Think fast: Which companies come to mind when you think about strong variable annuity hedging?
Moody's Investors Service picked out
Ameriprise Financial Inc. and Lincoln National Corp. as two such carriers in the ratings agency's report on the most frequently asked questions on variable annuities.
Controlled distribution is a trump card for Ameriprise, which last year ceased sales of its variable annuities to third-party distributors, making them available only to Ameriprise advisers. Having done well in 2008 and 2009, the insurer now benefits from a combination of “middle of the pack” features, controlled growth, and a hedge program that focuses on economics and uses long-dated options to match long-term VA guarantees, Moody's noted.
Lincoln National, meanwhile, hedged a wide variety of Greeks, including Delta and Vega. The former represents the rate of change of the option price with respect to a change in the price of an underlying asset. The latter refers to the rate of change in an option price with respect to a change in the underlying asset's volatility.
Though the insurer's hedging program had a closer focus on economics — more so than its competitors, according to Moody's — Lincoln's VA block still pressured the carrier's statutory surplus in 2008 and early 2009.
“The takeaway is that a good hedge program that is focused on economics does not eliminate regulatory capital volatility and tail risk,” wrote Scott Robinson, senior vice president at Moody's and an author of the report.
Ameriprise declined to comment for this story. Representatives of Lincoln did not immediately return a call seeking comment.
Moody's also observed that while carriers are using embedded risk management methods within their VAs and have taken other steps to de-risk, the profitability of the business is still tied to the equity markets, interest rates and policyholder behavior.
As a result, carriers have to manage their VA blocks with generally accepted accounting principles and earnings objectives in mind.
Lately, insurers have been using reinsurance captives to transfer variable annuity risk, Moody's noted.
Many of these captives are undercapitalized, possibly by more than $10 billion, but the insurers themselves remain well-capitalized. Nevertheless, when the ratings agency stress tests a company's VA block, it also weighs the capital adequacy of the captives, relative to the amount of money required under a stress scenario.
