Interview with Allianz Life’s Tom Burns: Head of Distribution Calls for Annuity Companies to Work Together; Describes Unambiguous Commitment to Consumers’ Interests

It’s no secret that I’ve been critical of certain annuity sales practices, especially those associated with equity-indexed (fixed indexed) annuities. I’ve cited Allianz Life specifically as a company whose past product development and marketing strategies have not been good for the long-terms interests of the annuity industry. In stating publicly what many in the industry whispered privately I staked out a lonely position.

But the truth is, for years it has been impossible to think about the indexed annuity business in any context that does not involve Allianz Life. It would be hard to imagine another large industry where a single player for so long a period of time commanded such a large share of the market; about one in three indexed annuities sold have been issued by Allianz Life.

That Allianz has experienced significant challenges is no secret. It’s been the subject of class action lawsuits and sanctions by regulators. I’ve heard some of Allianz’s defenders infer that this unwelcome attention has been the result of its standing out as the industry’s largest provider. But that line of reasoning never rang true, in my judgment.

Yet it would be unfair to presume that Allianz Life’s traditionally aggressive, sales-driven culture couldn’t change. And that its perceived commitment to the best interests of consumers couldn’t improve. When I spoke with Tom Burns I came away from the conversation with exactly this belief. Corporate cultures can change. Such change, when it occurs, is generally driven by a changeover of top management. That’s what’s happened at Allianz Life.

I found Burns to be quite candid considering the scope and sensitivity of his responsibilities at Allianz. In fact, Burns struck me as coming from a background similar to my own; one rooted in the values-based mindset engendered in young life insurance agents. So, it would seem that Allianz Life has turned a corner.

I was most surprised with Burns’ calling for annuity providers to “work together” in the best interests of the annuity industry. This is certainly a change from the past. Judge for yourself as you read the interview.


tom-burns-allianzDAVID MACCHIA: Tom, to begin, my readers would be interested in knowing about your background. Will you tell me about your life before entering the life insurance business?

Tom Burns: I’ve been around awhile. My father was an agent with Prudential in a small community in southwestern Minnesota for 30 years. I really wanted to be a professional baseball player. I decided I’d play college ball and if I’m really good, the scouts would be there. Guess what, the scouts were not there. I played four years of college baseball, ended up with a degree, joined my father in the business and, unfortunately, he passed away three months later.
I found out real quick at age 21 how important life insurance and planning for a family really are, especially for my mom and the rest of the family. I ended up running an agency for 15 years here in the Twin Cities, the largest agency for Prudential Preferred. And then in a weak moment they talked me into the home office. I managed the whole country on the brokerage general agency side. And then I got a call from Securian Minnesota Life about five years ago, and I went over there and ran all their distribution for about four and a half years. And I was very fortunate with some help of a lot of great people to turn it around and they had three record years. And then I got a call from Allianz about 14 months ago – and you know the challenges that we’ve had here.

DAVID MACCHIA: When I think about you coming into Allianz now, considering the new leadership that’s taken charge, I make an analogy, based upon years of observation of Allianz, that it’s like sort of having a close relative who just goes a little sideways for a while, and then at some point, somebody is able to bring him back to center, and puts him on the road to growth and happiness again. Does that analogy ring true to you?

Tom Burns: In the time I’ve been here, I’ve found that this company had such rapid growth, and with such rapid growth you start looking inward. And, you know, I think you’re right that with rapid growth comes challenges. Any business that grows that fast will present issues to deal with. We have been able to streamline some things recently and are continuing to put additional measures in place.

DAVID MACCHIA: Let me ask you about what you obviously know, which is that a lot of damage has been done to the index annuity business.
And the result of that is that some segments of the annuity business – especially indexed annuities – plummeted in terms of public perception. Now, here you are with this huge responsibility in a company that’s been a market leader for a long time in this line of business. From your vantage point what measures can be taken to improve the public image of the index annuity industry?

Tom Burns: The whole industry needs to work together on this issue. One thing that we need to do is more effectively convey the value of annuities as a part of overall retirement planning. As a society we have yet to fully come to grips with the implications of people living longer but with much less of the income protection that we used to see from traditional pension plans and, at the same time, more people relying on social security income while fewer workers are available to support it.
At the same time, we need to continue to improve our processes to ensure that the products are marketed appropriately. Suitability review is a very important part of that. We launched our suitability program nationwide in 2005. Our program today is much improved since then, and we are committed to continuing to make it better. We’re working through industry associations on “suitability” standards. I want to make absolutely sure that our suitability is the best it can be.

DAVID MACCHIA: I want to come back to the question of the past, which I recognize is not your responsibility, but it is your legacy to some extent. You’ve inherited a mantle and I think that you’re simultaneously blessed, blessed to walk into such a robust sales organization with so many agents and such a heritage of sales leadership, but also cursed because you’re also saddled with some of the negatives, the baggage that is a hold over from the past. So in terms of the marketing and sales activities, I don’t have to tell you that Allianz has been criticized by regulators and it’s been the subject of civil litigation and regulation at the state level and actions that you’re aware of. I imagine that it would be more enjoyable for you to be able to look forward only and not have to look at the past. How do you balance the legacy issues with an eye toward the future?

Tom Burns: We can use the experiences of the past to inform what we do today and how we can make it better tomorrow. Let me go back to suitability as an example. When we first launched our suitability program nationwide, we allowed policyholders to opt out of providing financial and other information to us. This opt-out is allowed by state suitability regulations. But after working through the program, we grew increasingly uncomfortable with opt-outs because without that information we could not do our own assessment of suitability. So last year we eliminated the opt-out option. If a policyholder is not comfortable providing us with the information we need to assess suitability, we understand that, but if we cannot independently assess suitability, we will not issue the policy. We will continue to use the experience of the past as a guide to how we can improve in the future.

DAVID MACCHIA: Wealth2k for years has enjoyed a robust business making the preeminent multi-media presentations for a number of indexed annuity providers. I also owe it something else in the larger sense of the annuity business, namely that the annuity business gave me more financial reward, more education, more professional opportunity than I had any right to expect as a young man entering the business in 1977, a rookie agent selling tax sheltered annuities. So when you consider – I mean your words resonate with me – companies working together, prioritizing the consumer, not so much always worrying about distribution. Why then, given what you just said, would it be hard to get companies behind an effort that is so manifestly pro-consumer as placing unbiased consumer education in the very center of the process. Why would you imagine it would be difficult to do that?

Tom Burns: After 29 years, I want to be known as someone who made a difference. This is new for me to have the negative press. So what can I do personally and professionally to change that? First of all, it’s reputation. Secondly, it’s adding customer value. So, when I talk about a legacy, that is so, so important for me because I’ve been blessed, too. My father was a good agent, and the opportunities that this industry has afforded me and my family are unbelievable. And I’ve seen life insurance work in people’s lives.

DAVID MACCHIA: I can’t disagree with anything in your answer, but you didn’t address the question I asked. Can the industry progress from an ideal that says companies should get together and prioritize the consumer in a functional, demonstrable way? Can we go from the ideal to a reality that actually shows that?

Tom Burns: Well, I think we can. I really believe we can. I know that we wholeheartedly support unbiased consumer education. That’s what our new Partnership for Consumer Trust is all about – making sure consumers are fully informed about the products they are purchasing, which, by the way, we believe are incredibly useful to them. The industry knows that this is important and that we can’t let it slide.

DAVID MACCHIA: I agree with that because it will be at the industry’s peril. And one of the ways it imperils the business’s future success is something that I’m deeply involved in for a number of years – of boomer retirement security. One of the reasons that I have been so aggressive in my comments, and critical of poor sales practices and inferior contract designs, has to do with boomers approaching retirement and what their march toward retirement means in terms of a business potential for the annuity industry. What I’m getting at is, and I’m sure you know this, that it’s been academically demonstrated that as people approach retirement, in those years leading up to retirement, it becomes very important to put a principal guarantee under accumulated retirement assets while also maintaining upside growth potential.

Similarly in the first few years after retirement the same protection is called for. And the reason is if you have investment losses in those two periods, the result is, at the very least, you will have less retirement income than you otherwise would have had or, depending on when the loss occurs, you may run out of money entirely while you’re still alive.

Tom Burns: Yes.

DAVID MACCHIA: So, given that the value proposition I describe – downside protection combined with upside growth potential – is the value proposition of an indexed annuity which the industry has allowed to get so clouded and camouflaged through such a poor level of transparency, and so much misleading sales practices activity, that the pristine value proposition got lost. And so what I’ve been trying to do, in my own way, with limited resources, is liberate that value proposition. Because, as I’ve said often and publicly for two or three years now, the $28 billion dollar high water mark for indexed sales could easily be $100 billion.

Tom Burns: I Disagree that there has been a lot of misleading sales practices. Obviously there has been litigation alleging misleading sales practices. The problem here really ties back to the need for more and better public education about annuities. One of the challenges in selling annuities is that people don’t start out with a solid baseline of knowledge about annuities, compared to other financial products such as CD’s and mutual funds. So in some cases selling these products presents a challenge in getting people to understand the fundamental concept of an annuity.

DAVID MACCHIA: If I’m reading you right, it sounds like Allianz is committed to altering course and really changing that.

Tom Burns: I would say as a business there’s leadership here that absolutely wants the consumer first. And also we value distribution, but the consumer first.

DAVID MACCHIA: Now, let me ask you this: Do you worry about the onslaught of negative that continues around the annuity business – and specifically the indexed annuity business? And we’re aware that — I’ve read where Dateline NBC has, done a story on annuities using hidden cameras taping the annuity presentations. It sadly reminds me of the approach they take with the child predator programs that they’ve run. I mean you open up the cover of Parade Magazine and you read a headline like, “Don’t Make A Costly Mistake.” And a lot of this was driven by a liquid contracts and two-tier contracts and I’m mindful of the fact that you mention that the focus now is on single share contracts. My point is — my point is do you fear that the negative press and the deteriorating public perception can sink so low that the annuity business may not be able to turn the corner and start to go the other way?

Tom Burns: I don’t fear for the future of annuities because the need for them has never been greater, and will continue to increase. And we will continue to offer two-tier annuities because for people who are looking to the long term, and who want a product that offers periodic payments for the long term, they can be a very good alternative. We will turn the corner and go forward. I don’t know if you remember, but Metropolitan went through it and Prudential went through it in the old life insurance days. Painful, but I think you become a better company and a better industry as you get through it. You look at all the wonderful agents and registered reps who do such wonderful work, and you believe we can get through it.

DAVID MACCHIA: Other large financial industries are obviously very aware of the baby boomer retirement opportunity, and they’re aware of the financial need that I mentioned earlier in terms of the importance of providing principal protection combined with ongoing growth potential. And companies that are not insurance companies have clearly set their sights on the core annuity customer. Now, what does it mean for an annuity provider, such as Allianz, say, when companies perhaps with names like UBS, Merrill Lynch, Morgan Stanley, Deutsche Bank, and others are developing and offering products aimed at the same core customer, products which develop the same essential value proposition? Does that make this a special urgency for the annuity business to align itself more appropriately than it is right now?

Tom Burns: Yes and yes. Competition is challenging for us but in the long run good for the consumer. But keep in mind that annuities offer something that the others don’t: that option of a guaranteed income for life. So the value proposition being offered by some of these competitors may be similar, but it isn’t the same. Every Tuesday for 2 hours we get together – the chief actuary, the chief distribution officer, the president of North America, I mean the senior-senior most people of this company – and we look at today’s products and what the future products are going to be 12 to 24 months down the road and who is going to be selling them. The future is going to be really exciting to see, and I want to be part of that versus being complacent, being innovative versus being reactive. We’re developing some products right now that I can’t share with you, but it’s going to be really exciting.

DAVID MACCHIA: Let me ask you this: If we were to be speaking again three years from today, looking back over those three years, what would have had to have happened in order for you to feel great about the progress you made?
Tom Burns: We would be a company that consumers, agents and registered reps would really treasure doing business with. Secondly, our employees would continue to feel that there is great opportunity here for growth and development. And then lastly, we would be known as an innovator. When we walk into an industry meeting, not only are they excited to see us, but they say, “’Wow,’ Allianz is quite a company.”

DAVID MACCHIA: An admired company?

Tom Burns: Yes. Look at the great opportunity we have for all the people who are going to retire, but who don’t want to retire with less money, or less income than when they were working. We’re calling that stage “decumulation” because it’s different from all the working years when people were accumulating assets. So, what we’re thinking about is how do we position ourselves in our industry to be the company people choose to help them with their income needs for the rest of their lives.

Tom Burns is chief distribution officer for Allianz Life Insurance Company of North America. He is responsible for sales, distribution, and marketing.

©Copyright 2008 David A. Macchia. Al rights reserved.

Role Reversal! Annuity Market News Turns the Tables on Me

As someone who generally plays the role of interviewer, I’m appreciative of Senior Editor, Kerry Pechter, for the interview he conducted with me that appears in the December ’07 issue of Annuity Market News. Kerry asked my about a variety of issues that are important to me including the state of the variable and fixed annuity industries, retirement income, and the emergence of structured products in the U.S. retail market. I appreciate his capturing my views accurately.

If you would like to read the interview, please click here.

Interview with Tom MacLeay: Chairman of National Life Group Describes Boomers as “Sensitized” to Personal Financial Needs; Sees Bright Future for Life Insurers Despite Competitive Challenges


macleay2Thomas MacLeay is Chairman of the Board, President and Chief Executive Officer of the National Life Group and was elected to the Board in 1996. He served as president and chief operating officer of National Life from 1996 until his brief retirement in 2001, and returned to the company to fill the top executive positions, first on an interim and subsequently on a permanent basis. He joined National Life in 1976 and served in several investment management, corporate planning and financial roles before being appointed chief financial officer in 1991. Tom is also Chairman of the Board of Sentinel Group Funds, Inc. and currently serves on the Board of Directors of Chittenden Trust Company, the Life Office Management Association and the Central Vermont Economic Development Corporation, and is a Trustee and Chairman of the Finance Committee of the Air Force Aid Society.

Macchia – Let me begin with a big thank you for your taking time for this conversation. I’m very appreciative, Tom.

MacLeay – You’ve had some great interviews on the blog.

Macchia – Thanks. It’s been a wonderful learning experience. Is it okay to begin?

MacLeay – Sure.

Macchia –To begin, would you be kind enough to describe your title and the specifics of your role at National Life Group?

MacLeay – Okay, well, I’m Chairman of the Board, President and Chief Executive Officer, so basically I’m heading-up the holding company for our life insurance companies and our asset management group.

Macchia – I’d like to ask you a little bit about the long-term and then the recent history of National Life. I know National Life as a company that for many years has been considered to be one of the top tier, most prestigious life insurance companies, one with a very long and fruitful history. Could you just talk a little bit about the history of the company, its beginnings and what has occurred- over not just decades- but even centuries?

MacLeay – The company was founded in 1850, so it was one of the earliest life insurance companies in America and it was founded by a combination of a local doctor, by the name of Julius Dewey, who saw the need that families had when they lost a breadwinner. He teamed up with a group of prominent business people from New York and Boston who were looking to establish a life insurance company that was not focused locally or in a region, but had more a national scope.

That founding group including people like Henry Clay of Kentucky and Henry Cranston of Rhode Island. This was certainly a group of very prominent business people. Interestingly, this company was founded with the notion of providing for death benefits. Not just in the local area, but across the country. In fact our first death claim happened in San Diego harbor when one person was traveling by ship to the gold rush in California. So, the roots of the company are strongly here in rural Vermont, but we’ve always had this kind of national vision. In its early days the company established agency operations virtually across the country and this was at a time that travel was very, very difficult and communications were slow and difficult.

It’s really amazing to think about this today because I don’t know how long it took that claim to get filed or paid. Part of the story about that is that with that first death claim the company didn’t have a lot of capital at that point so the founders had to really scratch to make that claim and we’re very proud that they were able to do that. We’ve obviously reached or met all of our claim obligations since then.

So, it started with that idea and then it grew over the years, and was a mutual company. For many, many decades, a century probably, the primary product was participating whole life insurance. A very strong career agency operation really flourished in the 50s, 60s and 70s as the products became a little more sophisticated and the growth of the industry really took place during that period, particularly in the upper end of the industry. More estate planning and sophisticated use of insurance and in fact, financed insurance was a big thing for this company early on.

The company has also been known through the years as an innovator of products with lots of focus on the upper market and designing sophisticated products to meet the needs of that market. When the industry started to really transform from a whole life focus to the introduction of things like universal life and then variable life, National Life did not grow as fast in the 1980s and early 90s. In the mid 1990s National Life decided to diversify its products as well as its distribution. That’s when we started to not only sell through our career system, but also through an independent marketing organization. When these product innovations came out we did introduce universal life and variable and, in fact, our strategy today is to have a full complement of products. So we have fixed, variable and equity indexed versions of our universal life programs and we have variable life as well as traditional whole life, and really a mirror of that in the annuity market place.

The strategy is that we know that each of those products has behind it a particular attractiveness to different market segments with different needs, but also that consumer desires change over time. We take a very long -term view of our business and feel that our job is to meet the needs of those clients and to provide the kind of solutions that are best designed to meet those needs – and that changes over time. So, we can’t say that we’re a whole life company and that’s it. Over the last 10 years we have diversified significantly both our products and distribution.

In terms of the history of the company, part of that diversification was the acquisition of Life of the Southwest, which brought fixed annuity experience and the 403(b) market focus. LSW is also a product innovator and an early, early provider of indexed annuities, a consistent and long-term player in the marketplace. That’s been an important part of the organization for about 11 years now. We continue that product innovation push in those product lines where we think we can bring something to the market, most recently, indexed life, which we’ve had since 1998, I believe, but we came out with a new version last year and that’s gotten a very good reception.

Macchia – Let me ask you this: when you have a board meeting and you sit in the chair as Chairman of a company now in its 16th decade, does the history and the lineage convey to you a special responsibility of honoring the past, and maintaining the integrity and bright outlook for the company going forward?

MacLeay – Absolutely. The leadership roles in an organization like this are more stewardship roles. In other words, we have an organization that has been here a good time before us and our forward looking approaches- you know, we plan for a very long future- so the current leaders are really here to both build on that history and strengthen the organization, and will turn it on to the next generation of leaders at some point in time. There is a special obligation to an organization that has the kind of history or market presence that National Life Group has. It’s more of an obligation to further strengthen the organization and move it forward. Of course, a great benefit of being a non-public company today is that you can take that longer view. We’re very cognizant of the need to be as profitable as we can be, but that’s only to strengthen the organization, not to satisfy a Wall Street analyst. So we don’t look at monthly profitability as being something that is the metric. Well, that’s probably not true, we do look at it as a key metric, but we’re not under pressure to perform in that short term.

Macchia –I’d like to come back to the corporate structure a little bit later, but one of the wonderful things that I’ve observed about the life insurance industry, in terms of some companies such as National Life, with such a long history, is that over a 150 plus years just about everything bad that can happen, happens. Whether it’s man-made disasters, wars, natural disasters, relative to anything that nature can conceive in a negative way, and to see the companies endure throughout all of these challenges is a very special thing and very noteworthy in our economy. I sometimes think that it’s underappreciated. Do you agree with that?

MacLeay – I do. I think it’s hard for people to, in today’s world, necessarily think of an organization as being an organism itself. In other words most people think of organizations in terms of ultimate transaction. Founders, for example, if you found a company, the typical track is that you found the company, you grow it, you must have an exit strategy. You end up selling it or maybe it becomes an independent public company, for example, but you’re thinking is really limited somewhat to your own personal needs. Whereas leadership in these kinds of companies are thinking about bringing the company to the next level of performance and making sure that we are delivering the value that we deliver to our customers and really building and maintaining the relationships that last way beyond any one particular person. I think that’s very hard for most people to understand about these businesses.

Macchia – For many years National Life was, as you indicated earlier, a mutual company. Then some years ago it made a decision to adopt the mutual holding company structure. I’m wondering if you feel that has given you the long-term view and staying power you need in the context of some who argue that size is all that matters and that smaller to midsize companies are going to be a challenged going forward, and you need $100 billion plus of assets to really be a strong player in the future. What’s your view on that?

MacLeay – Well, first off, bigger can help, but it’s not by definition better. We look at that and say we think that the key to success is being able to provide products and services that deliver real value. If you can do that then you have the ability to be a competitor and an independent company.

So the issue of size really comes down to the question of can the big companies leverage you or basically out-compete you, and the only way they could would be on price or reach. And so it creates a pressure for smaller companies because bigger companies can sometimes have more favorable price points, and it’s their time to grab market share. They can sometimes under-price products and gather market share.

We have been in a consolidating business, but I don’t think that means that there are going to be three big life insurance companies in the United States because our market is really driven by relationships that people build one-on-one. Our business is so very, very personal. So it comes down to being able to provide the products that have real value and building the relationships that can connect the customer with the company through an intermediary. That intermediary is where a lot of us compete for the relationships that we know kind of drive the business.

It’s kind of a long-winded answer, but we think that there is plenty of room in this country for companies who can be really good at a selected number of things and that being big gives you a little bit of credibility with the rating agencies and that kind of thing, but we’ve seen some pretty big, pretty bad companies over time. Not just in this industry, but in lots of industries. We think that we can grow and we need to grow.

Back to the mutual holding company, we think that the mutual holding company is a great structure because it makes you more flexible with respect to financing and the ability to grow through non-organic means, doing acquisitions and things like that.

But, it maintains at the core that it’s still a mutual organization, so what that means is that you basically reinvest the profits for the company in further growth and strengthening of the company rather than paying it out to some owner out there. We think that companies with a mutual structure are better for a long-term view than a public structure because in a public structure, frankly, money talks. At some price somebody can change your game. If you have an obligation to shareholders to do the right thing for shareholders, if you look out there today and see who the shareholders are and why they are shareholders, they are people who are making an investment and looking for a return. At any point in time there would be a price where that organization will be sold to some other organization to do with what they want if they have enough money to hit your price.

A mutual organization doesn’t have that consideration. We are building the company for the benefit of policyholders over a very long period of time. It’s not a matter of if somebody comes in with the highest price tomorrow morning saying that that’s necessarily the best thing for all of our policyholders.

Macchia – We’ve covered in great detail the past and the present. Now I want to ask you about the future. How do you personally see the outlook for life insurers over the next 5 to 10 years?

MacLeay – Well, let me say first off that a lot of companies that we think qualify as life insurance companies in the US, particularly the big ones, are doing an awful lot more than life insurance in the U.S. I think people get a little confused about what some of the bigger companies really are. There’s a lot of opportunity and a lot of activity for those companies who chose to be international or global. Those opportunities in terms of the growth are bigger overseas than they are here.

I think that the outlook for the U.S. market, in my view, is quite bright and it’s driven by this Baby Boom phenomenon. To which I have to say it’s kind of interesting how much press that is getting now because this has been the most predictable wave in our lifetimes, from the time we were born. At least I’m a Boomer. I’m kind of on the leading edge, I guess. This is not a surprise, but what’s different though is that the amount of press that the aging of the Baby Boomers is receiving, I think is a very, very good thing for the financial services business altogether, but for life insurance companies in particular.

I think it’s not just for the reason that they are approaching retirement. If you think about it the Baby Boomers are now 44 – 62 and those are the sort of sweet spot years for everything that life insurance companies provide. Protection, accumulation, distribution, wealth transfer; all of these things are very important to people who are 44 – 62. When I think of the opportunity right now I think these people are now in their peak earning years. They are now barraged with information that tells them that they have needs that they may have been ignoring. What this does is sensitizes them and conditions them to have a discussion with a trusted advisor and develop some relationships. That trusted advisor we think of as a person, normally, but I use that even more broadly.

What I feel is people now know that they have needs that they have either been ignoring or didn’t know they have, and that makes them a very, very good market for financial services companies and life insurance companies in particular. I see that as a huge plus and it’s not just about retirement distribution. It’s about understanding that you have these financial needs and there are ways to start your financial program to address those needs. Having said that, those needs are very personal, which means there’s not a one size fits all solution, which means you have to have the ability to do a comprehensive financial analysis, financial plan for individuals that have these needs.

I further think that it’s not just the Baby Boomers that are now sensitized to that because younger people read the same publications and watch the same programs on cable and hear the same things and are barraged with the same things over the web or however they get their information. I think there is just a heightened sensitivity to financial needs and that to me puts in place something that’s really positive for life insurance companies in particular. There are plenty of risks and challenges when you think about that, but just the conditioning, the fact that the Baby Boom market is there and the entire marketplace is much more conditioned to talk about their financial situation and their needs.

Macchia – I think that this is very important insight that you raise, and you hit upon a subject that’s very much a passion of mine right now, which is the notion of trying to help insurance companies realize their potential in this thirty- trillion dollar opportunity of Boomer retirement.

That said, I can recall since entering the life insurance business in 1977 that, back then, insurers controlled the pension business in the US. They then seeded that business away to the mutual fund complexes, which came to market with an arguably superior model for the consumer, greater transparency and those trillions of dollars were lost. Now we see the large asset management firms with trillion dollar asset bases.

The stakes for life insurance are very, very high in my judgment and what I try to focus on is quite vocally trying to publicize, in terms of essays in this blog, and also in other writing that I do in numerous journals, some of the inherent, almost disease state that exists in the insurance business. I feel as though if that disease isn’t cured the insurance industry is not going to seize upon the Boomer retirement opportunity in spite of the fact- as you correctly state- that its natural product set, competencies, and financial experience, would lead it to be the natural provider for this large group of customers. Do you ever think about that? Do you buy into what I am saying?

MacLeay – Yes, I do. I agree that, number one, we used to control more of the pension assets and we lost that battle to the asset management companies. I would say that many of us have asset management companies primarily for that reason. The product sets that are offered by asset management companies and the whole notion of a simpler, more transparent product has really taken hold, obviously, and grown that marketplace. I know you’re well aware of how that has happened.

Looking forward, the needs are similar, they haven’t changed, there’s just a better understanding of what those needs are. Some of those needs are well met by simple asset accumulation investment type product, but the ability to guarantee things and to pool risks is the domain of the life insurance business. The inner section of that core competency with the marketplace and communication of how these products and services fit people’s financial needs is kind of the area where I know that you’ve spent a lot of your time, and I agree, that’s where we have, in essence, fallen short. There are a lot of reasons for that, not the least of which I think, is how people get paid. I think that’s at the root of product pushes that are not necessarily in all cases well thought out and responsive to the customer’s needs or their situation. The industry has frankly struggled with how to be more transparent in what we’re doing.

I believe that the products as we move forward, the kind of disclosures and transparencies that will be in the market will look much more like securities disclosures and so on. Technically, that information will all be out there, but it’s kind of like looking at a prospectus and a statement of additional information for a mutual fund. You can find anything you want, but customers don’t go there. So, who is actually making that interpretation is the advisor or wherever that communication link is happening. I think that’s where we have probably one of the biggest challenges. That is: how do we get that communication link that’s clear and in the customer’s best interest? I don’t have an answer for that, except that we try to be very specific in the way that we train people and the way that we roll out our products to make sure that they can be clearly communicated and we can identify those areas where the products really fit the best. It’s a big challenge and I think that especially on the leading edge of the Baby Boom you’ve got more traditional methods of one-on-one consultation and brochures for a lack of a better term.

At the younger end, and the generations to follow, electronic communication is kind of the expected communication and paper is more to be thrown away then it is to be read or anything like that. I think part of the opportunity is to get that information, that set of information, whether it’s hard copy or electronic, get it to be able to be much more responsive to individual situations, and frankly viewed in a broader context than a single product sale. I think that the challenge for the industry is that a lot of the distribution and a lot of the sales efforts are for a particular product as opposed to creating solutions around a specific individual needs. I’m really talking about the upper-middle and upper markets. I think we’re talking a whole different challenge for the middle markets and down. There’s not enough money, there’s not enough incentive or reward for the kind of tailored response or tailored solution that I think you need in the upper markets. We do some in the middle markets; those are much more packaged. I think that those packaged solutions have to be clearly defined with the product features disclosed very carefully, and with as many tools, as many communications tools as you can, electronic as well as hard copy.

Macchia – Let me ask you this Tom, because the magnitude of the Boomer opportunity is obviously apparent to sectors of the financial services industry beyond insurers. There is a competitive threat that I foresee to life insurance companies which may emerge in the next year or two or three. It’s the migration of structured products in the institutional market to the consumer market.

There are large asset management firms that have been talking about this for some time. I heard a senior executive of a bank, a very large bank, say quite pointedly that he felt that insurance products were less likely to be used by his institution whereas a reliance on structured products in the future was where they saw their vision taking them. I asked Moshe Milevsky about this point specifically, recently. It was his projection that within the next couple of years there could be, perhaps, two dozen new players on the street offering products that directly compete with some of the individual annuities that life insurers offer. Is this something that you think about? If so, is it something that worries you? And if not, is it something that you think insurance executives should be worried about?

MacLeay – Yes, I think viewed broadly the capital markets are very creative and very responsive to opportunity. When you think about our products which are basically financial promises, they are financial instruments that are of a long-term nature. There are a ton of very smart people sitting around Wall Street everyday looking for opportunities in that arena, so I think that it is definitely a trend or a risk, I guess. The other side of that is that I think that the more kinds of alternatives that get developed and the more people become aware of their needs and the alternative ways of solving those needs that creates, if you will, a bigger pie. I’m not as concerned that the capital solutions are going to come overtake life insurance, but we have to be equally as creative and responsive in terms of the things that we can provide.

So, the short answer of your question is, yes, I see it, I think there’s something to it. What we have to be is looking for where is it that we can provide value. We can’t just play defense and say somebody has come up with a better solution for what we have a product for. We need to say where is it that we can provide better value, because frankly in any business at any time if you can’t provide better value, and that doesn’t mean necessarily just the dollar and cents part of the product, but the whole experience and the whole customer relationship and all. If you can’t, if you get people coming in and providing better solutions, then you better sharpen your game. I see it, but I’m not as concerned about it as a threat. I think it’s actually more of an opportunity to open a horizon that we haven’t opened up yet.

Macchia – When I hear you use terms like responsive and creative it reminds me of another issue which is very close to my heart. It’s the assertion that I make that, in the final analysis, the winners in Boomer retirement are not going to be those which necessarily have the “best” product, but rather are those organizations that are the best, the very best, at communicating their value to a large and fluid marketplace. I wonder if you buy into my belief on this.

MacLeay – Well, I would state it a little bit differently. I think that the winners are those who can connect the best to provide solutions that people need. I think we’re saying the same thing, but what you’ve done is focused on the communication link, and that is the connection. I don’t know that there is much of a difference to what we’re saying. I think of it more as, if people respond best to an individual sitting down with them and visiting with them each quarter and providing a set of recommendations, if that’s the way that people want to be served, that’s what we need to do in that segment. If there is another segment of people who says, I like to sit down at my computer, I’ll figure it out, then I like to be able to call somebody up and I like to be able to do this or that and then I like to be able to go someplace and figure out what all of my values are and all of that. So, to me, it’s not like there is necessarily one crystal clear answer, and in fact there probably isn’t because there are different sets of fluid markets.

People think of the Baby Boomers like it is some kind of consistent group. All they are is a certain age, but there are all kinds of different sub-segments in there. I think the difference of what I’m saying is that there has to be, for a lack of a better term, mass-customized ways of dealing with different segments within the market. Those companies that are successful are those who are going to be able to make those connections in those segments of the market that have great opportunity for the organization.

Macchia – I agree with your take on that, agree with you completely. When I see the fulfillment of what you just described, that vision, I see that it’s not possible to avoid the inclusion of technology to aid and abed intermediaries to better communicate with people. Do you agree with that?

MacLeay – I do agree with that, absolutely.

Macchia – Let me ask you about another issue that I’ve been very much focused on over the past year. Again, out of the desire to try to galvanize industry leaders into recognizing that there are some foundational problems within the industry that have to be addressed in order to set it on the right course to enjoy what should be its greatest business opportunity ever in terms of working with the Boomers.

I’m describing the individual annuity business and specifically the sub-segment of that which would be the indexed annuity business. When I look at the indexed annuity I look at the essential, inherent value proposition and I say here is a vehicle that places an underlying guarantee under a principal asset, and also simultaneously provides upside growth potential. Then I think about that value proposition in the context of some of the that Moshe Milevsky and others have done- that the Retirement Income Industry Association has explored- which is this notion of the transition management phase where say roughly ten years before retirement to ten years after retirement, that during that 20 year period it’s critical to place underlying guarantee under the retirement asset, yet maintain upside growth potential.

I say, oh my God, isn’t that a natural fit for the equity indexed annuity. Then we have the reality where we’ve seen the product morph since its introduction in 1995 from a 5 year contract which would be viewed as having obvious, strong consumer value to variations of that which have surrender charges as much as 25 years, loads as much as 35% or 40%, commissions as much as 20% or more. It’s one of the rare examples in modern financial services where a financial product is introduced and then dis-innovates consistently year after year. I wonder what you think about this. First, about the product’s inherent value proposition, and then what’s happened to the product over a decade plus?

MacLeay – Well, I think the inherent value proposition, from my point of view, is that the opportunity is active. I still view it as a fixed annuity. The opportunity is greater return than a fixed interest annuity and the mechanics are, well, we know what they are, equity participation and underlying guarantee, but I think of it more as a higher potential fixed return.

I think in some ways some of the issues around the product and some of the concerns that the FCC and the NASD have with it are that these returns are dependent upon stock market movement. We’re careful when we talk about them to think more in terms about them than to think more in terms of the potential for a greater fixed return because it’s a guaranteed product. It has an interest return and not a change in underlying principal value. That may be too technical, but it’s another way of looking at it and we have been in the business since 1996, so we’ve seen all this.

Our products have evolved to remain competitive and I think that what it is, is those changes that you mentioned are a change of the reflection of the power of distribution, the power of people who can get out and make the relationships they do in order to sell the products and that’s what’s driven it. It’s not like companies are saying, gosh, we should pay 20% commission on this. It’s been that tremendous battle in the market place for those folks who are successful at reaching people that have a need for product like this and the leverage that they have coming back, and that’s driven a lot of that. We were an early provider and we were in the top 10 companies for the first few years and then we dropped out of the top 10 for a long time and we’re not back. The reason is simple. It’s because we’re not going to play those games of pushing product features and commissions and all that beyond the point of reasonableness. I think it’s a great example, but it’s not the only example. Many products in our business, when they are innovative and when they are first introduced, have very strong features and then those features and structures get competed away in the market as the folks who are in the distribution end demand more of a bigger piece of the pie, they get a bigger piece of the pie.

Macchia – The power of distribution to alter an insurance company’s behavior, even when it’s working against its own self interest, I think, has been proven beyond doubt, certainly with this example. It leads me to think about the future and where the real opportunity is. That is, if I try to think back over my own career, which has been somewhat unique, Tom, in the sense that I spent many years in the distribution business as an agent, as an agent trainer, as an agent manager, recruiter, IMO principal for two large IMOs, simultaneously for the last 20 plus years as a marketing consultant. I see that the root problem is that over the past 25 or 30 years agent productivity has consistently fallen off. When I started in the insurance business I was told that the smallest acceptable productivity that I could have was one sale per week. There were many people in the agency where I was recruited that sold 2 and even sometimes 3 policies per week.

These days there are agents who make a respectable living on 3 sales per year. The lack of productivity has caused agents to continually and more aggressively seek out products that pay higher and higher individual commissions, which has forced the companies to design products that have been less and less consumer oriented, which to a large extent has put us in the bad position where the industry finds itself.

So, I believe that where a splendid opportunity exists for insurers is to do some imaginative and creative things that help agents increase the volumes that they are able to sell, so that they don’t have to make as much individually on each sale, but still can earn a very respectable living and stay in the business over the long term. That can’t happen in my judgment unless there’s a wholesale change in the way that agents communicate and prospect with clients with a heavy reliance with creative and compliant technology to help them. I’m wondering if you buy into this vision.

MacLeay – Well, I’ll tell you, David, one of the very consistent things that I see, which is probably not obvious until you see it enough times, is the motivation often in agents and field reps is more around points then it is about dollars. It continues to amaze me that your point is if you could increase the volumes obviously you don’t need to pay as high of points of commission or whatever it is, but the world out there is still very points driven so you talk to people about a contract that has huge consumer appeal and low commissions in terms of percentages per point. How many examples have there been out there of these things that just don’t go anywhere because people in the field forces seem to be so hung up on, you can give me a contract that has 8 points for an annuity, that’s got to be better than 4. Well, no it doesn’t. Four could be a heck of a lot better if the product was really much more consumer friendly and was supported in a way that was selling in huge volumes. Some people get that, but most people don’t. It’s very, very frustrating.

Macchia – I would think that part of the reason that we have this reaction is that it’s not enough; I think it’s manifestly proven that it’s not enough to put a superior product in the producers’ hands. You have to put an infrastructure and a context around that product that enables him or her to market and sell it successfully in higher volumes. I think that’s what’s been the missing element up to this point. Which reminds me of another thing that I think is going to happen and I’d like to know if you agree with me. The industry right now is beset with a number of challenges in terms of potential financial liability.

Because of the sales of some of these products that are really anti-consumer, you’re well aware of the fact that some class action suits have been certified against large annuity providers. The implications of these financial liabilities run into the hundreds of millions of dollars, perhaps even billions of dollars, and could make a market change in the way things happen. I think what this proves is that for an insurance company to be a quote, unquote manufacturer and put products out into the hands of its agents and then rely upon those agents to self-create the way that they sell those products. Realistically there is no way to provide oversight and the insurance company cannot know what expectations the client is receiving out of that process and can’t really know what he agent in saying.

Over a channel of 1,000 or 2,000 or 10,000 agents you literally could have 10,000 different explanations of a product. What’s going to have to happen in the future for the company to protect itself and its agent is that products are going to have to be introduced simultaneously and linked to a context that is compliant from the very beginning, that consumers can understand in a fair and balanced manor, and from that can get realistic product performance expectations. This comes again out of the creative utilization of technology and media, which is largely not being done right now. I see this as a solution of a myriad of problems, especially this one of cleaning up the problem where agents are explaining products with such great variability that the insurance company is unable to have a consistency of message. I’m wondering if you buy into my vision of this and if so, why?

MacLeay – I think you raise an excellent point. I think that the solution to it is very complicated. I agree with philosophically with what you’re saying. I think it’s going to be a long and difficult road. I still think that the primary thing that people need is that advisor, you know, that person that they are talking to, has to be delivering a message that has their interest at heart and is responsive to their needs. This happens a lot and I think that by and large our industry has been very good at that and then you have this other situation which is really the product push type sale where you say, my job is to sell anybody who breathes this product this afternoon. Well, none of the products today are that generic.

I guess term insurance might be. But, these products are only really suitable in certain situations and they are very good at doing certain things. How do we get people to communicate those to make sure that they are offered to the right people for the right reasons? I do agree with you that that is a huge communication challenge that is going to become more and more driven by the life companies and the product providers because they are the ones that have the deep pockets that have to pay up at the end of the day in these class actions or whatever happens. I think that generally I agree with you. I think it’s a huge challenge. We have, in our history, when you have a career agency system you are able to deal with that a bit better, and it’s the reason by the way that we deal with marketing organizations rather than just general, broad brokerage, one-off situations. Because we know it’s important that people understand what the products are, where they are useful and where they are appropriate and where they are not. You are absolutely right. We are going to need much better communication capability and the technology has got to be part of this and we, of course, as everybody is, we’re doing a lot of that with everything, product rollouts, all the rest of that, tools that we have, compliance cleared tools to use with customers to describe products and where they are appropriate.

Macchia – My wife is going to be pleased with your answer given all of our money that I’ve invested in this belief.

MacLeay – I think it’s true. Some things are obvious, but not easy. It’s pretty obvious, but it’s very, very difficult to implement and to use consistently. What it comes down to is that you have to have good, honest people trying to do good things for the folks that they are working with. I’m not discouraging anybody here, but that’s really what it comes down to and any time that you’re totally driven by your pocketbook or whether you make the next sale or not that’s what leads to the problem, that’s what leads to pushing products where they don’t belong.

Macchia – Tom, this has been very enlightening and enjoyable. I think I’d like to ask you a couple of personal questions, if you don’t mind. The first one is, if I could somehow convey to you a magic want, and by waving this magic want you could make any two changes in the financial services industry that you wish. What would they be?

MacLeay – Oh…the magic wand question, huh? Okay. Well, I guess the first one would be to have people more receptive to planning their financial needs. Particularly in respect to life insurance. Life insurance is a fabulous product, it’s way under-penetrated in our market and it’s too hard to sell and it shouldn’t be. It’s something that people need and if we could wave the magic wand and have people wake up in the morning and say, I do need that, I do want to talk to someone about that, and I do want to act on it. I think that would be very positive, and not just in terms of being self serving as a life insurance company, but it would help a lot in a societal sense as well. So that’s magic want number one. And magic wand number two, I guess is if we could connect better. You’ll like this answer David. People need advice, they need to trust someone.

I’m talking broadly. I’m not talking just about National Life or life insurance agents. But if we could wave a wand and people could figure out that they can make this connection, I think that would be a huge plus for the industry overall because I do think that life insurance on the one hand, but even more broadly in financial services, there are many more solutions or way more things that we can do to help people if they were open to it.

Macchia – That’s a wonderful answer. Let me ask you the next personal question which is, if you were not the Chairman, President and CEO of National Life Group and you could be anything else in any other field, what would you choose to be?

MacLeay – Well, if I could be anything else in any other field…I don’t know if you’re used to that long of a pause on this one…

Macchia – Take your time. There’s no wrong answer.

MacLeay – I know, but there are so many possibilities. It’s tough; I would say if I could do anything it would be something that had a significant value to people somehow. I don’t see myself as a social worker, you know? Let me keep mulling this one over.

Macchia – Alright. Here’s the next one. I want you to imagine your own retirement in its most conceivable ideal and perfect form. Where will you be and what will you be doing?

MacLeay – I will be here. I’ve grown up in Vermont. I will be doing a lot of traveling. We’re part of a community, we like being part of a community, we’ll continue being part of a community and I think one of the dangers of retirement is going off somewhere and being behind a gated community and then trying to figure out what you’re doing there. We might have another location at some point, but I would be based out of home, as home is important and relationships are important and we’ll be very active with our family as well. We would be using travel as a way to get involved in things. Some of that travel may be many, many months getting involved in something. I don’t see sitting around playing golf forever as an idea.

Macchia – Good answers. I’ve got to tell you. This has been a magnificent interview. Very enlightening for me, and I can’t thank you enough. I’d love to catch up with you for a lunch or dinner the next time you’re in Boston.

MacLeay – We’ll do that. I get down there once in awhile.

Macchia – Thanks, again, Tom.

©Copyright 2007 Daviod A. Macchia. Al rights reserved.

LPL Chairman & CEO, Mark Cassady, to be Subject of Leaders & Innovators Interview

Mark S. Cassady, Chairman & CEO of LPL Financial Services will be my interview subject as part of the Leaders & Innovators series. Cassady heads-up the nation’s largest independent brokerage firm in terms of revenues. LPL is represented by more than 7,000 advisors in 4,500 branch offices. The firm, which has its own clearing platform, has been a leader in many areas including the development of technology.

I’m eager to explore numerous issues with Cassady including his vision for LPL’s continued growth, and it’s strategies around Boomer retirement security.

©2007 David A. Macchia. All rights reserved.

Billionaire Real Estate Mogul, Sam Zell, Is One Very Creative Guy; Lampoons Sarbanes-Oxley with Music Box

“Sarbanes Oxley, They’ve Got Moxie, But for Businesses, Their Act is Toxic…”

Joe Nocera’s New York Times business column recently addressed Sam Zell’s takeover of the Tribune Company, owner of The Los Angeles Times, The Chicago Tribune, baseball’s Chicago Cubs, among other assets. In the article (“Offering a Lifeline of Sorts to Newspapers”) Nocera describes how the Tribune Company, a public company, will convert to an S corporation to be owned solely by an ESOP.

Nocera describes the 65 year-old Zell as, “a short gruff man….” who, “trends toward gold chains, colored shirts and jeans.” Fitting for a true artist.

He also describes Zell’s office as adorned with a collection of extravagant music boxes that Zell designs each year and sends to friends. I wish he’d put me on his Christmas list. Last year Zell designed a music box that plays a song sung by a man who sounds like Frank Sinatra and mocks the Sarbanes-Oxley legislation. The hyper-humorous lyrics to the song, which Zell wrote, are set to the melody of Sinatra’s classic rendition of “Love and Marriage.”

After reading Nocera’s article I visited the website where you too can sample some of Zell’s handiwork. Get ready to laugh out loud! Mr. Zell is one very funny man. Click here to visit www.yegsz.com.

©Copyright 2007 David A. Macchia. All rights reserved.

How Can We Feel Happy Investing Rather than Consuming?

Last Friday I featured part one of a multipart series on behavioral finance by RIIA Founding Chairman & Executive Director, François Gadenne. In today’s second installment, François asks, “Why can’t we be happy with what we have?”

One of the consequences of having evolved in a world of scarcity is that we are built to work day after day. We are built to keep striving no matter the accomplishments, no matter the setbacks. Those who worked like that survived and we are their descendants.

It is our evolved nature to never be satisfied and it can be expressed in the form of an equation: “ S = P – E ”. Alternatively, we can express the equation in words: “Satisfaction equals Performance minus Expectations”.

Sadness or happiness derives from the difference between what we expect and what we get. We are happy when we get more than we expected. We are happy when we acquire.

Based on this equation, it would appear that happiness does not derive from having a lot of things. Instead, it would appear that it comes from acquiring a lot of things. Continuous flows of things make us happy. Static stocks of things do not make us happy.

This would seem to answer an admonition that many of us must have heard before: Why can’t we be happy with what we have? Why can’t we just get along with what we have?

It is in our nature to never stop seeking. If we stopped, those who would continue would eventually have more resources to create the next generation. It is a good thing for the sake of our children that there is always something interesting around the corner and that we always yearn for more.

Consuming is a great way to feel happy. Hurray for Capitalism and its natural fit with our Human Nature. However and for most of us, consuming means buying liabilities more often than buying assets.

Liabilities are things that take money out of our pocket long after we spent money to acquire them in the first place. Examples of such liabilities include our residence, our cars, our consumer electronics… Can you see the pattern?

As we contemplate retirement, we need to consume less now so that we can save more for later. How can we redirect our natural thrill to acquire so that we buy assets rather than liabilities? How can we be happy buying things that put money in our pocket rather than buying things that take money out of our pocket?

The answer may come in two parts:
- Better communications: Present the asset acquisition opportunities in the context of a Personal Income Statement and a Personal Balance Sheet,
- Better products: Find assets that provide direct and regular reinforcement of the intended goals.

In preparation for the next post, let’s think about our Personal Income Statement: What assets, if any, do we buy to get our daily thrill of acquisition?

©Copyright 2007 David A. Macchia. All rights reserved.

François Gadenne Adds “Guest Blogger” to His Already Impressive Resume; Get Ready For Two Weeks of Brilliant Retirement Income Analysis

fgroundGiven my commitment to publishing new content on an almost daily basis, I did not want you to check-in starting Wednesday and see nothing but a test pattern while I’m away enjoying the sights in Athens and Crete.

Beginning tomorrow my family and I are off to Greece for a two week vacation. I did, however, think ahead. And what a great treat I have in store for you.

I’ve persuaded my friend, François Gadenne, to serve as guest blogger until I return on May 16.

François is the Executive Director and Founding Chairman of the Retirement Income Industry Association. He’ll be taking you on a thrilling intellectual ride through the vortex of retirement income innovation. It’s a trip sure to expand your mind and, potentially, alter your own views regarding the most significant financial event of our lifetimes. No stranger to this blog, François has already shared with my readers quite a lot about his personal and professional history as well as the events that led to RIIA’s creation.

All this and more can be found in my interview with François as part of the Industry Leaders & Innovators series. To read this wide-ranging interview click here.

So, beginning tomorrow, check-in daily as François drives the retirement income discussion to new vistas.

NAFA Conference Concludes with a Bang; Candor and Insight Overflow

The talks given during day two of NAFA’s Annuity Summit opened and closed strongly with one excellent presentation after another sandwiched in between.

ING’s Harry Stout led off with a compelling analysis of current industry dynamics and challenges. Low rates, a flat yield curve and a 13,000 level for the Dow Jones Industrials conspired to make the first quarter of 2007, “the most challenging in eight or nine years.”

Stout eloquently described the urgency for the annuity industry to, “grow the pie”, while also pointing out that of the $250 Billion in annuity sales during 2006, only 25%- $50 Billion- was attributed to new flows.

In describing the probable impact of Boomer retirement security on the annuity business, Stout said that, “The sleeping giant has yet to awaken.” He cited clarity, transparency and ease of doing business as vital necessities in order for the annuity industry to maximize its potential in serving the retirement income needs of Boomer clients.

In describing the inherent differences among different channels of distribution, Stout said that, “Psychology, culture and expectations change across channels.” He also talked about ING’s efforts to accommodate strategic partnerships between IMOs and broker-dealers, and he followed this with a side-by-side comparison of each channel’s core competencies and respective strengths.

Stout talked about the importance of, “reducing the risk of outliving income” and predicted the introduction of, “new models that help illustrate how annuity products can reduce that risk.”

Stout was quite clear on the point that agents, “must change their competitive positioning and sales practices”, and that their biggest challenge is education on complex products such as indexed annuities. He asserted that the indexed annuity product has been “stress tested.”

Stout indicated that there should be an urgency to, “push indexed annuities into the mainstream”, and called for the industry to embrace new ideas for retirement solutions. He also said that the industry is at the “infancy stage in product innovations and services for upcoming and continuing retirees.”

After his prepared comments, Stout fielded a number of questions. I asked him for his views on the ongoing efforts to recruit annuity agents into RIA status. Stout responded that agents should move into this area with great caution. He said that if the motivations for becoming an RIA have to do with sidestepping regulation and oversight, then such a strategy would not be successful.

While time does not allow for a detailed analysis of all the presentations that followed Stout’s, I want to mention several additional highlights. Lincoln Financial’s, David Kittredge, described the magnitude of the money-in-motion in the context of Boomer retirement. He shared statistics that recognized the assets that Boomers have earmarked for providing retirement income apart from their formal retirement accounts. When these assets are considered Kittredge said that the total volume of money-in-motion becomes a staggering $32 Trillion.

The ACLI’s Carl Wilkerson delivered a comprehensive review of ongoing task force initiatives. And NAVA’s Mike DeGeorge presented an excellent primer on the current menu of living benefits available on VA contracts. A person sitting near me listened to this presentation on VA riders and murmured, “And they say fixed annuities are complex!

An amazingly candid presentation by Iowa Deputy Insurance Commissioner, Jim Mumford, closed the day. Mumford pulled no punches in commenting on many, many contemporary industry challenges. He had no hesitation in citing a lack of cooperation among regulators for worsening the current marketing environment. He reserved special criticism for the North American Securities Administrators Association (NASAA) – of which he is a member- for, “placing turf protection above consumer protection.” Wow.

He described the recent actions by Minnesota Attorney General, Lori Swanson, against some carriers as “purely political” and stated that regulators’ actions can serve to, ‘harm consumers more than help them.” Mumford also stated that, “class action lawsuits usurp state regulation.” He called for regulators to, “work together.”

In commenting on the NASAA’s intense criticism of annuity seminars, Mumford revealed that in order to test the validity of the criticism, representatives of the Iowa Insurance Department and the Iowa securities regulator have attended more than 20 such seminars. He said that some sales practices problems have been uncovered with only two cease and desist orders issued.

NAFA provided a terrific program today, one chock full of worthy insights. Kim O’Brien and her colleagues should be pleased. Due to the absence of the industry press, this analysis is likely to be the only such reporting of today’s events. It’s too bad; there was much which was revealed that fits the definition of “news worthy.”

* * *
During breaks I was able to corner three different NAFA Board members and give them my view that NAFA now finds itself at a critical juncture. I believe that two years from today NAFA can be either substantially irrelevant, or, indisputably vital. What will drive one or the other possible outcomes will be NAFA’s will or lack thereof to confront some very tough issues.

That said, NAFA cannot accomplish this without the strong support and participation by the majority of insurance carriers that wish to manufacture and market quality annuity products. For these carriers it’s past the time when even benign defense of the industry’s worst practices can be justified. With necessary support, NAFA has the opportunity to step-up and wear the mantle of leadership at this pivotal moment.

©Copyright 2007 David A. Macchia. All rights reserved.

Interview with Jeremy Alexander: President of Beacon Research Cites Lack of Transparency as Root Cause of Many Annuity Industry Problems; Predicts Regulators Will Ban “Backcasting” of Annuity Product Performance.

jeremy-colorJeremy Alexander is Founder and President of Beacon Research, the industry’s leading source for comprehensive fixed annuity research. In this interview Alexander and I explore a number of issues of current interest to annuity industry participants. I ask him to explain why the annuity industry is facing its current negative marketing environment, and to comment on the changes he sees as necessary for the industry to reach its full potential in Boomer retirement security. As you’ll read, Alexander doesn’t fear new entrants that may try to take away annuity industry market share. Rather, he sees new opportunities for insurers in having their core competencies integrated into solutions which feature multiple product types.

Macchia: Jeremy, you are the founder and President of Beacon Research. Would you begin by describing your work?

Alexander: Certainly. We provide transparency into the fixed annuity market. We track fixed annuity products across all states, and all variations. We also track sales of those products in all channels. So we provide market intelligence to most of the leading fixed annuity providers which use our web–based tools for pricing, product creation and marketing. We also provide sales desk personnel with tools that allow the analysis of competitive products and give accurate answers to their sales force. And, we produce a front-end for distributors so that their producers can scan their product set to figure out which product is the most appropriate for a given client.

Macchia: You talked about the provision of transparency into the world of fixed annuities. That said, some fixed annuity products, including some that command a large share of sales, are relatively opaque. Are you able to make opaque products transparent?

Alexander: Yes, to the extent that a carrier provides their information to us. They will typically give us all of their source documents to their products; that would be contracts, brochures, state availability and rate information. And they would agree to keep us up to date on any changes that might occur to any of those variables. So once the source documents are provided to us we extract the data in a standardized format and put it into our system. At the point you have, essentially, full transparency into the product. So, yes, that’s what we do.

Macchia: It occurs to me that you have something of a unique perspective on the fixed annuity business. You live it day-to-day, you’re aware of the latest trends and developments, product development initiatives, product performance, etc. I’m curious as to your view on the long-term outlook for the health of the industry. You are certainly aware that fixed annuities have attracted no shortage of criticism by both regulators and the press over sales practices and contract designs. What do you think about when you imagine the future of the business?

Alexander: That’s a good question. Because we track sales of these products as well, we’ve been noticing something very interesting in the last year to two. And that is that typically we were able to benchmark sales by channel, by product type, and various independent indexes like rates, spreads, CD rates, even the S&P 500.

What’s been happening in the last year to two is that we’ve been seeing increased sales in the face of what would appear to be poor economic environments. So, in low rate environments, in strong stock market environments, we’ve been seeing sales that we have difficulty explaining in any other way other than the oncoming retirement income revolution. What we believe is that the fixed annuity side is truly the cornerstone of the retirement income market at this point, especially if you take a look at immediate annuities, for example. There’s no variable immediate sales, but there seems to be a continuing increase in fixed immediate sales. So, we think that there’s a very positive outlook over the next five to ten years in the fixed market. And frankly, to some extent, we believe the current regulatory scrutiny is positive to the market.

Macchia: Positive in the sense of ferreting out bad practices in order to set the stage for greater growth, tomorrow?

Alexander: Absolutely.

Macchia: When you say that, given hostile market dynamics, that you’re surprised by the level of sales you see, is that across all types of fixed annuities? Or is it indexed annuities, or something else? What type or types of product subset are you referencing?

Alexander: Well, they all compete with each other so we see expansions and contractions in book versus MVA versus Indexed versus immediates. So it’s not a straight line in each product type. I see the expansion in the overall sales. For example, we saw rates hit 5% in the 3rd quarter of last year and that created an explosion in sales of the MVA products. That was to the detriment of book value products. You could consider all of these as separate markets that compete for dollars in different economic environments. I see the overall expansion in the market in the consolidated numbers.

Macchia: I’m curious to get your views about the business of indexed annuities in the period post NTM 05-50. What have you observed up until now, and what you foresee going forward?

Alexander: My first guess about the result of 05-50 was that there was going to be a tremendous shift of sales from the independent channel over to the broker-dealer channel given that a good number of these individual insurance producers are series 6 and, or, series 7 licensed . My guess was that we were going to see movement of these products over to the broker-dealer side.

We have not seen any numbers in our sales studies that indicate that this shift is occurring. Now, part of that is simply because, you know, even if a broker-dealer does do business in the EIA space often times they’re utilizing an IMO to do that business, so some of those sales are just coming out as IMO sales even though they should be broker-dealer sales. But I think that what has actually happened based upon discussions I’ve had with clients is that a polarization has occurred in the industry in that the registered reps seem to have shifted back to the variable annuity sales, and your traditional producers are shifting over to fixed annuity sales.

We don’t think that it is necessarily 05-50 that’s created some of this downturn. There’s an indirect effect of 05-50. Now we’ve got reps selling variables instead of indexed products now, but there’s also another dynamic going on. When someone makes a calculation about where they’re going to invest they typically do sort of a risk/return calculation, My no risk or low risk option, here, is the fixed annuity earning me 5%. If I’m going to take the risk of putting my money into equities or a variable sib-account, well, I need an 8% or 9% return. Well, with rates where they are, especially with an inverted yield curve, there’s downward pressure on crediting in equity-indexed products. So when you tale a look at some of these products today you see fairly low caps; the risk/return tradeoff right now is, alright, I can earn 5% with no or low risk, but I can only earn 7% because that indexed annuity has a cap set at 7%. So, if I’m going to take the risk to put my money into something that is equity related, I’m going to go to VAs. If I like the low risk option I’m going to go to fixed. So I think that in today’s market the indexed product is being squeezed from both ends.

Macchia: We’ve seen the variable annuity product morph into what progressively looks more like a fixed annuity in terms of the various guarantees available including the guaranteed income riders. Do you think this plays into the calculus?

Alexander: Yes, absolutely. And this has always happened. You can actually see the opposite effect happening as well, which is we’re starting to see fixed products, both traditional and indexed, coming in with what has traditionally been variable annuity benefits like guaranteed living benefits and death benefits and withdrawal benefits. Certainly, the variable annuity market now has fixed sub-accounts to compete with the fixed side of the world, but interestingly, it seems as though from the numbers we’ve been seeing from VARDS, that new flow has been steadily declining as well.

So although we see a tremendous amount of sales on the variable side, we’re not seeing much new money come into that market. From what I understand, only 60% of the money flowing into variable annuities is going into equity sub-accounts. The remainder is going into the fixed bucket, so I often say if you add up the fixed components of variable sales to true fixed sales you have a larger overall fixed market than the true equity subaccount portion of the variable annuity market.

Macchia: I’ve likely made some industry executives’ heads spin- probably in disbelief- over my prediction that indexed sales could achieve a four-fold increase and reach $100 Billion within five years. I based this projection on a couple of assumptions. One is that it is inevitable that indexed products will become more transparent, the communications strategies around them will become more effective, and the product’s quite substantial inherent value proposition will become better appreciated not only by consumers, but also by advisors, most of which have shunned the product up until now.

This sales prediction is not made without context. Specifically, the needs of Boomer retirees, specially in terms of their entry into what the Retirement Income Industry Association refers to as the Transition Management Phase, and the need Boomers have to place principal guarantees under accumulated retirement assets while also maintaining the potential for upside interest growth. A consumer-oriented indexed annuity, it seems to me, matches-up nicely with this financial need. I’m wondering if you buy into my logic or, if not, if you may have any comments on it?

Alexander: Well, I think that the particular sales number you mention is open to debate. But I also think that what needs to happen in order for your prediction to come true is that the true value proposition needs to be uncovered. I say that because right now no one really knows how these products are actually performing. Are they actually providing a better return over time than a plain old fixed annuity? We don’t know.

Very often people ask me to tell them what is the best indexed annuity out there and I say to them we have no idea. Until the industry puts the light under the dark box and says here’s what’s actually happening, then we’re going to continue to have market conduct issues, and I don’t think that pent-up demand is going to be unlocked.

For example, broker-dealers are drawing somewhat arbitrary lines in the sand over what products they are going to put on their shelf. Why is that? Why is there such an argument over what indexed strategy works best- the 300 different versions of these strategies out there? Why does a broker-dealer cut-off certain types of products- just out of hand say these are no good? The reason is, they don’t know. Until they really understand what has been the renewal history of these products, what is the strategy that the carrier has for renewing rates, and how have they treated clients over time, then broker-dealers and distributors and everyone else involved will continue to sell the sizzle instead of the steak.

In think that its’ purely conjecture that these things really perform in the way everyone says they do. In a perfect world if we had complete transparency- whether its plain old fixed annuities or indexed- we would see a huge release of pent-up demand in this industry, not only would people feel more comfortable selling them, but people would feel more comfortable buying them. And advisors who traditionally wouldn’t even touch these things, the RIAs, the professional planners who say they won’t even look at fixed annuities, for example, might begin to understand how they fit into a portfolio, because the transparency is there; they can be modeled, we can show them inside an asset allocation program. I think all of that revolves around transparency. Today the industry likes to sell around a Snoopy, or a red umbrella, and not based on the actual product.

Macchia: You’re agreeing with me because what you’re describing the sorts of structural changes upon which I condition my prediction. It reminds me of another issue I’d like your comments on, and that is something I have trouble with that seems to be taking root in the indexed annuity marketplace, and that’s this effort to try to make comparative decisions about various products based upon backcasting.

Alexander: Yes. This is one of my favorite subjects. Go on.

Macchia: I’d like to know what you think about backcasting. Will it be successful? What effect or effects stem from it? Do you approve if it, or not?

Alexander: No. I believe it’s misleading and mischaracterizes how the product actually works, and I’ll give a good example. If I were to take a product in today’s market and backcast it ten years, let’s assume today’s cap is 7.5%, and I say what this product would have realized if you invested ten years ago- using this 7.5% cap, well, this can contrast significantly with reality.

We’ve got a couple of players who’ve been around ten years, Sun Life Financial Keyport and Allstate’s Lincoln Benefit’s Savers Plus. Savers Plus came out in April of 1995. Had you invested $100,000 at that time, you would have begun with a 14% cap, and your $100,000 would have grown to $190,000+. Over the holding period rates declined. Well, most of the money in an indexed contract is invested in reserves. Therefore, over time Lincoln Benefit had to lower the product’s cap, because of interest rate conditions. So you saw a gradual decrease in the cap from 14% to 12% to 10%, down to the current level.

Well, if you took, say, an 8.5% cap- which is what I believed it was six months ago- and backcasted the same product over the same exact period using the same S&P numbers, it would turn into $163,000. So in this example, backcasting lowers the true return of that product over time. You’re basically saying this will be the market condition going backwards.

Secondly, and more importantly, you reward carriers that are mispricing. So if a carrier introduces a product today with a 10% cap, I know they can’t sustain that cap. But that product will show up as the best product in the backcasting model. To me, that’s lowballing. You actually reward mispricing when you have backcasting.

Here’s my best analogy: Jeremy Alexander starts a new mutual fund as of today. And because I don’t have a history, I’m going to publicly assert that my mutual fund would have realized a certain percentage gain if it had been invested over the previous ten year period. I don’t think that any regulator would allow me to show such a projection to a client, nor do I think that any OSJ at any broker-dealer would be happy to see any registered rep use that kind of methodology. In fact, I’d likely be barred from the industry and be hit with an SEC fine. And yet, this is exactly what’s happening with backcasting of indexed annuities. So yes, I’m 100% on the same page with you that backcasting is misleading, and frankly if there’s going to be anything that is disallowed over time it’s going to be that.

Macchia: Over 30 years of observing life insurance companies I’ve learned that it is certainly within the operating framework of some to introduce new products with artificially high or subsidized rates. What you’re saying is that applying the backcasting model gives such a company and its products unfair advantage, and almost by definition, a policyholder purchasing such contracts will have results which disappoint. Because the initial projections are unsustainable. Is that right?

Alexander: Exactly. And you touch on an interest subject which is expectations. When you read the complaints or the lawsuits that emerges from many of these market conduct issues you sit back and you say, Man, I can’t believe that it’s really as bad as this complaint states, or the annuity contract can’t be as bad as its being made out to be. But the point is that if you can’t set the correct expectations with the client you are going to have a problem. And that goes back to transparency.

Is the carrier, for example, offering an unsustainable cap? Well maybe… or maybe not. Maybe that carrier’s strategy is to be dynamic and move with market conditions over time, and therefore that cap seems to be higher than other caps. Or maybe I’m a carrier that is setting a policy to renew at a consistent cap, and therefore because I’m looking at my cost structure over time and I’m expecting that my benchmark average it will be “X”, and therefore I can’t come up with a higher cap. Once again, with transparency, we can start to get an idea as to what the carrier is trying to do and set the client’s expectations correctly. That’s what this is really all about, and that’s what will help lower market conduct liability. The only reason backcasting even exists is because a buyer can’t look at renewal rate histories.

Macchia: If I could somehow convey to you a magic wand, and by waving this magic wand you could effect any change or changes within the fixed annuity business which you saw fit, I mean instantly effect that change, what would the first two or three changes you’d want to accomplish?

Alexander: Good question. First, I would want the industry to disclose the renewal rate histories, whether they’re indexed or traditional products. Secondly, I’d like to see some sort of standardization of the suitability process across all lines and across all channels, not just the broker-dealer channel. This is essentially leveling the playing field so it’s not putting any distributor or carrier at a disadvantage.

Macchia: I have not been shy about criticizing the practices of some companies that have been overtly harmful to the industry as a whole. For instance, the development of annuity contracts with extraordinarily long surrender charge periods, or two-tier crediting methodologies, or excessive loading. And I’ve even named certain companies, citing them for their- let’s call it gimmickry- in contract design. Privately- for years- executives of competing annuity providers have complained to me about these very same practices, and they’ve been vocal (privately) in their criticism, and have stated we would never do anything like that, but neither these company executives, nor the industry associations, have ever publicly condemned these practices, or try to distance themselves from them, or sought to isolate and marginalize the companies which engage in them.

And I believe that the result of his inaction has been to place the fixed annuity business in its present precarious position. Would you agree with my analysis of this? And if you do, what do you think is likely to happen over the next couple of years?

Alexander: I absolutely agree. I hate to be a broken record about this but, once again, it goes back to transparency. Here’s an example. Let’s say I have a tremendously long timeframe to invest money, I’m 40 years old and I’m not going to need to access my money for 25 or 30 years. So, I’ve got a timeframe that might allow for a product with a seventeen year term. I want to know why I should buy a seventeen year product. You’ve got seventeen years to use my money. Presumably, you should be able to provide a better return to me that someone else who has my money for ten years. Prove it! If I could see a renewal rate history that makes me comfortable that this thing is going to give me 50 more basis points over time, then I have the tools I need to make a good decision.

Now it’s easy to criticize such products, and I believe that you have a very good point that they may not perform as well as some of the other, shorter term products- but I don’t know. In an opaque world you don’t know, so you end-up drawing arbitrary lines in the sand. I’m agreeing with you entirely.

I was a producer for ten years. When I was producer I was always in an uncomfortable position where it took me at least a couple of meetings to get clients to trust me. Why? Because I was an insurance guy. Well, I didn’t think that this was fair. And I couldn’t understand what I was considered inferior, say, to a stockbroker. But the bottom line was that an individual could come into Merrill Lynch, and a Merrill broker would say, Here’s what I recommend. And that person could go to their local library and check out S&P or Morningstar or Lipper, and they could say, Gee, that was a great recommendation. And the rep could say, We use this third party source and here’s how we came up with your analysis.

Well, as an insurance guy, I couldn’t do that. And I had clients who asked me would you sell this to your parents? And they’d look for me to flinch. Now that’s not the way to sell. That’s why the insurance industry has so many problems with how people perceive the industry. It’s simply that they can’t know that the recommendation is good. Until you have transparency you can’t have an efficient market. It’s bonds before Bloomberg. It’s mutual funds before Joe Mansueto. And until the industry solves this problem, it will always suffer from a poor perception.

Macchia: One of the goals I have with this Blog is to develop candid exploration of some of the inherent poor practices that the industry tends to observe so that a bright light can be shone-in and some reform may occur. This is because the industry needs to set itself up on a better footing so that it can realize the growth it will then deserve based upon its inherent competencies, benefits and advantages that perfectly align with the needs of millions and millions of soon-to-be retirees. Yet, there are many in the industry who continue to defend at all costs even the very worst practices that occur. And the failure to isolate and marginalize these worst practices publicly has brought significant harm to the entire industry. My question is, do you think this will change, or continue in the same manner that is has for a long time?

Alexander: Nothing in this industry changes quickly. I’ve been doing this (Beacon Research) for more than ten years now and it’s clear that it’s a very slow process for the industry to change. I do think that it will, however. I think that things are moving in the right direction in terms of our ability to collect data. I think that over time we will get carriers with best practices to provide the transparency we need. When that does happen it will begin to marginalize the other carriers or distributors which continue to do things that are not in the best interest of the client. I do think the industry will figure this out. I just won’t happen quickly.

If we’re looking for new flow- which everyone is talking about- and not just 1035 exchanges of fixed to fixed and fixed to variables and back again, then we’ve got to tackle this problem. I think the companies with best practices have a huge interest in doing so.

Macchia: On the institutional side, products are created that effectively match-up with the benefits of, say, an indexed annuity. And there’s a lot of talk of packaging structured products so that they can be brought into the consumer market, to deliver to the consumer via Wall Street what the insurance companies deliver to the consumer via Main Street. Have you thought about this and what it may mean? Is it a threat?

Alexander: Well first of all I don’t think it’s a threat. Every industry thinks they have THE solution to the retirement income problem. The mutual fund industry thinks it has THE solution. Every industry thinks it has THE solution. And the fact of the matter is there is no single solution; it’s a “best” solution for a client, and that is always a collection of different products working together to deliver long-term benefits.

I actually think it’s healthy. In fact, insurance companies have begun to provide risk components to non-insurance products. Could, for example, an insurance company provide a living benefit to a plain old mutual fund? Certainly it could. It could take the portion that is the risk and package it inside the mutual fund. Over time we will see combinations of products.

I’d be interested in seeing a pooling of these products to serve the client’s best interest instead of a mindset which says, My silo is best. This is something that could unlock pent-up demand. Everybody talks about the fact that we need this new product or that new product. Wrong! We already have all the products we need to create a strong retirement income portfolio. We have longevity insurance, we have immediate annuities, we have living benefits, we have mutual funds, and we’ve got bonds and stocks. All of those things in combination could and will provide a secure retirement for individuals. This isn’t to say I’m against innovation. But the industry needs to think more about how they fit into the picture instead of his they are the picture.

Macchia: I agree with you and that‘s a terrific insight. Is there anything else you’d like to address that we’ve missed?

Alexander: No, I can’t think of anything.

Macchia: Thank you, Jeremy, I really enjoyed it.

Alexander: Me too.

©Copyright 2007 David A. Macchia. All rights reserved.