The interest rate environment creates the most important external influence on fixed life and annuity companies and the products they offer. The reason is simple economics, over 95% of a fixed life / annuity company’s assets are invested in fixed assets – securities like bonds and mortgages that have an interest rate component. Throughout history insurance companies have managed interest rates and the risks associated with the interest rate environment. For the most part they have done an exceptional job in doing so. However, the way insurance companies manage products in difficult interest rate environments has a significant impact on the products we sell.
In the last decade we have seen a steady and dramatic decrease in interest rates. The 10-Year US Treasury rate stands as the bellwether measurement for interest rates. . In 2007, the average 10-Year Treasury yield was around 4.6%. At that time the industry commonly referred to the interest rate environment as “very low”. Most of the “experts” were typically quoted as saying “interest rates can’t go any lower”. However, since then interest rates have gone down by almost 70%! The following chart shows the average interest rates for the last five calendar years.
Again, in 2011, according to the “experts” we were at the bottom and interest rates had to go up. However, so far this year the 10-Year Treasury has averaged 2.0% and we currently sit at around 1.5% (as of June 1, 2012). Can interest rates go even lower? Some think so. How long are interest rates going to be at this level? Some say for a long time – Ben Bernanke said the Federal Reserve pledges to keep rates low at least through late 2014. Others are calling for a huge spike in interest rates at some point in the future. The reality is no one knows for sure.
As advisors, it is not our job to carry a crystal ball but to understand the impact different rate environments will have on the products and our clients. If interest rates stay low, the product impact will be significant – and you have to be prepared.
Over the past 4 years, Fixed Rate and Fixed Indexed Annuities have been dramatically impacted by very low crediting rates and cap rates. What you may not know is that no fixed annuity company wants to write business in this environment. I talk to insurance company executives almost every day and some of the conversations I have had lately point to some concerning news.
I can say with 100% confidence that if we stay in this interest rate environment, you will see carriers significantly limit sales and you will see some carriers exit the fixed annuity market entirely. The reality is insurance companies cannot make money in a sustained low interest rate environment. And when you consider the costs of the guarantees and significant capital required some carriers will simply choose to not weather the storm. How can an independent agent manage this environment? The key is to be nimble and to align yourself with experts in the industry that can help in that regard.
Fixed Rate UL and Fixed Indexed UL have seen similar, although not as dramatic, adjustments to crediting rates and caps. The reason UL rates have not been impacted as severely as annuity rates is most UL carriers use a portfolio rate whereas most annuity writers use a new money rate. This means most UL products have many assets purchased over the last decade that have higher yields, which have lead to higher crediting rates and caps. However, if interest rates stay low there are many more reductions to crediting rates and caps to come.
The difficulty is some carriers already know their crediting rates and cap rates are too high and are playing a game of chicken by waiting to reduce rates in an effort to drive current production. Unfortunately it is very difficult to find statistics that would help an agent determine which carrier is being realistic and which ones are arbitrarily high. This can only be done by having your finger on the pulse of the insurance companies, by having detailed conversations with executives, looking at the statistics, and keeping a watchful eyes on the trends.
The reality is, even in a low interest rate environment (in fact I would say especially in a low interest rate environment), Fixed Rate and Fixed Indexed Products are an incredible tool to use with clients. Anyone look at what a client can get on more traditional fixed investments? Where are CD rates right now? What kind of guarantees are available? How many clients have no desire to be in the stock market right now, or at any point for that matter? Today is perhaps the best day to be talking to clients about Fixed Rate and Fixed Indexed Products.
However, if you are going to be successful over the next several years you need to align yourself with experts – not the experts who are pushing products and can tell you HOW to sell a product that does not add value to your clients – but experts that can point you in the right direction and make sure you are giving your clients the most valuable products available at the time. We at AMZ take pride in our ability to stay on top of the industry – not to be a pawn in it. We promise that we will do everything in our power to find the best solutions for you and your client regardless of whether the sky is falling or not!