Ultimate risk remains subject to potential equity-market corections
OLDWICK, N.J., March 17, 2015—According to a new A.M. Best special report, U.S. life/annuity companies benefited from increased fee income from higher assets under management, reserve releases and lower net amount at risk in their variable annuity (VA) blocks as equity markets reached new highs in 2014.
However, legacy VA blocks remain a tail-risk concern, given that the ultimate risk remains subject to a potential equity market correction, the direction of interest rates, realization of lapse rate assumptions and policyholder benefit utilization. This Best’s Special Report, titled, “Variable Annuities: Legacy Blocks Still Represent Tail Risk,” states that A.M. Best has observed significant charges taken by carriers post-financial crisis due to changes in policyholder behavior assumptions, as lapse experience differed from pricing.
A.M. Best notes that companies continued to take charges in the second half of 2014, although the size diminished relative to prior-year charges. These legacy VA blocks possess more generous features than what is offered today. Agents are again touting the benefits of tax deferral through investment only variable annuities (IOVA), rather than complex benefit features, which have contributed to a meaningful reduction in overall risk.
Potential tail-risk identified in 2013
The potential for tail risk was incorporated in A.M. Best’s report on product creditworthiness in August 2013, in its assessment that variable annuities with richer guaranteed living benefit features (VAGLB) possess high risk and very low creditworthiness within their product continuum.
This view has been validated despite rising equity markets, risk reduction and fee increases with companies with riskier profiles reporting earnings charges on VA blocks. Given its lower risk profile, IOVA would be viewed as more creditworthy than VAGLB products on the product risk continuum.
While VA sales have suffered, A.M. Best views positively many VA carriers’ product de-risking initiatives post-financial crisis, which include higher product fees; restrictions on contributions to existing policies; hedging refinements; fewer and/or mandatory asset allocation options; and lower withdrawal and step-up rates. However, despite significant product de-risking that has occurred, companies with large VA blocks of under-performing business will continue to face pressure on operating margins. A.M. Best also has compiled data for VA sales for the period of 2004-2014.
The most notable market-share change over the past decade is reflected by the three VA writers, which collectively held 23% of the VA market share in 2004 (Hartford Life, ING and John Hancock), all have since exited the market. For a full copy of this special report, please visit: http://www3.ambest.com/bestweek/purchase.asp?record_code=234622. A.M. Best Company is the world's oldest and most authoritative insurance rating and information source.
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