Just about everyone in the indexed annuity business says that annuity owners have been keeping their annuities for longer and longer periods in the past few years, but is it true?
It is, according to lapse data collected by Ruark Consulting, but with some surprising twists that might interest agents as well as insurers.
From 2006 to 2010, the industry did experience low lapses during the policy surrender charge period and elevated surrenders at the end of the period, according to a Ruark study of indexed annuity surrender activity. That lines up with industry expectations.
However, the rate of “shock lapses”— policy surrenders occurring in the first year after an annuity’s surrender charge period ends — declined by about 40 percent over the four-year period, says Richard Tucker, vice president of the Simsbury, Conn., actuarial and consulting firm.
This is a “significant” decline in lapse rate, he says.
The finding is contrary to the widely held expectation that many policyholders will exit their policies right after the end of the surrender period, when owners no longer have to pay early withdrawal (surrender) penalties.
Another surprising finding is that the shock lapse rates tended to decline with length of the surrender period, Tucker says. This is contrary to the view of some industry experts that shock lapse rates will remain the same regardless of length of the surrender period.
That particular finding raises an interesting possibility. Perhaps policyholders with long-term surrender charge periods — north of 14 years, say — are not necessarily scrambling to get out of their contracts as soon as the contracts are free of surrender penalties. If that is the case, what does that say about the much-published concerns over the consumer-friendliness of long-term surrender charges? It will be a point to watch, going forward.
It shows what consumers do
The findings may be of interest to agents and advisors, because what consumers tend to do with their policies after point of sale may be among the factors that advisors consider when recommending indexed annuities or financial strategies.
The findings also provide agents and insurers with a revealing look at how policyholders handle their annuities during challenging economies such as the one at the end of the last decade — i.e., more owners than may be expected will hang on to their products.
In strong economies, many policyholders start pulling money from their contracts once their policies are outside the surrender period. That is especially the case if interest rates are rising and/or the stock market is performing well. But the Ruark findings could be viewed as an indication that the tough economy that began in 2008 contributed to an alteration in that pattern.
Factors behind the findings
Tucker touches on some of that when suggesting factors that may have contributed to the big decline in shock lapse rates the Ruark study has identified.
The prolonged period of declining interest rates in the U.S. may have resulted in less attractive retirement savings alternatives for policyowners to use, he says.
As a result, more policyowners may have decided not to exit their policies, even though they no longer had to pay surrender penalties. With interest rates so low, where would the owners go with their money if they were to move it?
Another factor may have been the evolving suitability environment, he suggests.
During the four-year study period, more states implemented suitability — and tightened suitability standards — for annuity sales, so more fixed indexed annuities were likely being sold on the basis of what is suitable for the buyer. This may have affected the tendency of those policy owners to keep their policies.
Still another factor is a finding in the study. It has to do with indexed annuities that have guaranteed living benefit (GLB) features. These contracts have lower surrender rates than indexed annuities without the features, according to the study.
Tucker cautions against applying the GLB findings in a predictive manner. In actuarial terms, he explains, there has not yet been enough time and experience on these features. GLB provisions only started appearing in indexed annuities about three or four years ago, and they only became “highly popular” in indexed annuities during the past two years. Policies with these features will need to be closely monitored, he says.
According to Ruark Consulting, the study represents surrender activity data from nine insurance companies that represent more than 80 percent of all indexed annuity sales in 2010. Even so, Tucker points out that this is historical data and may not predictive of future lapse patterns.
According to AnnuitySpecs.com, surrender charge periods on fixed indexed annuities range from a low of about six years to a high of 15 or 16 years. More than 55 percent of sales of fixed indexed annuities in the third quarter of 2011 involved products with surrender charge periods of 10 years, AnnuitySpecs reports.
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