Retirement on a Wing and a Prayer

May 9, 2009

Is the insecurity at The Hartford what’s to come for investors in variable annuity benefits

 

Growing up, ‘The Greatest American Hero’ was a show I remember vividly, despite its short-run on network television. An ordinary guy is given the power to do anything when he puts on his superhero suit, and while he was somewhat bumbling in his use of his powers, he of course always used them for tremendous good.

 

It wasn’t long ago that the variable annuity industry sold many retirees a very similar story.

 

You too could have a super-powered retirement. Your ordinary portfolio that had suffered through the ups and downs of the markets could now do the impossible. It would grow – hypothetically – year-in and year-out, and you could take that growth and turn it into an income in the future. The income based on this ‘hypothetical’ growth was of course ‘guaranteed.’

 

And while all of this wasn’t a long time ago, in a galaxy far, far away, it appears the cracks in the superhero suit are starting to show.

 

The Hartford, a company that sold these products, recently posted its third consecutive quarter with a loss, partially due to lower revenue from their variable annuity products. This quarter’s loss grew to $1.2 billion.

 

During a recent conference call CEO Ramani Ayer admitted that "the risk-reward ratio in the VA market just doesn't make any sense," and that the company would cut back sales of variable annuities and eliminate sales in foreign markets.

 

Bob MacDonald, the former chief executive of Allianz Life of North America, was recently quoted in Investment News as saying that the situation at The Hartford was so dire that only a buyout could save the company.

 

This doesn’t sound like a good situation for the secure, guaranteed, income that retirees who invested their life savings with The Hartford were sold on. Is it fair that retirees who agreed to pay the incredibly high fees for the promises these annuities made, now should feel so insecure about their retirement?

 

But the situation is even worse, as investors in these contracts face an incredible dilemma.

 

Having suffered unprecedented market losses in actual value of their contracts, lowered even further by the unprecedented fees that these products charge – do they continue to pay the outrageous fees to a company that may not honor their promises in the future? Or do they try to protect what they have from being further eroded by moving their money, knowing that all that they paid in costs was for nothing, and potentially being subject to more annuity back-end fees by ending the contract early.

 

The position of these investors isn’t enviable. It is a horrible decision that many retirees may not be aware of until it is too late. Having been sold on the promise of a ‘guaranteed’ income stream, why would they worry about the financial stability of the company? They paid heavily to not have to worry about market losses. But unfortunately for some, the losses they may suffer could be greater if they stay put and hope for better times for their insurer.

 

The story may even get worse, as The Hartford’s product was not the most glamorous annuity. It didn’t make the most promises, and therefore advisors that bought into the ‘one-upmanship’ of these products over the past five years didn’t make it a top seller. It may be that this is just the start of a long-term phenomenon for insurers, where earnings are stressed by the unrealistic promises they sold as they made a grab for retiree rollover dollars.

 

Meanwhile, investors who were sold or exchanged into newer annuity products in the past few years will be subject to contractual fee-increases, which may end up in excess of 5%. Had investors known about the risks these companies were taking, had been told these higher costs to begin with, they may not have made the same choices to invest their retirement savings so heavily in these annuity promises.

 

As ‘great’ of a fantasy these products may have been, they may have a similar lifespan as my childhood favorite series ‘The Greatest American Hero.’ We can be sure there will be new super-powered grabs for retiree investment dollars, but hopefully more retirees will do their homework before trusting their life savings to products that are too good to be true.

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