The market decline impacted virtually every area of the financial services industry, and variable annuities are no exception. In fact, due to the complex liabilities attached to the guarantees they offer, variable annuities have posed perhaps the greatest risk management challenge of any product for insurance companies in the wake of the downturn.
When the bull market was at its peak and variable annuity sales were on the rise, the cost of hedging policy guarantees was relatively low. As a result, some providers were willing to take on more risk, even as they added increasingly complex guarantees and investment options to their products. Had the equity markets remained stable, this might not have been an issue. But as we all know too well, not only did the markets decline, they suffered the worst crash since the Great Depression.
The hedging programs and pricing strategies many carriers had in place prior to the downturn were not robust enough to withstand such a dramatic shock, forcing many companies to take immediate action to repair the damage to their balance sheets. One response was to introduce "simplified" products with fewer features and plain-vanilla benefits. Companies are promoting these new simplified offerings as lower cost and more consumer-friendly; in reality, they often serve the interests of the provider and disproportionately reduce the value to the customer. The insurance company eases its liability by de-risking its offerings, but the customer ends up paying for it in the form of limited options and scaled-down guarantees.
Advisors need to take a close look at the new slimmed-down offerings and determine whether they truly provide the best value for the client. The motivation behind a carrier's product launch can often be revealed through a close inspection of the company's recent pricing history. If the provider has made a sudden shift in its fundamental pricing and product design strategy, it could be a sign that the company had not fully hedged or appropriately priced its guarantees leading up to the downturn. Conversely, consistent pricing and a stable product set are good indications that a carrier has mitigated risk more effectively.
Advisors should also carefully consider the compliance-related arguments many providers are making when marketing simplified annuities. While there is no denying that advisors and investors want products that are transparent and easy to understand, I would argue that too much simplification can actually create more compliance concerns than it solves. At the heart of the suitability issue is the concept that no two clients are alike. Advisors must take each individual's situation into account, but a limited selection of options can lead to a one-size-fits-all approach.
Retirement income planning is an inherently complex challenge--there are far too many variables for a "cookie-cutter" solution to be workable. One client may need to start generating lifetime income now; another client may not need income for 20 years or more. Some clients may be most concerned with principal preservation, while others may be looking for the greatest asset growth potential. Other factors such as assumed mortality, tax brackets, and accumulation, inflation and withdrawal rates must also be considered. Furthermore, each client will have multiple investment objectives that can change over time.
Given the range of needs, preferences and time horizons involved, it is hard to imagine how an advisor could construct effective retirement income solutions with fewer options and minimal flexibility. Financial planning is not about taking a product off the shelf and handing it to the client; it is about understanding the client's unique situation and constructing solutions that are tailored to the individual's specific investment goals. The advisor's value proposition to the client is delivered through the guidance and expertise the advisor provides in the product selection process.
Asa O. Wood is vice president of Annuity Marketing Strategy at Jackson National Life Distributors LLC. He can be reached at asa.wood@jackson.com.
