Following a record sales year in 2009, indexed annuities (IAs) are on track to be one of 2010's most popular products. Shaken by market volatility, customers are seeking security. At the same time, they want more sophisticated investment options.
Today's IAs meet four key needs: (1) They provide growth potential; (2) eliminate downside market risk; (3) meet demand for a guaranteed income; (4) and offer a potential hedge against inflation that fixed-rate products often don't provide.
Many offer a broad range of insurance, investment and benefit options while scaling back on less customer-friendly features, such as long surrender charge periods. They are also flexible enough to meet the needs of people in their 50s, 60s, 70s and beyond.
Sales in 2009 topped $30 billion -- an increase of about 13% from 2008 (AnnuitySpecs.com, Indexed Sales & Market Report, Q4 2009). While the variable annuity market is still much larger overall, sales declined in 2009 as insurers pulled back on benefits. Many in the industry expect that trend to continue through 2010.
Interest in IAs growing fast
In the past 12-18 months, interest in IAs has been at an all-time high, driven in part by 78 million baby boomers, many of whom have retired or are thinking about retiring. This mass retirement, which will accelerate over the next two decades, will be key to driving interest and sales.
The newer, more flexible IAs have moved beyond their traditional boundaries and are now more diversified. Today's IAs track a much wider range of indices, such as European and Asian indices and NASDAQ. They have developed into an attractive insurance product that offers a comfortable middle ground between fixed income predictability and equity portfolio exposure, while still preserving other valuable features, such as death benefits and guaranteed annuity payment options.
At the same time, many have guaranteed minimum withdrawal benefits that have proven to be very appealing to customers.
IAs allow people to synchronize their index account choices with their own investment philosophy and still protect their premium from a downturn in the market. This flexibility is particularly important as the consumer market expands to include a wider swath of people, from middle-aged to elderly, and as the target market spans people with $50,000 to $150,000 in deposits.
Options for adults 50 and beyond
IAs are typically rich in options. For example, younger people might have an 8-10 year investment horizon and benefit from an 8% roll-up to their guaranteed minimum withdrawal benefit base for the future, while older people can structure their investments to function more like a pension and provide a guaranteed income, potentially starting immediately.
IAs can also help with wealth preservation and income accumulation. For instance, in an "up" market, 5% withdrawals will not necessarily invade principal. IAs can also offer a rich living benefit.
In addition to new features, some IAs are dialing back on long surrender charge periods, which were seen as too rigid. Many people balked at high penalty fees, such as forfeiting 10-15% of the deposit for withdrawing money during the surrender period.
Insurers are now offering surrender charge periods in the 6-10 year range. While these products are more consumer friendly, insurance providers will not be able to offer premium bonuses at the same level as before.
Upfront premium and benefit base bonus choices
There also are products that offer an upfront premium bonus, which decreases as the length of the surrender charge goes down. For instance, if a policyholder has $100,000 and a 10% premium bonus, the contract value would jump to $110,000. This would also be the base that determines the annual acceptable withdrawals -- $5,500 per year (at 5% of the base) in this case. In exchange for the higher initial contract value, bonus annuities typically have withdrawal restrictions and/or slightly lower crediting rates.
Other products offer a bonus to just the benefit base. For instance, if a policyholder has $100,000 and a 25% bonus to the benefit base, though the contract value remains at $100,000, the benefit base would jump to $125,000. This would create annual acceptable withdrawals of $6,250 per year. It is important to note that the benefit base does not guarantee the contract value; it is used only to calculate the annual benefit guarantee.
Finding the right customer for each product requires truly understanding the person's needs and assessing their assets and total portfolio. For example, does the person need an immediate income, or is wealth accumulation the key objective? What level of risk makes sense financially and psychologically?
Clear answers to those and other considerations can help the producer, broker or advisor find the right strategy and products. In many cases, people in their 50s are seeking wealth accumulation and a deferred income. At the other end of the spectrum, a product that offers an immediate income, as well as a cash legacy, could be a good choice for people in their 80s.
Balancing income and legacy needs
The middle group -- people in their 60s and 70s -- often have the most ambiguous needs. Typically, they are trying to find the right balance between income and the desire to leave a legacy and sometimes that can be extremely challenging. In some cases, the addition of life insurance or long-term care insurance would be beneficial. Each scenario also has important tax considerations.
In addition to more options and possible cost savings, newer products may provide an opportunity to shift benefits as needs of an individual or family evolve over time. Today's IAs are innovative and the newer product designs with multiple options and guaranteed benefits are expected to become more popular as they become more widely available.
Potential regulatory developments
Many of us are watching how IAs are regulated, and the Securities and Exchange Commission did adopt Rule 151A that would require most IAs to be regulated as securities. In December 2009, the SEC agreed to a two-year delay on the rule's planned 2011 implementation, and, because of ongoing litigation, its status remains in flux.
If the rule becomes effective, among other things it would require agents to carry certain securities licenses and to register with FINRA, the regulatory body that governs broker-dealers. This is widely perceived to be hugely disruptive given that these products are distributed primarily by insurance producers who are neither licensed to sell securities nor associated with a broker-dealer.
With 151A postponed to 2013 or later, insurers can focus serving the marketplace in its current configuration, creating and selling innovative IA products that meet customers' changing needs and are in sync with market forces and demographic trends. Judging by the past success of these products, we see a large and receptive market. And what we need to do now is educate customers about these new and flexible options that offer security along with the potential for growth.
Tom Buckingham is senior vice president, Life and Annuity Product Development, for The Phoenix Companies, Inc., Hartford, Conn. He is responsible for product creation, pricing, analysis and implementation, as well as research and concept development and SEC and state compliance.
