David Macchia believes that the various segments of the financial services industry must join together to launch a bold new era of annuity sales growth.
Macchia’s mission is to help those he calls “constrained investors” — those investors who get to retirement with money, but whose total amount of assets is not high relative to the income they need to fund a lifestyle they consider minimally acceptable.
Constrained investors share an absolute reliance upon their savings to produce a significant share of the income they need to fund their retirement lifestyle.
Macchia believes that annuities are the key to managing risk for those who have consistently saved for retirement but need those savings to last them a lifetime.
The founder and CEO of Wealth2K, Macchia created “Women & Income,” the first retirement income solution expressly developed for female investors. Macchia also led the team that developed the widely used retirement income planning solution called The Income for Life Model. It has enabled financial advisors to capture investment assets totaling $70 billion, while helping thousands of retirees enjoy improved retirement security.
In this interview with Publisher Paul Feldman, Macchia discusses the concept of income for life and describes why the advisory community must get on board with that concept to help more Americans achieve a secure retirement.
PAUL FELDMAN: You’ve had an illustrious career. Tell us how you came into the industry.
DAVID MACCHIA: I started as a life insurance agent with what was then known as The Mutual Life Insurance Company of New York. That took me into product wholesaling of life insurance, and eventually brought me to a company called EF Hutton Life, which was the pioneer of universal life.
By accident, I backed into a consulting career. When the Tax Reform Act of 1986 came about, I was a young guy. I had an idea that life insurance could be used as an alternative to what that act created, which was the nondeductible individual retirement account.
I said, “Wouldn’t it be better to use a life insurance policy that has no paperwork filing with the government, and you’re not limited to $2,000?” In addition, you can take money out of the life insurance policy tax free. This kind of launched the way that life insurance is even today, using it to provide tax-free income through policy loans.
At that point, I had a parallel career consulting project with that life insurance idea, and I was a wholesaler. And that went on for a long time, up until about 2007, when I sold the agency and my independent marketing organization, and moved almost full time into the business of retirement income distribution planning.
In 2004, I was introduced to the notion of the baby boomer phenomenon — the 76 million people approaching retirement who must take their trillions of dollars in collective savings and turn it into income that lasts for their entire lives. I was very much intrigued with that challenge. I realized early on that people did not know how to turn accumulated assets into income. I also realized that most financial advisors weren’t particularly skilled at helping clients do that.
I saw an opportunity to build a solution for retirement income planning. In 2005, we launched that first solution, the income-for-life model, which is still going strong. That’s what my focus has been day and night ever since — focused on the business of retirement income planning.
FELDMAN: Income for life is an interesting concept. Tell me more about it.
MACCHIA: We have learned a lot in the years that I’ve been working in this field. One of the things we started out with was the idea of bucketing, or time segmentation, as the academics might refer to it.
This bucketing approach has a lot of advantages over a total return approach, where you’re simply taking a withdrawal of a certain amount every year — what often is called the 4% rule.
The bucketing approach had some real advantages, and it had a glaring weakness. The glaring weakness was that you certainly eliminated risk early in the strategy. But you potentially put risk later in the strategy, because in those later buckets, which are more aggressively invested, you don’t know what the performance will be when the person is older.
About seven or eight years ago, we put a layer of lifetime guaranteed income via an annuity inside that strategy. We created a hybrid strategy — and that hybrid strategy, in my estimation, is the best thing I’ve seen thus far. I don’t know how to design a better strategy than that. It protects the client against longevity risks; it protects the client against timing risk.
It provides the best mechanism for the client to stay fully invested throughout retirement so that they can protect against inflation risk. It provides investment discipline, it’s transparent, it’s understandable. It just works, and there are thousands of financial advisors who use it.
They find it delivers a high level of satisfaction to their clients. And they routinely win 100% of the client’s assets when they bring that process to them.
FELDMAN: You work with a lot of registered investment advisors. How do you get them to see that annuities are a good part of a client’s portfolio?
MACCHIA: I’ve been writing articles trying to get the RIA community to understand that their approach to retirement income planning is suboptimal. And for a large segment of the investors in the United States, it’s doing them a disservice by not giving them a strategy that mitigates the risks that can reduce or even eliminate their retirement incomes entirely. So I’m a huge advocate for RIAs’ embracing annuities.
I think it’s important, and I think if that happens, it will bring a lot of benefits to the entire annuity industry because if RIAs embrace annuities in a widespread manner, it will bring the consumer press along. And that will create consumer demand. And annuities will attain the vision that I have for them, which is to become mainline products — no different than index funds or exchange-traded funds.
There should be tremendous consumer demand for annuities. But we don’t have it, and I think that needs to change.
It starts with getting the people who are enemies of annuities to not be enemies.
There is no rational objection, from an RIA, for example, to using an annuity today, because they can access an annuity that perfectly harmonizes with the RIA’s business model, culture or philosophy.
Those annuities have been created, and they appear in their portfolio management system like any other position. There’s no reason to forsake annuities at all. To the extent that people are working with constrained investors — which are the majority of people who get to retirement and who have saved consistently — those folks must have protection against longevity risk.
They also need protection against timing risk, which I think is the scariest thing of all in the short run.
I’m aggressive in my assertion here because it comes out of an absolute conviction. When an RIA is working with that type of client and doesn’t at least address longevity risk, they are not meeting their fiduciary duty to the client.
FELDMAN: What about discussing other types of insurance that address longevity, such as long-term care or something like that? Isn’t that also addressing your fiduciary responsibility?
MACCHIA: I think it absolutely is. And it’s similar in the sense that it addresses an event that can happen to a retiree that causes their assets to be reduced rather quickly, along with a reduction in their standard of living. So it must be raised. The idea that you address a complicated need, like retirement income planning, without a toolkit is yesterday’s news. I don’t think it’s viable going forward.
FELDMAN: You use the term “constrained investor.” Can you tell us more about it?
MACCHIA: Here is the way I think about retirees. There are three categories of investors: overfunded investors, underfunded investors and constrained investors.
Overfunded investors are the lucky minority of people who have a surplus of cash relative to the amount of money they need to produce the income that they require. They have a cushion — sometimes a really big cushion. They can use any kind of strategy; they can use a total return strategy, no problem.
Underfunded investors are those people who have saved very little or nothing at retirement — they’re going to rely on Social Security.
But in the middle, there are millions of people I call constrained investors. They control trillions of dollars, and they may have a modest amount of money, or they could have millions of dollars.
It’s not about how much they have. It’s about how what they have relates to the income that they need to create to meet a minimally acceptable lifestyle.
For the constrained investors, there is very little margin of error. There is a fair amount of pressure put on their savings to produce income. They can’t make mistakes. They can’t run in and out of the market. They have no luxury of being able to make investing mistakes.
Therefore, they need a strategy that puts the priority on risk mitigation. They must mitigate timing risks. If they’re good at mitigating inflation, if they mitigate longevity risk in their strategy, then they have the best possible chance of being successful.
Having a lack of understanding about how to do this properly is not an excuse. The knowledge is out there. If you’re working with a client, and they are a constrained investor, here’s the problem. A lot of advisors do not understand the idea of a constrained investor. The industry hasn’t looked at people this way.
For decades, the insurance industry has tried to change the way RIAs think about annuities. That way doesn’t work — it isn’t working and it will never work, in my view.
What we must do is change the way advisors think about the client. When they look at the client differently, and when they understand that there’s a large segment of clients who need a specific type of income planning with risk management at its core, then they’re forced to do things differently. That’s the change I’m trying to help foster — to get people to do things differently. Because there’s so much at stake for these retirees.
We have had a 14-year bull market that’s unprecedented. Do we think it’s going to go on for another 14 years? If so, everything that I’m saying goes right out the window, because anything works. But if it does not go on for another 14 years, if we begin to have a correction, I personally think that we’re at the threshold of a new era that will be notable for risk management and sensitivity toward mitigating risks.
Stocks have turned down while interest rates have turned up, inflation is surging, and the Federal Reserve is signaling it will reverse course and start to shrink the money supply. All these factors do not argue well for appreciating stock prices. That means there’s a big scary monster of a risk lurking in these retirees’ lives that they’re not aware of. And that’s timing risk.
FELDMAN: This should be our call to action in the industry, because people are seeing their wealth depleted. They think the market is coming back, but I don’t see it coming back — at least not this year.
MACCHIA: There’s this phenomenon called recency bias, you know, where our memories are prejudiced. They focus on what has happened in the recent time, more than in faraway times. I remember in February 2009, I hosted a chair at a conference for advisors sponsored by the Retirement Income Industry Association. An advisor came up to me after one session, and he was visibly emotional. He was welling up. He said, “Several of my clients who are my closest friends, I could not prevent them from selling out at the worst possible moment at the height of the 2008 downturn.” He recognized the result of that was that those clients would have a permanently lower standard of living.
I told him, “Don’t beat yourself up. What made you decide to come to the conference?” He said, “I want to learn how to do it better.”
I believe that’s the position a lot of people will be in if we have a substantial downturn, because it’s very difficult. If you’re a constrained investor, no one ever told you in those terms that you were. But you know, if you’re reliant upon your savings to produce income, you are a constrained investor. If the stock market starts to go against you, and you see losses — day to day, week to week, month to month — the reaction often is for people to say, “I’m out,” even though it’s the wrong thing to do.
I’ll give you one more example. Later in 2009, one of my clients was a company called Securities America, which is now part of Advisor Group. It’s a company that was the first mover in retirement income for an independent broker-dealer. They had a conference online, and in one of the sessions there were financial advisors who had used their bucketing strategy.
They put those people onstage and they were able to talk with other advisors about how they were able to get their clients through the disaster of 2008. The contrast between their experience and the advisors who were using, say, a systematic withdrawal was remarkable. People sometimes ask me: “What is the best retirement income strategy?” And my answer is always the same. It’s the one you can live with.
FELDMAN: What are your thoughts about those who never would consider annuities?
MACCHIA: They’re missing the boat. I’ll put it this way: The most important financial retirement security tool ever created is an annuity. There is nothing else that can provide an income for as long as the client lives. How can anyone reasonably say, “You should not have an annuity”?
The advisor who says, “I hate annuities, I don’t recommend annuities,” would never, ever leave their home uninsured against fire. They would never get in their car if they didn’t have auto insurance. Yet they will deprive someone of income insurance. It makes no sense at all. I think this will change. And what will change it in the RIA channel is the way annuities have been designed and the business processes around them. So they operate much like any other asset that the RIA deals with.
FELDMAN: What kind of product changes do you see coming down the road, and what changes would you like to see with product design?
MACCHIA: I’ll tell you what’s happened for RIAs. They have available to them multiyear guaranteed annuities, fixed indexed annuities with income riders, variable annuities, single-premium immediate annuities — all contract types are available to RIAs with no surrender charge and no commission. And they have been placed in such a way that they appear in the RIA’s portfolio management system like any other asset that they can wrap. So in terms of the business model and the philosophy, there’s no inconsistencies for RIAs anymore.
But not enough RIAs are doing it. And I think the reason they’re not doing it is they still lack this magic elixir. The magic elixir is the understanding of the constrained investor, again going back to my earlier point about changing the way they think about the client, not the product.
FELDMAN: How can the insurance industry do a better job of getting the word out about annuities?
MACCHIA: This has been an enduring frustration of my 40-year career. The industry never has been able to communicate its own value. It’s horrible. It’s a first-order failure of communication.
The insurance industry should rally around the concept of the constrained investor and explain to people why annuities are essential if they’re constrained. Any client will get it if somebody just explains it to them. Annuity sales are skyrocketing. Because once a client understands timing risk and longevity risk, and that they’re constrained and that their entire financial security and retirement are in jeopardy — the annuity is the natural logical tool to fix that.
I like to tell the story about timing risk. With stocks reversing right now, I worry about timing risk more than anything else. So let me explain: Timing risk is what the industry refers to as a sequence-of-returns risk. It’s yet another example of overcomplicating something.
The way I explain it is like this: Imagine you had 10 people in a room, and they were financially identical. They all had the same amount of money — $500,000. They all had the same investment portfolio. They all were going to take out exactly the same amount of income in retirement. So what’s different? Just timing.
What we would say to demonstrate this is instead of retiring all 10 people on the first day of the year, let’s separate them by roughly 90 days — a calendar quarter — so someone will retire Jan. 1, the next person on April 1, the next one on July 1, the next one on Oct. 1, etc., until all 10 are retired. Then let’s look at what would happen to them over a retirement lasting 30 years.
What do you find? The difference between the first person and the second person is that the second person ends up with $1 million more than the first person. The first person, who might have said, “I’m thinking about maybe retiring on the first of the year or maybe waiting until the spring,” but decides against retiring in the spring and decides to retire on the first of the year, cost himself $1 million. Imagine how his retirement could have been better if he had another $1 million to work with. That’s nothing but bad luck and timing.
Now, if you look at the fifth retiree and the 10th retiree, the fifth retiree suffers what the academics call portfolio ruin — he went broke. The 10th retiree gets 30 years of inflation-adjusted income, and a cash bonus of $2.6 million at the end. So you have two people side by side — one’s broke, one’s rich — but they started off the same.
Why would anybody in their right mind have a strategy that didn’t protect against timing risk? Now you can protect against it. There are a lot of ways to do it, but here’s an easy way. For the first five years, use a SPIA. For the second five years, use a MYGA. At the end of the fifth year, beginning of the sixth year, take the MYGA and turn it into another SPIA for five years. You give the client 120 guaranteed paychecks, and you make timing risk go bye-bye. Who wouldn’t do that?
Sequence-of-returns risk is the issue the industry has been talking about. It doesn’t get across very well. We must do better at communication.
FELDMAN: It all sounds really complex.
MACCHIA: It’s like everything else. Everything is made to sum. And for a lot of financial advisors, this is really wrongheaded. They try to differentiate themselves by being complicated, thinking that if it’s complicated, it’s going to be more valuable to the client.
But it’s really creating a lack of understanding of the client’s mind, and the lack of confidence.
People will only feel truly confident about something that you’re asking them to purchase if they really understand it. They may still buy it and hope. But to really feel confident about it, they have to understand it.
FELDMAN: And it must be something they can remember. If you give them a complex concept, they’re not going to remember that six months after you made the sale. Another advisor comes in there, and they don’t remember why they did what they did.
MACCHIA: I wrote a booklet to help people understand this issue of timing risk. And it’s available to anybody at no cost. They can download it at my website, davidmacchia.com. And they should read it to learn how to explain it in a way that any prospect or client can understand.
FELDMAN: What else would you like to tell our readers about retirement income planning?
MACCHIA: If your readers are concerned that they’re not executing retirement income planning properly, they should reach out to a firm that’s in the business of doing it properly. They need to change. Because if we’re going to have an economy that looks different — and I believe it’s going to be that way — then there will be more urgency around the whole issue of income planning being done properly, with a focus on protection.
We must get back to protection. And the annuity industry is well positioned, if it will only tell that story a little better.
Timing Risk Can Have A Devastating Impact On Retirement
To illustrate the devastating impact of timing risk, rather than retire all 10 people on the same day, we will separate them by one calendar quarter. This means that one person will retire about every 90 days. The sequence will look like this: The first person retires on Jan. 1, the second retires on April 1, and the third retires on July 1. It continues on in this way until all 10 are retired. Next, we’ll look at what happens to the 10 individuals over a 30-year retirement. We’ll use a historical two-year period and real market values. It’s remarkable how destructive timing risk can be.
What do we learn from this story? We learn how utterly dangerous it is to let luck determine a constrained investor’s retirement security. Let’s focus on the first two people to retire. We’ll call them Ben and Jackie.
Ben retires first. Three months later, Jackie retires. Although their retirements are separated by only about three months, Jackie ends up with almost $1,000,000 more retirement income than poor, unlucky Ben. Ben had been thinking that he would wait until spring to retire, but he didn’t wait. A million-dollar mistake. Imagine how Ben’s retirement lifestyle could have been improved had he been lucky enough to wait.
But the situation of our fifth retiree, Steve, is worse than Ben’s. Steve suffered what academics describe as “portfolio ruin.” I call it dead broke. No wealth. No income. Bad luck.
Luck, of course, can be good or bad. One retiree, Margaret, had particularly good luck. She received 30 years’ worth of inflation-adjusted income, plus a pile of cash equal to $2.6 million.
Ben is broke. Margaret is rich. How can any fiduciary advisor — or any decent human being — leave a constrained investor unprotected against timing risk? The answer is the RIA can’t.
Although the RIA is bound by fiduciary duty to protect the client against timing risk, an annuity is not required in order to create the protection. By organizing the client’s money in a manner that income during the first 10 years of retirement is generated by assets not subject to principal risk, the advisor can easily address the problem. However, the combination of a single-premium immediate annuity/multiyear guaranteed annuity converted to SPIA is the most convenient and bulletproof way to manage timing risk.
The annuity option offers the additional advantage of 120 months of guaranteed monthly income. There are hundreds of billions of dollars in the first decade’s worth that must be protected in this way.