Raymond James's Scott Stolz on living benefit innovation in the wake of the downturn.
Boomer Market Advisor: There was significant concern about the overextension of the annuity industry with their living benefit offerings. Does that concern still exist?
Scott Stolz: It's definitely subsided. If you think about what made the fears come about, they have almost completely reversed themselves over the last six to nine months.
BMA: How so?
SS: Contracts were heavily in the money, but it's not so significant any more. They've come back to more manageable levels. In fact, we're getting to the point where contracts sold in certain times periods might actually experience step-ups because of the market's performance.
BMA: High-net worth advisors, traditionally, have not had a whole lot of respect for annuities. Are you getting a lot more advisors to the high-net worth set seriously considering them for the first time?
SS: There are two things that we're seeing. No.1, advisors who sold variable annuities with living benefits realize that their client who bought those were much happier than the ones that bought mutual funds without it. What we're also seeing is advisors who have never sold variable annuities with living benefits (variable annuities at all actually), call us and say, "I just lost one of my clients because they took money out and put into a variable annuity with a living benefit."
BMA: And now they want to know?
SS: Now they say, "Tell me what all this is about."
BMA: What are you seeing in variable annuity innovation to ensure this overextension doesn't happen again?
SS: We see carriers in three camps. The first has made minor or modest changes to their products. They've said, "Our pricing wasn't really that far off so we just need to make a few modifications." Then you've got those who've said the design is fine but they either offered too many features or greatly underpriced them, and they have since raised the cost and/or reduced the features. The third camp is those who said, "We're just not comfortable with this risk at all. We need a whole different way to do variable annuities and lifetime income," and they have pretty much de-risked it altogether.
BMA: Which camp is faring best?
SS: It's been interesting to watch. The first camp is getting the vast majority of the market share. I haven't seen any official industry statistics yet, but it wouldn't surprise me if you found four companies are now getting 50 percent of the total VA sales. And that's unheard of.
BMA: Has the flight to safety in the form of fixed products begun to shift back more to the variable space?
SS: Well, you've got a lot less money going to fixed, but I don't think it has anything to do with a flight to quality. It's just that interest rates are so uncompetitive that nobody's bothering.
BMA: What about the perceived strength, of quality, of the companies?
SS: Clearly, the concern for the quality of the carrier has lessened a lot because some of the carriers that were in the headlines (probably the two biggest examples would be Lincoln and GenWorth) have both come back tremendously because of their competitive product designs. So there's clearly a lot less concern today with advisors as far as the quality. But it's not completely back to the way it was. But MetLife gets an awful lot of VA business and they are definitely considered the quality play in the VA space.
BMA: What's next for innovation in the living benefits space? Will innovation continue, or are firms taking a wait-and-see approach?
SS: It's going to be about finding creative ways to continue to offer some of the features we've seen in the past, but without tying up as much capital and/or taking on as much risk.
BMA: Is it happening now?
SS: Sure. In older designs, there were only certain situations that anybody could increase the cost and nobody would ever decrease the cost. With Sun America's new design, for instance, they have a way to automatically increase or decrease the cost based on what their hedging costs are, and that helps them on hedging and therefore the pricing. Protective Life's product is essentially the same but if the income base gets to be more than 50 percent of the account value, they'll quit adding to the income base until the account value catches up. So the advisor and the client will feel they're getting the same basic features, but it's not as risky for the company.