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Fund House: You May Love to Hate Annuities

Fund House: You May Love to Hate Annuities

But you need to get over it.

In product management land, most professionals look down their noses at annuities. But now those product managers and lots of other financial professionals are scrambling to create and deploy products that offer investors safety of principal, reliable or guaranteed income, investment flexibility, and confidence in the company managing the products. Annuities, which meet all of those tests, are starting to look like a good option.

“Annuicide?” We Think Not.

Let's start with the “what's in it for me” portion of our conversation. We know there can be significant business implications for fee-based advisors who sell annuities, primarily the loss of revenue from the assets placed in the annuity. This is a function of the fee-based business model — not a problem with the product, per se. Unfortunately, the net result of this challenge is that many advisors who would like to look at some of the newer, simpler, lower-priced annuities believe they are structurally unable to take the financial hit.

But if we look at this a little differently we can come up with a credible scenario that makes you whole either immediately or in a fairly reasonable period of time, and provides benefits that can help build your practice.

Assumptions for our illustration:

  • Advisor charges client 100 basis points (1 point) to manage assets;
  • Client has investable assets (outside of annuities) that return 7 percent annually (real) and are in tax-exempt accounts;
  • Advisor uses a no-load annuity and doesn't charge anything for advising the client to use the product as a component of the client's portfolio (which we don't advocate — but which we are modeling as a worst case scenario).

Clients these days are very big on the idea of alignment of interests with their trusted advisors. We urge you to consider full disclosure of the business approach you are taking to presenting and managing these products for your clients as part of your suitability and sales process. It may very well cement the idea that you are truly on your clients' side — and it may result in more referrals of the type of clients you actually want to work with.

If you view annuities as an asset class and simply go ahead and charge a fee for managing those assets (and we think advisors should consider this model) then the five-year, make-whole timeline is moot, of course, as you never take assets out of the fee-based model to begin with.

Here are a couple of other perspectives on annuities we'd like to share.

Risk pooling

The basic concept in insurance is the idea of spreading risk over a wider pool of people. This is a completely different idea than anything that has to do with alpha generation and/or constructing a portfolio to deliver low-cost beta — which is a good thing if you believe in diversifying your clients' exposure to a small set of investment ideas. By adding an insurance product to your clients' portfolios, you can add risk pooling as an investment concept.

Product features are catching up to market need

For example, Fidelity Investments Life Insurance Company's John Danahy notes the liquidity features that now come with many income annuities, allowing clients to access capital during the income period, and the return of principal benefits that allow some inheritance to beneficiaries. So complete lock-up of client dollars may be receding as an issue.

Some of our recent research suggests that advisors are planning to slightly increase allocations to variable annuities and other insurance products. Of the more than 500 advisors surveyed in the Quarterly RepThinkTank Advisor Pulse study, 51 percent plan to increase allocations to variable annuities over the next twelve months, versus 47 percent in last quarter's study. Individual stocks had held the number two slot, now replaced by VA's. Not yet a revolution, of course, but we do see a place for these new, improved, and lower cost insurance products in certain types of client portfolios.

Writer's BIO:

Lisa Cohen, CEO of Momentum Partners, is a founding member of the RepThinkTank, a consultancy joint venture with Registered Rep.

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