Lifetime-guarantee annuities could end up biting insurers

CHICAGO — Industry leaders are concerned that insurance companies are taking on too much risk from annuities that offer guaranteed-withdrawal benefits for the life of the client. Financial services leaders worry that if baby boomers live longer than projected or a downturn hits the market, the financial strength of insurance companies could be threatened.
Insurance companies are racing to create products that provide monthly income for retirees. Some of these annuities offer a guaranteed-lifetime-withdrawal benefit.
It is possible that as these companies carry more risk, they could fall into bankruptcy, said Meir Statman, a professor of finance at Santa Clara (Calif.) University. But he thinks that the federal government would bail out affected individuals in a worst-case scenario.
“The [federal] government would be the safety net of the insurance companies,” Mr. Statman said. Companies that offer guarantees are confident in how they manage risk, said officials at The Hartford (Conn.) Financial Services Group Inc. and Genworth Financial Inc. of Richmond, Va.
But not everybody is convinced.
“Insurance companies go bankrupt all the time,” said John Newcomer, a lawyer and partner with James Hoyer Newcomer & Smiljanich PA of Tampa, Fla. “People don’t realize [that] they go bankrupt, because we’re used to dealing with the larger companies. There’s always that risk.”
Longevity plays a significant role in the amount of risk that insurance companies are carrying, said David Macchia, president and chief executive of Wealth2k Inc. in Hingham, Mass.
“If there’s a substantial increase in life expectancy — more than what people had anticipated — then you could imagine that would cause some problems down the road,” he said.
Cost of insurance
Mr. Macchia fears that some products offering guarantees are not being priced correctly and that insurance companies selling the products too cheaply could haunt the industry.
Insurance companies take on added risk because of an increased demand from baby boomers, said David A. Worster, a certified financial planner and 16-year veteran of the financial services industry.
Most recently, he was a wholesaler with Philadelphia-based Lincoln Financial Group and took a buyout the company offered in November. Mr. Worster now works in the Santa Ana, Calif., office of Agility Logistics, a chemical engineering company headquartered in Liverpool, England.
He worries that the large number of baby boomers will cause havoc for the insurance companies.
“If you have 10 million lives on [income] distribution, you’ll have some who live really long. You’ll benefit from the short lives and lose on the long lives,” Mr. Worster said.
If more people live longer than the insurance companies expect, it could bring financial disaster, Mr. Worster said. Meanwhile, if the market falters, that could pose problems for insurers.
“If the average returns are less than expected, there will be a huge problem,” Mr. Worster said. “Even if it’s only a few basis points down, there will be a huge problem.”
If the average life expectancy increases by two years, it could throw insurance companies into a tailspin.
“The questions are: Have they hedged for this, and are they monitoring it, and are they ready to take the appropriate steps?” Mr. Worster said.
In their defense, insurance companies say they are prepared and are experts at dealing with risk. Genworth, for instance, has a complex formula it uses to monitor risk closely every day, said Geof Stiff, senior vice president of the retirement and protection business at the company.
Genworth evaluates investment risk, inflation risk, longevity risk and other risks associated with its products.
“We can’t speak for other companies, but we know what good risk management is,” Mr. Stiff said.
“We’re confident in the risk-reward profile our company has, and we’d expect others in [the] industry are doing something similar to us,” he said. “We’re professional risk managers.”
Likewise, at The Hartford, company officials are comfortable with the way it approaches risk, said Tom Foster, a spokesman.
“The Hartford has been around for a long time,” he said. “They hire the right people who understand risk and know how to manage it.”
Insurance companies use re-insurers and rely on puts and on hedge strategies to ensure they meet the annuity contracts, said Mark Cortazzo, a senior partner at Macro Consulting Group LLC in Parsippany, N.J.
“There are a lot of people backing that guarantee other than the insurance companies,” he said. “The people I’m worried about are the ones who don’t have this insurance.”
Insurance companies that offer life insurance and annuities won’t be hit as hard by longevity, because they won’t have to pay out as many life insurance policies since people are living longer, said Jerry Golden, president of the income management strategies division for MassMutual Financial Group.
MassMutual Financial Group is the marketing name for Massachusetts Mutual Life Insurance Co., based in Springfield, and its affiliates.
“If you’re only in the annuity business, then you only have one side of the equation, and that’s a risk,” Mr. Golden said.
Officials at MassMutual said they’ve chosen to offer a different type of annuity product that they think is better suited for baby boomers.
“It’s not that it’s too risky. We choose to come to the market with solutions that seem a better solution for the adviser,” said MassMutual senior vice president Spencer Williams.
MassMutual offers a retirement management account, which allows consumers to receive systematic withdrawals from mutual funds along with payouts from the annuity.