.
65% feel they have few options regarding their career path choices. More than eight in 10 say they could not pursue other career interests without experiencing considerable financial worry.
A third of middle class consumers are working with a financial professional.
Almost three in 10 believe they will never have enough money for a financial professional to be interested in working with them, including nearly half of those who are working in retirement and four in 10 who do not plan to retire.
26% of middle class consumers use a financial advisor/planner, 12% use an advisor from a bank and 11% use an insurance agent/broker.
One third of consumers who work with at least one financial professional feel that their advisor is not meeting all of their needs.
65% believe that budget management is the most common step that middle class consumers feel they need to take.
47% mentioned saving for retirement and 39% mentioned building an emergency fund as financial goals.

The study examined more than 2,500 consumers in the United States and Canada, ages 26-75 years old who identified themselves as ‘middle class’ and were the decision-makers in the household. The results were weighted to represent the general population.

Savings Pros Meet in City of Big Spenders

Posted on March 21, 2017 by Kerry Pechter -

Gathered around the blackjack dealers and roulette croupiers at Las Vegas casinos this week, the sort of folks you’d normally see shopping at Walmart were throwing their money down with an intensity that they really should have directed toward their 401(k) plans—assuming they have them.

Just about everyone here in Sin City seemed hellbent on spending, not saving—unless you count the 1,800 or so plan advisors and vendors holed up in the conference center at Caesar’s Palace. Attendees at the National Association of Plan Advisors 2017 Summit were less focused on shooting craps in Vegas than on the political crapshoot back in Washington, D.C., and the effect it might have on their livelihoods.

The fiduciary rule won’t disappear

Brian Graff, the CEO and chairman of the American Retirement Association (NAPA’s parent group), lobbies for this group. A former Groom Law Group attorney, his job is to plead NAPA’s case to Congress. On Monday, at the start of the conference, he confessed that political uncertainty about the fiduciary rule and tax reform keeps him in a state of “anxiety 24 hours a day.”

If you thought that plan advisors would be giddy with expectations that the Obama Department of Labor’s fiduciary rule will die after its anticipated nine-month suspension, think again.

“That’s an unlikely scenario,” Graff said in a press conference. The Trump DOL is more likely to try to surgically excise the most vexing part of the rule. That would be the so-called Best Interest Contract. It makes firms whose advisors earn third-party commissions on the sale of mutual funds, indexed annuities and variable annuities vulnerable to federal class action lawsuits—as opposed to arbitration proceedings—from groups of disgruntled IRA investors who believe that firms didn’t act in their “best interests.”

A full-blown repeal of the Obama rule isn’t expected. It’s not a huge priority for Republicans. Advisors are already moving away from the commission model and relocating small-balance clients to automated services. A few life insurers, meanwhile, have started marketing no-commission indexed annuities, though with limited success.

The rule would be difficult to undo. Even though it isn’t yet enforced, it has actually been hard-wired into the pension regulations since last June. “The [Trump] DOL can’t just issue a piece of paper making the fiduciary rule go away,” Graff (pictured below right) said. “It is the law. And it’s effective, but not applicable.”

Budget hawks eye tax deferral

Tax reform is a much bigger priority for Republicans, and that’s what most worries Graff, who is important enough a lobbyist to have been seated between Carl Icahn and a supermodel at a Trump inauguration dinner. (“Icahn had no idea 401(k) plans were such a big deal,” Graff joked. “And the model said, ‘Yeah, and I can’t even have one because I’m a contract worker.’”)

Based on bitter experience, Graff is concerned that Congressional deficit hawks will raid the $100 billion-plus annual retirement tax expenditure to help pay for tax reduction for the wealthy and new defense spending. “At this point, if they do tax reform, there’s no pathway where we get through this process unscathed,” Graff said.

During the 1986 tax reform, Congress cut the maximum 401(k) contribution to $7,000 from $30,000, he reminded listeners. Just three years ago, the House Ways and Means Committee chair, Dave Camp, suggested freezing DC plan contribution limits for 10 years and cutting the maximum deductible contribution limit in half. (The other half could be made as a contribution to a Roth account, eligible for tax-free withdrawals.)

Congress is more inclined toward a reduction in capital gains taxes, 81% of whose benefits would go to those earning $200,000 a year or more, Graff said. “Capital gains versus tax reform is the choice they are facing,” he noted, and his job “is to make this choice as difficult as possible.” He intends to remind Congress that a) 401(k) savings contribute to growth, and b) capital gains tax relief for the top 5% “won’t sell well politically.”

In truth, the benefits of tax deferral also accrue mainly to top earners. Only about half of American workers have access to a retirement plan at work at any given time, and only a fraction of participants accumulate large balances. Leakage of assets during job turnover is a big problem for middle-class Americans, many of whom lack any savings other than plan assets. Ironically, those who benefit the most from tax deferral often resent the system in retirement, when their deferred income taxes come due. In short, the $100 billion tax expenditure for retirement savings is a vulnerable, high-value target for tax reformers—more so than, say, the home mortgage interest deduction.

HSAs: A threat to 401(k)s?

Healthcare Savings Accountswere another topic of conversation in Las Vegas this week. These tax-advantaged accounts, popular with employers who hope to adopt high-deductible health insurance plans, were characterized as a threat to 401(k) plans. “People will save in the HSA first, then save in their 401(k) up to the match, and then go back to the HSA,” Graff said.

The key issue appeared to be that contributions to health savings accounts would not be invested in the plan investment options. Graff favored an integrated health and savings account, with all the assets going into the plan investments—with no harm to the all-important levels of assets under management, on which revenue is usually based.

State-sponsored mandatory auto-IRA programs

These pending programs, which aim to expand access to retirement plans to working Americans who don’t have it, have gotten the most traction in blue states. California, for instance, is close to launching its SecureChoice plan, which will require any employer without a plan to allow their employees to be auto-enrolled into target-date funds in IRAs.

Republicans have moved to deprive the plans of their exemption from regulation under federal pension law; that would re-introduce a legal complication that could discourage some states from starting their own plans. An underlying question is whether the state IRA plans might disrupt the way 401(k)s traditionally get distributed and how individual savings moves up the financial food chain. Many advisors, either as a specialty or a sideline, sell 401(k) plans to small and mid-sized businesses and, by doing so, help move large chunks of money to asset managers.

But Graff likes the mandates. They could motivate some employers to get off the fence and finally agree to sponsor a 401(k) plan, which would offer them and their workers more benefits than the auto-IRA. The National Association of Insurance and Financial Advisors (NAIFA), however, regards the state mandates as encroachment on its turf. NAIFA is lobbying hard against the state initiatives.

Only one retirement income session

Although the conference included only one break-out session on retirement income in defined contribution plans, over 100 people came to hear Kelli Hueler of the Hueler Companies and Barbara Delaney of StoneStreet Advisor Group talk about their efforts to convince plan sponsors to at least start telling participants that the point of saving in a 401(k) is to generate monthly income in retirement.

Hueler operates Income Solutions, an online rollover platform where newly retired 401(k) participants can solicit competitive bids on individual income annuities from several life insurers simultaneously. All Vanguard participants and shareholders can use her platform. Boeing is the most recent big plan sponsor to encourage its retirees to use Income Solutions.

A shout-out for DC income solutions came from an unlikely wirehouse source at the conference: Morgan Stanley’s Ed O’Connor. “I know there’s no uptake on this right now, but these products are out there. I think someone is going to crack that code,” he said. “And advisors need to keep up to speed on them. Clients won’t think to ask you about retirement income. But you can demonstrate your value by positioning yourself as the person who poses those kinds of questions to them.”

What Fee-based Indexed Annuities Reveal

Posted on March 17, 2017 by Kerry Pechter -

The Obama fiduciary rule—which may not survive—triggered the creation of retirement savings and income products that have unusually high value for consumers. Ironically, few insurance agents or financial advisors will be eager to sell or recommend them.

That product is the no-commission or fee-based version of the popular fixed indexed annuity (FIA). Before advisory fees, this type of FIA offers significantly more potential return (while also guaranteeing against principal loss) than similar FIAs in which the selling agent’s commission is embedded in the crediting rates.

Starting in the 1990s with Bob MacDonald’s LifeUSA indexed annuity business, the FIA business was built with the help of compellingly high incentives (including large commissions, vacations and other sweeteners) for independent insurance agents.

Those “Wild West” days are over, and MacDonald has long since sold LifeUSA to Allianz Life and retired to Key West. But FIA commissions are still among the highest that an agent or advisor can earn, and those incentives helped turn FIAs into the fastest-growing annuity category, with some $60 billion a year in sales. (FIA assets consist of bonds, held in the issuer’s general account, along with a dash of equity options for upside potential).

The Best Interest Contract Exemption of the Obama Department of Labor’s fiduciary rule (effective last June but now under review by the Trump DOL) targeted this highly effective business model. The rule was issued in the belief that the high incentives motivated agents to steer retirement clients toward FIAs even when the sale wasn’t suitable for the client. The rule aimed to discourage that practice by requiring agents or advisors who earned commissions from insurance companies to sign a formal pledge, called the Best Interest Contract (BIC), that committed them to acting only in their clients’ interests and not their own when selling FIAs or variable annuities (VAs) to retirement clients.

Rather than sign the BIC, which brought potential exposure to federal class action suits, many commission-based sellers of those annuities have (or are expected to) switch their compensation model to asset-based fees. To give them an FIA they can sell under that model, FIA issuers created the no-commission FIA. So far, Great American, Allianz Life and Lincoln Financial have issued such products. At least three more products are expected from other insurers.

These new FIAs can be good for investors. Because the insurance company doesn’t pay the sales intermediary an upfront 4%, 5% or even much higher commission, the contract offers the client potentially higher returns. But the client isn’t likely to capture that advantage, for two reasons. First, the advisors’ typical 1% to 1.5% fee on the annuity assets will likely consume all or most of the extra gains. Second, advisors may not recommend FIAs at all, because they no longer have the incentive of large carrier-paid commissions.

Under these circumstances, FIA sales would likely go down. Some inappropriate FIA sales would probably not occur. On the other hand, few investors would realize the benefits of fee-based FIAs. But there’s another possibility. Advisors could recommend the purchase of no-commission FIAs and split the yield advantage with the client by charging just 50 basis points on the FIA assets. Such advice would truly be in the client’s best interest and, for all the right reasons, might even stimulate sales.

The Fiduciary Rule Delay and Legal Exposure: One Law Firm’s Opinion

Posted on March 17, 2017 by Kerry Pechter -

It is possible that the delay to the Department of Labor (DOL) Fiduciary Rule applicability date will not be effective before April 10. If that were to happen, it could cause enormous confusion and noncompliance. In an effort to head off these problems, the DOL has published Field Assistance Bulletin 2017-1 (the FAB), which provides some limited temporary relief.

So, what does this mean for advisers and financial institutions? The FAB recognizes the industry’s concerns about having to comply with the Rule during a temporary “gap period,” as well as the possibility that it could find out only immediately prior to April 10 that no delay would occur.

The FAB assures advisers and financial institutions that they will not face possible DOL enforcement merely because they elect to “wait and see” what happens. The FAB makes clear that the DOL still intends to issue a final delay regulation before April 10, but it provides at least some breathing room for the industry in light of the uncertainty.

Specifically, the FAB provides that the DOL will not take enforcement action for non-compliance with the Fiduciary Rule, including its related exemptions, in two cases:

1. “Gap” Period: If the DOL decides to delay the Fiduciary Rule but the delaying regulation is not finalized until after April 10, the Fiduciary Rule would briefly become applicable during the resulting “gap period.” This would trigger fiduciary status and prohibited transactions for many advisers and financial institutions that waited for the DOL to complete the regulatory process. During the gap period (April 10 until the delay is finalized), the FAB states that DOL will not take enforcement action related to the Rule.

2. No Delay: If DOL decides to let the Fiduciary Rule become applicable on April 10 with no further delay, advisers and financial institutions would have a “reasonable period” after that decision is announced to begin complying with the Rule. Further, the FAB states that the “Transition Period” disclosures required under the Best Interest Contract Exemption (BICE) and the DOL’s exemption for principal transactions could be provided during the 30-day “cure period” that these two exemptions recognize where disclosures are inadvertently omitted.

In fact, it appears that the DOL is hoping that advisers and financial institutions relying on BICE (or the principal transaction exemption) will hold off on providing retirement investors with Transition Period disclosures until after the delay (if any) is finalized. In the FAB, the DOL expressed its concern over investor confusion resulting from disclosures that communicate uncertain applicability dates and “conditional” acknowledgements of fiduciary status.

Finally, the FAB states that the DOL will consider additional relief as necessary, including a potential prohibited transaction exemption. As we explain below, we believe additional relief will be needed, because the enforcement policy set forth in the FAB provides relief only from DOL enforcement, not from prohibited transaction excise taxes or private litigation.

Does the FAB provide absolute protection?

No. The FAB provides no protection or assurances against action by other regulators or the private sector. Unless the DOL issues a class exemption providing relief for prohibited transactions occurring during a “gap period” (or a “reasonable period” after the decision not to delay the Rule is published, if this should occur), the enforcement policy alone won’t provide relief for “conflicted” advice to IRAs or for excise taxes resulting from prohibited transactions involving ERISA plans.

The DOL has no jurisdiction over the enforcement of the prohibited transaction rules for IRAs, or the assessment of excise taxes, which is handled by the IRS in all cases.

As a statement of the government’s intent, however, the FAB is a very important first step. It puts the DOL on record as wanting to avoid negative consequences that would result from a temporary application of the Rule. We applaud this, and hope DOL will build on this foundation, providing an even stronger statement of its intentions to hold harmless those who act in good faith.

What should advisers and financial institutions do now?

Despite the limited relief, advisers and financial institutions may want to proceed with their compliance efforts. While we believe the Rule will probably be delayed, the delay would only be until June 9. During the 60-day delay period, the Rule will be re-reviewed. It may be ultimately modified or revoked, but the final result is far from certain.

Second, it is important to remember that compliance with the current fiduciary and prohibited transaction rules is required in the meantime. The publicity surrounding the Rule has resulted in fiduciary status and “conflicted” recommendations from advice fiduciaries becoming more closely scrutinized.

If no delay occurs (which is unlikely, in our view), compliance with the Rule would be required within a “reasonable period,” even with respect to DOL enforcement. For disclosures required during the BICE Transition Period, the 30-day cure period could be regarded as a safe harbor of sorts.

In other cases, the FAB does not explain what the DOL would consider a “reasonable” period, but it could be quite short. The FAB provides some flexibility for institutions to consider whether to wait and see what happens in early April, but the relief is not absolute. Advisers and financial institutions should follow further developments closely, and we intend to provide updates to our financial services clients as they unfold.

FIA Yields That Clients May Never See

Posted on March 17, 2017 by Kerry Pechter -

Not long ago, an investor read about a new, fee-based, fixed indexed annuity (FIA) contract with a crediting rate that was 50% richer than similar commission-based products. So he called an online insurance broker to buy it from one of their licensed agents.

Slight confusion ensued. The agent executed the paperwork, but when he contacted the life insurance company that issued the FIA, he found he couldn’t collect a commission or charge an advisory fee. Unsure what to do, the agent—who didn’t want his name used—completed the transaction anyway.

In the past six months, three life insurers have issued no-commission FIAs. They did so because many agents and advisors who have been selling FIAs on commission are expected to switch to asset-based compensation (in part to avoid signing the Department of Labor’s legally onerous “Best Interest” pledge). At least three more carriers are said to be building fee-based FIAs.

Stripped of distribution costs, the new no-commission FIAs are potentially much richer than commission-paying FIAs. Great American’s no-commission Index Protector 7 FIA, for instance, caps the maximum amount of interest the client can earn in a year from growth of the S&P 500 at 7.25%, or 40% to 50% higher than on the commission version.

Even if investors are paying close enough attention to notice the bump in value, they probably won’t be able to benefit from it. Fee-based advisors who sell FIAs are expected to charge their customary annual fees of 1.0% to 1.5% on the annuity assets, which would offset the clients’ gains. They could charge less, but at their own expense. As for FIA issuers, they generally don’t want one of their distribution channels to have a price advanage over another.

Fixed indexed annuities, whose premiums are invested bonds and equity options, have always been “black boxes,” with opaque crediting methods. Some insurance marketers have billed them as “no fee” products; because the commissions are built into the calculations of the caps on crediting rates. But the heightened transparency of the new no-commission products reveals how much FIA buyers have been paying agents: an estimated 40% of the potential gains of a multi-year contract.

Would more people buy FIAs, which in certain markets offer better downside protection and more upside potential than bonds, if more of the value trickled down to the client? Unless fee-based advisors decide to sell FIAs for less than their usual fee, we may never find out. But the opportunity now exists, and the new products are clearly more consumer-friendly.

“If I were buying an FIA, I’d rather have the value in the product. That’s the product I would sell to my mother,” said Paul McGillivray, an attorney, sales director at M&O Marketing, an insurance marketing organization (IMO) in the Detroit area, and former senior vice president at CreativeOne, a Kansas IMO.

“A few years back I predicted $100 billion in FIA sales by now, based on the appeal of the core value proposition of the product,” said David Macchia, CEO of Wealth2k, which creates online marketing packages for independent advisors. “I postulated that the ‘good’ (the core value) would be delinked from the ‘bad’ (high commissions), and that more advisors and investors would crave the value prop. I still believe that, although the date has been pushed back a bit.”

In practice, the no-commission FIA may simply plug a potential hole in the issuer’s product offering, giving FIA-loving agents a product they can sell if they switch to fee compensation. “At least during the transition from the old world to the new world, I suspect that no-load FIAs won’t just step in and produce the kinds of sales numbers that we’ve seen from commissioned products,” said Tim Pfeifer, a consulting actuary who is currently helping companies design no-commission FIAs. “There will probably be a transition with lower sales. A lot of companies will have them, but we won’t see billions and billions of dollars in sales.”

The fee-based advantage

So far, Great American Life, Allianz Life and Lincoln Financial Group have issued no-commission annuities. At least three other firms are building them. At the wholesale level, these products offer as much as 50% more upside to policyholders as they do when a commission is factored into the calculation of their crediting formulas. (The basic principle behind FIAs is fairly simple; most of the contract assets are invested in the insurer’s general fund, but a small percentage of it is invested in options on an equity index.)

For instance, the maximum annual interest rate that could be credited to a typical commission-based FIA linked to the S&P 500 might be 4% per contract year, while the no-commission product might be as much as 6%. (Commission-based FIAs have sometimes been marketed as having “no fees,” because the distribution costs were built into the crediting terms.)

“There are higher rates/caps and higher income benefit guarantees on our fee-based FIA product relative to the most comparable commission-based FIA product we offer,” said Jeff Faust, a spokesperson for Allianz Life, which launched its Retirement Foundation ADV fee-based FIA, which has a lifetime income rider, told RIJ recently.

“However, once you factor in a typical advisory fee (coming from client assets outside the annuity for the advice on the annuity), the economics to the client are very similar between the fee-based FIA and the commission based FIA. Technically, an insurance agent cannot sell a no-commission product and collect a fee for this advice,” Faust wrote in an email. “Regarding how much a fee-based advisor can charge, it is the advisor’s responsibility to work out with their client the fees that they are charging for the advice they are providing.”

At Lincoln Financial, the fixed rate option for the Covered Choice 5 FIA is 2.85% for the no-commission version and 2.25% for the commission version. The crediting cap with a one-year point-to-point contract linked to the S&P 500 is 5.60% on the no-commission product, versus 4.25% on the commission product, according to Brian Wilson, Lincoln Financial’s assistant vice president, product development, FIAs.

Under the “performance trigger” option, the fee-based version of Covered Choice 5 pays 4.75% in contract years when the S&P 500 is positive, versus 3.75% for the commission product, Wilson said in an interview.

One important difference between the two types of FIAs is that someone needs only an insurance license to sell the commission-based version. But to sell a fee-based FIA, advisors who recommend the product must have securities licenses (even though the product is not a registered security) and they or their firm must be insurance-licensed and have a selling agreement with the life insurer that issued the contract.

“A fee-based fixed indexed annuity is an insurance contract but we do have the restriction that you must be both insurance-licensed and an investment advisor—primarily because it pays no compensation and we don’t want insurance agents running around charging fees without the proper licensure,” said Joe Maringer, national sales vice president for annuities at Great American Insurance Group. “There are certain scenarios where an RIA (registered investment advisor) firm may have an insurance-only person on staff that we would allow to write this contract. The billing for the annuity would take place at the firm level.”

There’s “no channel conflict,” Maringer added, in the sense that consumers might get a better deal with an advisor than with an agent. The new product simply “opens up to fee-based advisors who want principal protection and upside opportunities that haven’t sold FIAs because they paid a commission” and “provides choice to the consumer on how they want to pay for service. This will become a bigger point over time and as the market continues to be educated around financial planning,” he said.

How distributors see it

Mike Tripses is CEO at CreativeOne, which acts as a wholesaler to retail insurance agents. It also owns Client Securities, a broker-dealer, and has set up an RIA that employs investment advisor representatives (IARs), who are fiduciaries. As an actuary, Tripses has also designed FIAs.

“Yes, the [no-commission FIAs] have higher crediting rates or adjustment factors on the indexed allocations. However, these products are not distributed for free. Agents are not ‘Mother Theresa.’ They have expenses, businesses and families to feed,” he told RIJ in an email.

“No-commission FIAs are designed to be sold by IARs who manage money,” Tripses wrote. “Some of these allow fees of 1% or more per year to be withdrawn directly from the account value of the annuity. Others do not: the fee must be deducted from other cash accounts of the assets under management. Over the term of the product the results of non-commissioned and commissioned FIAs may not be that different. The non-commissioned FIA will just be more transparent.”

He added: “Yes, market pressures will move things in the future. However, all of the carriers we are working with today have indicated that they believe their all-in pricing for commissions in today’s products are reasonable. I see no ‘rush to the bottom’ occurring. That doesn’t mean there might not be an eventual inexorable drift. There may be advisors/agents who charge less than a point, reasoning that the FIA asset is more hands-off for them. That would change the calculation, of course, and may lead to downward pressure on up-front commissions as well.”

Commonwealth Financial Network, a Waltham, Mass. broker-dealer and RIA, no longer allows its 1,700 independent advisors to accept commissions when selling annuities to clients with pre-tax retirement accounts, such as rollover IRAs. So when they recommend an FIA to a client, they will include the FIA contract value in the balance on which they charge an annual percentage.

Brian Donahue, the relationship manager for insurance and annuities at Commonwealth, told RIJ that the firm’s advisors may end up selling fewer FIAs in the future because the commissions, at least in part, drove the sales. And even though the higher caps on the fee-based FIAs are alluring, the new products won’t necessarily offer any higher returns for investors and won’t offer advisors any more compensation than they can earn by recommending simpler products, like mutual funds.

“The nice thing about these products is that, once you strip the compensation, they are super robust—amazingly so. You’d be crazy not to look at these products because of how rich they are,” Donahue said. “But there’s less incentive to sell it. That’s why there’s a concern with the fiduciary rule, and why it ends up hurting investors.” His firm is unsure how much guidance to give its advisors about fees. In theory, Commonwealth advisors can charge anywhere from zero to 2.25% per year on the FIA assets.

“These products are still brand new. We’re still deciding internally whether to tell advisors, ‘You can’t charge more than 1.25% as a wrap fee,’” Donahue added. But that’s not Commonwealth’s style. “At Commonwealth we hate to put too much overbearing restraint on advisors. They are independent, and obviously different from wirehouse advisors.”

The ground rules for selling annuities to retirement clients is different at Raymond James. Its advisors can still sell commission-based FIAs to retirement clients, as long as they sign the DOL’s Best Interest Contract Exemption, which forces them to promise to act as a fiduciary and ignore their own financial interests. They can avoid signing the BICE by selling no-commission FIAs and charging an asset-based fee. They are fiduciaries nonetheless, but unlike signers of the BICE they would not be vulnerable to a federal class action lawsuit from dissatisfied investors.

“We’re offering both [fee-based and commission-based FIAs],” said Scott Stolz, senior vice president, PCG Investment Products, at Raymond James. “It’s obvious that, DOL or no DOL, this whole process is pushing more and more advisors to a fee-base-only model. We have told our insurance companies that they will need a fee-based alternative for those advisors [who don’t take commissions or use the BICE]. Even the firms like ours, that are planning to use the BICE and will continue to offer commission-based products, will find that the advisors will make their own choices.”

‘Nothing stops commoditization’

The future of FIA sales is more uncertain than it has been since the George W. Bush administration, when the Securities & Exchange Commission attempted unsuccessfully to classify them as securities products subject to supervision by the SEC and FINRA. The Obama fiduciary rule was almost certain to dent FIA sales because it added a regulatory hurdle to sales by commissioned agents. But now that rule is in jeopardy.

David Macchia, CEO of Wealth2k, believes that with the increasing transparency and commoditization of financial products, the old labor-intensive model of making money by selling products is coming to an end, with or without the Obama fiduciary rule.

“Even if manufacturers wish to avoid channel conflict, the mere existence and availability of a zero-commission FIA creates pressure to lower compensation on all FIAs,” Macchia told RIJ in an e-mail. “It’s like injecting a bacteria-fighting cell into the body. Gradually the drug wipes-out more and more high-commission disease cells. Placing the FIA in an advisory account offers benefits. But I cannot see how charging 1.25% or even 1% is justifiable. Maybe not immediately, but over the mid-term I don’t think that will be viable. Nothing stops commoditization.”

At the least, FIA sales, which have risen steadily for several years because of their unique combination of downside protection and upside potential, will be adversely affected this year. “You see dire projections that sales will drop by 50% percent. I’m not in that camp,” said actuary Tim Pfeifer. “There’s a demographic movement in favor of FIAs. I have confidence in the creativity of carriers. They will overcome the challenges facing FIAs and the marketplace will rebound.”

As expected, Fed nudges target rate higher

Posted on March 16, 2017 by Editorial Staff -

On March 15, 2017 at 2 p.m., the Federal Reserve published the following announcement:

Information received since the Federal Open Market Committee met in February indicates that the labor market has continued to strengthen and that economic activity has continued to expand at a moderate pace. Job gains remained solid and the unemployment rate was little changed in recent months.

Household spending has continued to rise moderately while business fixed investment appears to have firmed somewhat. Inflation has increased in recent quarters, moving close to the Committee’s 2% longer-run objective; excluding energy and food prices, inflation was little changed and continued to run somewhat below 2%. Market-based measures of inflation compensation remain low; survey-based measures of longer-term inflation expectations are little changed, on balance.

Consistent with its statutory mandate, the Committee seeks to foster maximum employment and price stability. The Committee expects that, with gradual adjustments in the stance of monetary policy, economic activity will expand at a moderate pace, labor market conditions will strengthen somewhat further, and inflation will stabilize around 2% over the medium term. Near-term risks to the economic outlook appear roughly balanced. The Committee continues to closely monitor inflation indicators and global economic and financial developments.

In view of realized and expected labor market conditions and inflation, the Committee decided to raise the target range for the federal funds rate to 0.75% to 1%. The stance of monetary policy remains accommodative, thereby supporting some further strengthening in labor market conditions and a sustained return to 2% inflation.

In determining the timing and size of future adjustments to the target range for the federal funds rate, the Committee will assess realized and expected economic conditions relative to its objectives of maximum employment and 2% inflation. This assessment will take into account a wide range of information, including measures of labor market conditions, indicators of inflation pressures and inflation expectations, and readings on financial and international developments.

The Committee will carefully monitor actual and expected inflation developments relative to its symmetric inflation goal. The Committee expects that economic conditions will evolve in a manner that will warrant gradual increases in the federal funds rate; the federal funds rate is likely to remain, for some time, below levels that are expected to prevail in the longer run. However, the actual path of the federal funds rate will depend on the economic outlook as informed by incoming data.

The Committee is maintaining its existing policy of reinvesting principal payments from its holdings of agency debt and agency mortgage-backed securities in agency mortgage-backed securities and of rolling over maturing Treasury securities at auction, and it anticipates doing so until normalization of the level of the federal funds rate is well under way. This policy, by keeping the Committee’s holdings of longer-term securities at sizable levels, should help maintain accommodative financial conditions.

Voting for the FOMC monetary policy action were: Janet L. Yellen, Chair; William C. Dudley, Vice Chairman; Lael Brainard; Charles L. Evans; Stanley Fischer; Patrick Harker; Robert S. Kaplan; Jerome H. Powell; and Daniel K. Tarullo. Voting against the action was Neel Kashkari, who preferred at this meeting to maintain the existing target range for the federal funds rate.

The Fiduciary Rule Delay and Legal Exposure: One Law Firm’s Opinion

Posted on March 15, 2017 by Editorial Staff -

Specifically, the FAB provides that the DOL will not take enforcement action for non-compliance with the Fiduciary Rule, including its related exemptions, in two cases:

Does the FAB provide absolute protection?

The DOL has no jurisdiction over the enforcement of the prohibited transaction rules for IRAs, or the assessment of excise taxes, which is handled by the IRS in all cases.

What should advisers and financial institutions do now?

Anecdotal Evidence: What Fee-based Indexed Annuities Reveal

Posted on March 15, 2017 by Kerry Pechter -

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