#272 | Lincoln MMA & Brighthouse SmartCare

Click here for the first part of the Lincoln MMA review. For a refresher – because it’s been a while – here’s how I closed it: “The biggest surprise of all, though, is that Lincoln didn’t come up with the idea [for the MMA structure]. Brighthouse did. If we’re going to try to figure out if MMA is any good, then we’re going to have to take a hard look at its closest and arguably only competitor – Brighthouse SmartCare IUL. I should also note that although I worked at MetLife US Retail and then at Brighthouse, my tenure ended in mid-2017 and before SmartCare began to take shape.

By the time Brighthouse Financial was officially spun out of MetLife, it had long ceased to be a meaningful player in the life insurance business. MetLife was once a juggernaut, easily cracking the top 3 for many years in total sales stemming from its large agency system and strong independent distribution relationships. But beginning in 2013, when MetLife abruptly pulled its Guaranteed UL product, sales began to slide. Met successfully pivoted to the Whole Life space – something of a feat for a stock company playing a mutual company’s game – and even made headway with BGAs and institutional firms in selling Whole Life. But it was shortlived. MetLife sold the agency system, the MetLife Premier Client Group, to MassMutual in 2016 and pulled its retail Whole Life suite in 2017, leaving behind Whole Life for term conversions only. It seemed as though Brighthouse would effectively be an annuity-only company.

From the first Brighthouse earnings call in Q3 of 2017 to Q1 of 2018, nary a mention is made of life insurance sales or any sort of life insurance product development. And yet, Brighthouse quietly kept its chips on the table. It retained a full suite of distribution leadership and wholesalers, a large underwriting department and a team for life insurance product development. From what I hear, wholesalers were told that, although they had nothing to sell, they were going to be tracked on their outbound calls to build relationships. Clearly, Brighthouse laying the groundwork for something.

In Q2 of 2018, Brighthouse leadership started to tip its hand, saying “we are also focused on growing new sales of life insurance and intend to be a significant player in the industry in coming years. As such, we are targeting the end of this year or the beginning of next year to launch a new life product subject to regulatory approval.” On the next earnings call, there’s another quick update stating that the forthcoming product will help Brighthouse “reestablish a competitive foothold” and has already been approved in 46 states. Finally, the Q4 2018 call spills the beans – “And this week, we are launching Brighthouse SmartCare…our first life insurance product introduction since becoming an independent company.” The time had arrived. As of February 2019, SmartCare was finally out and Brighthouse was back in the life insurance game. Kind of.

At first blush, SmartCare looks like a classic linked-benefit Life/LTC hybrid product in the same vein as the original MoneyGuard, sporting traditional level and inflation-adjusted LTC options. However, its hallmark and differentiator is the Indexed LTC option. You would be forgiven for thinking that the Indexed LTC option takes a base LTC benefit and then adds index-linked growth to the LTC benefit itself. Crediting indexed interest this way would allow for an easy comparison between the guaranteed growth rates in the inflation-adjusted options and the non-guaranteed – but potentially higher – performance of the indexed credits. But, alas, SmartCare doesn’t work that way.

Instead, Brighthouse uses the Account Value to drive the Indexed LTC benefit. The relationship between the two is very simple. The initial premium payment establishes a ratio of the minimum guaranteed LTC benefit to the initial Account Value (after premium loads) and the minimum guaranteed LTC benefit. From that point on, the LTC benefit is the greater of the minimum guaranteed LTC benefit and the AV multiplied by the ratio established on day one. You can back straight into the ratio using the illustration, although the number is going to bounce around a little bit because of policy charge and crediting timing. Sound familiar? That’s because SmartCare is the obvious forerunner to Lincoln MoneyGuard Market Advantage.

There’s no denying that SmartCare is a creative and groundbreaking product. It blurs the lines between LTC and life insurance in a way that no product has done before. And Brighthouse didn’t stop there. The underwriting is entirely digital and data-driven, with a reflexive application and decisions in 24 hours. Distribution is targeted towards the institutional side of the market and Brighthouse leadership has referenced the fact that 56,000+ advisors have access to SmartCare with more regularly being added. To serve those customers, Brighthouse has something like 25 wholesalers and internal wholesalers supporting the product – and they are still hiring. From a marketing standpoint, Brighthouse supported SmartCare with a widely-aired commercial on TV and a slick promotional video. Plenty of life insurers spend money on TV ads for general name brand recognition, but this is the first time I’ve ever seen a life insurer do a TV ad for a specific product*. Brighthouse has given SmartCare every possible resource to succeed, spending untold millions of dollars in the form of advertising, product development, underwriting and distribution headcount to support sales. Did it work?

From a purely outsider’s view, it’s hard to say that it did. In 2019, a year where the hybrid Life/LTC space did something like $1.5B in premium, Brighthouse reported just $19 million in premium for SmartCare. The sales are a bit fuzzy for 2020 because Brighthouse started reporting on all Life sales, not just SmartCare, but the total Life sales for Brighthouse in 2020 tallies up to just $56 million. Last year was, admittedly, a tough year for linked-benefit sales. The market shrank by something like 40%, depending on how you look at it. But, in my view, that had more to do with pricing adjustments at some of the dominant market players than shrinking demand for the product. Nationwide and Securian both had massive upticks in sales last year. Brighthouse should have also been very well positioned to pick up the slack. Why didn’t it?

The predominant theory from folks who know a bit about what’s going on inside the company is that Brighthouse has had a slow distribution rollout that was hampered meaningfully by COVID. Brighthouse’s distribution strategy centers around institutional clients, which is logical because these firms have traditionally made up the bulk of linked-benefit sales. But there are some significant downsides. Getting onto institutional platforms takes time and, once you’re on, you’re constantly fighting for shelf space against your competitors. Earning mindshare with advisors who are focused on basically everything but life insurance takes a herculean effort, which Brighthouse has traditionally done with face-to-face wholesaling – an impossibility in the days of COVID.

I’m sure there are elements of truth to this theory, but I think it misses a much broader point. One of the reasons why linked-benefit products have gained such traction in the institutional channels is that these products don’t have many moving parts and are easy to sell. You don’t have to be an expert in life insurance or LTC to convince a client of the value of a linked-benefit product where everything is guaranteed. Simplicity and certainty are the keys to getting an advisor who is business doing financial planning, managing money and potentially even selling annuities to position a linked-benefit product.

SmartCare is a completely different animal. The core differentiator of the product is the Account Value-driven Indexed LTC benefit. If you want to understand how the Indexed LTC benefit works, you have to understand how a Universal Life policy works. That’s a tall order for advisors who are thinking about anything but life insurance every day. Universal Life policies are complex. They have lots of moving parts. They have guaranteed rates and non-guaranteed rates. And, to boot, SmartCare is an Indexed UL product, which means the agent and client need to understand indexed crediting, itself a Pandora’s Box. The reason why Brighthouse needs spend tens of millions of dollars to generate $50 million in SmartCare premium is obvious – it’s really hard to sell.

All of this should make Lincoln shudder. MoneyGuard Market Advantage is a near-clone of SmartCare in terms of basic mechanics. The primary selling point for both products is that they offer an LTC benefit as a multiple of the Account Value. Both products assess 25% premium loads in the first year. Both products charge (basically) level rider fees as a percentage of the LTC benefit. Both products have a minimum initial LTC guarantee, but both products allow the LTC benefit in excess of the minimum guarantee to rise and fall as the Account Value rises and falls. Both products provide an additional layer of protection – Lincoln MMA in the form of a protected LTC value at a lower Account Value multiple than the Market Driven LTC benefit and SmartCare in the form of the option to permanently freeze the LTC benefit one time in the life of the contract. And both products have extremely high expenses that run into the 4% range over time, which means that both products have a pretty high hurdle rate to clear in order to deliver Account Value growth that generates increasing, AV-driven LTC benefits.

There are three primary differences between Lincoln MMA and Brighthouse SmartCare. The first is straightforward – MMA is reimbursement, SmartCare is indemnity (with some contingencies). The second is the way that the payouts work for the indexed LTC benefit. SmartCare offers traditional 4 and 6-year LTC payouts, regardless of whether the LTC benefit is the guaranteed minimum or has been increased by growth in the Account Value. Lincoln MMA, as detailed in the previous post, effectively has two payout periods that are blended at different ratios, depending on performance. Sound complicated? It is. But SmartCare isn’t. On both of these first two scores, SmartCare has the clear upper hand.

The third big difference between the two products is the driver of performance. Both products are, at their core, traditional Universal Life products with an enhanced LTC benefit bolted on top. SmartCare is a true-blue Indexed UL and Lincoln MMA is a true-blue Variable UL. Which chassis is better for this application? That depends on how you look at it. Indexed crediting has inherently less volatility than the performance of equity-based mutual funds courtesy of the 0% floor and, in the case of SmartCare, a 9% cap. That’s a big benefit in a linked-benefit product where advisors are understandably a bit uncomfortable (and unfamiliar) with the idea of a product where the LTC benefit can drop from year-to-year. However, SmartCare isn’t fully protected. Policy charges will still be deducted and that will still result in a reduction in Account Value which will in turn reduce the LTC benefit. Take a look at how one particular random return pattern looks for Lincoln MMA and Brighthouse Smart Care (both of which I modeled in the DIT to 99% accuracy) for a 55 year old male making a $100,000 initial deposit.

Although SmartCare certainly has less volatility than Lincoln MMA, it doesn’t offer full protection. If you look carefully at the SmartCare line, you can see that the LTC benefit periodically drops. Why is that? Simple – the 0% floor only pertains to the credit, not the Account Value. When the product earns a 0% credit, somewhere in the neighborhood of 3-4% in policy charges comes out anyway, depending on the year. These charges will reduce the account value and in turn reduce the LTC benefit. A run of a few bad years can still push the LTC benefit back down to the guaranteed minimum, as you can see happening (in this example) from age 77 and beyond. At some point during the decline in the LTC Benefit, a client might be well advised to take advantage of the opportunity to freeze their LTC Benefit to protect against further declines. But doing so also eliminates the possibility of future increases. Knowing when to actually pull the trigger on the freeze takes a level of confidence (and clairvoyance) that most folks don’t have.

Reducing volatility with indexed crediting also necessarily means having less upside – and upside is what this type of product is all about. Thanks to the real equity exposure in Lincoln MMA, it really can and most likely will outperform SmartCare over time. MMA does have some moderate investment restrictions that force something like 20% of the invested assets to be in fixed income or into more balanced fund options, but that doesn’t change the story. If you want upside potential, MMA is your ticket. To get a feel for how these products perform over a wide range of scenarios, I ran 1,000 S&P 500 returns (with some adjustments to take into account the MMA investment restrictions) through both products. The return distribution generating the random scenarios is calibrated so that the geometric mean results in the AG 49-A maximum illustrated rate for SmartCare of 5.7%.

These results are not surprising and are in-line with basically every analysis I’ve ever run or ever seen done by anyone else comparing long-term indexed crediting returns (in FIA or IUL) versus equity returns. The upside is huge but there is a meaningful amount of downside risk, with something like 25% of scenarios favoring SmartCare over MMA. But if a client wants the maximum upside out of this sort of chassis – and, presumably, they do because that’s what sets these products apart from traditional linked-benefit products – then Lincoln MMA is going to deliver the goods better than Brighthouse SmartCare.

However, I think it’s highly likely that some folks are going to run Lincoln MMA with a handicap that it doesn’t deserve. The commonplace assumption for VUL these days is around 6%, at least from what I’ve seen. From there, MMA has fund and M&E expenses that scrape (ballpark) 0.8% off of the illustrated rate before the rest of the policy charges. SmartCare has a maximum AG 49-A illustrated rate of 5.7% based on the current 9% cap. Illustrating Lincoln MMA at 6% against SmartCare at 5.7% is probably going to give the upper hand to SmartCare.

As I’ve written numerous times in various articles, this sort of comparison is not correct. The AG 49-A maximum illustrated rate uses historical equity return data in conjunction with the current, non-guaranteed cap. If you’re going to take historical equity returns since 1955 to inform the illustrated rate for SmartCare, then you need to do the same thing for Lincoln MMA. Using the AG 49-A methodology on S&P 500 total returns without a cap or floor would lead you to about a 10.5% illustrated rate for the equity component of MMA. Adjusting for the bond piece and the benefits of diversification, maybe somewhere in the neighborhood of 8-9% is appropriate. At those rates, which would be a fair comparison to SmartCare, MMA would have the clear upper hand.

But that’s only part of the story. When you run Lincoln MMA at 4% or 10%, you’re making assumptions about future asset returns that are completely out of Lincoln’s hands. When you run SmartCare at 5.7%, you’re relying not only on the fragile assumption that future equity returns will be as strong as they have been in the past, but also on the assumption that Brighthouse will maintain a constant 9% cap forever. That is obviously an absurd assumption. Brighthouse has already reset both the renewal and new business caps for SmartCare. Every future cap reduction will reduce the illustrated rate accordingly.

As illustrated rates drop, so will Account Value performance and, therefore, so will the LTC benefit above the guaranteed minimum level. This poses an existential threat to the product. At some point, caps will fall far enough that illustrated performance can’t justify selecting the Indexed LTC option, which is the only real differentiator of the product. SmartCare is dependent, both for illustrative purposes and in terms of actual client performance, on Brighthouse’s ability or willingness to maintain healthy and high caps. That’s an uncomfortable position for clients and advisors to be in. And, ultimately, it’s an uncomfortable position for Brighthouse as well. In an environment of low yields and high option prices, maintaining a cap high enough to justify the existence of the product is not a slam dunk. Market new-money caps in today’s environment are in the neighborhood of 6%. At that cap, the Indexed LTC benefit doesn’t work. The policy charges would overwhelm the growth from indexed credits.

Equally as problematic is the fact that the illustrated performance at the current 9% cap – and therefore the evidence of the value proposition of the product versus its competitors – is dependent on the AG 49 lookback calculation. Running SmartCare at a rate equal to the option budget (call it 4% for a 9% cap) results in very little AV and LTC benefit growth because of policy charge drag. Take a look at the chart below, which I pulled out of the SmartCare DIT model and ran at crediting rates starting at the maximum AG 49 rate (5.69%) and declining to 4%:

The AG 49 lookback rate is what allows the Indexed LTC benefit to “work.” Without it, the Indexed LTC benefit isn’t remotely attractive, at least from the standpoint of illustrated performance. What’s going on in SmartCare isn’t so different than what goes on in Indexed UL products reliant on charge-funded multipliers. But, in this case, the extra charge goes to fund an LTC multiplier, not an indexed crediting multiplier. SmartCare needs the AG 49 lookback methodology as much as any multiplier IUL – and maybe even more because there is no future exit strategy to a de-levered account in SmartCare like there is in a multiplier IUL.

For all of SmartCare’s flaws, the core concept is sound. The fact is that the fully guaranteed nature of the linked-benefit market is unsustainable. SmartCare-type products provide a way forward, further bringing LTC closer to life insurance and, in the process, putting more risk on the client while providing more upside potential. We’ve seen this movie before and it works – at least, once all of the companies still willing to leverage their balance sheets and sell cheap guarantees get out of the market. However, SmartCare’s flaws are, in my view, potentially fatal. The Indexed UL chassis is not the right fit for this product and certainly not right now, when rates are low and options are expensive. A variable chassis resolves these issues and, in that respect, Lincoln MMA is a step forward. But in terms of its complexity, it’s a step backwards, even from SmartCare. For this product category to take hold and grow, companies are going to have to simplify the mechanics and the story.

Will Lincoln MMA succeed? That’s a whole separate question. From what I understand, the response from distributors has been tepid, at best. There’s just too much fully guaranteed inventory on the market, the concept is too new and MMA is complicated, particularly its convoluted payout calculation. Success will be hard fought and slow. The fact that they left MG3 on the shelf next to MMA tells you that Lincoln is playing the long game with MMA. They’ve done it before. Recall that MoneyGuard sat dormant on the shelf for many years before suddenly finding favor and flows. MMA may face the same fate, waiting patiently until the market turns. But, until then, expect other carriers to watch carefully. The era of MoneyGuard-type products is fading. The era of SmartCare-type products is upon us.

*A subscriber found this gem – Northwestern Mutual Life Commercial from 1986 – YouTube