#384 | Global Atlantic Axes In-Force Rates
Ask anyone who is fundamentally skeptical about Indexed UL why they feel that way and, invariably, they’ll bring up the issue of non-guaranteed elements. It’s a valid point. Indexed UL product performance ultimately hinges on non-guaranteed elements. But that’s also true of virtually every permanent life insurance product, even Whole Life. It’s unfair to single Indexed UL out as a “trust me” product in the context of other permanent life insurance products.
However, gauging the quality of non-guaranteed elements in Indexed UL is a heck of a lot trickier than in other permanent life insurance policies and that, I think, is the real reason why Indexed UL gets singled out. What’s a fair S&P 500 point-to-point Cap? That depends on two things – the life insurer’s option budget and the market cost of options. Neither of those things are observable by lay folk. Theoretically, a life insurer’s option budget should be equal to the fixed account crediting rate. But practically, that almost never happens. Life insurers subsidize their option budgets for various accounts by scraping profits or making assumptions about option costs over time for other accounts. It’s exceedingly difficult, if not impossible, to figure out the option budget.
On top of that, it’s hard to know fair market pricing for options without access to institutional implied volatility data. The proxy that most people use, the VIX, isn’t accurate for indexed insurance products because it’s a 30-day tenor across a variety of strike prices. To know how much an annual S&P 500 point-to-point Cap costs, for example, you need exactly 1-year implied volatility for both the Floor and the Cap strike prices. And from there, you need to parameterize the rest of a Black-Scholes model in order to get the base option price, not including trading expenses.
Take those two things together and it’s no surprise that Indexed UL is often characterized as a product that requires a particularly high level of trust in the life insurer to set fair non-guaranteed elements. In order to build more trust, life insurers have become highly transparent about how they set rates by showing their option budgets by account, publishing option prices, providing helpful option data in policyholder statements and refreshing rates regularly to stay in-line with changing market conditions.
Just kidding. Exactly zero life insurers have done any of those things. Life insurers have increasingly (and begrudgingly) become more willing to admit that Indexed UL products involve options and to generically explain that they use the yield from the underlying portfolio to buy options. But provide specifics? Not a chance. Instead, life insurers continue to pretend as though rate setting is their secret sauce. They act like they have something to hide. As a result, a lot of people think that they actually do.
I’ve been watching Indexed UL rates for more than 15 years and my general feeling is that life insurers have actually done a good job of setting fair rates on Indexed UL products. Rate setting is both science and art. The science side of the equation is what generally dictates the average rates available. The art side is what each particular insurer chooses to do with its own rates over any particular period. Aberrations tend to be temporary and tied to explanations that are specific to the insurer, such as a heavy reliance on subsidization from engineered indices (Allianz), opening a new portfolio (Symetra), reworking the investment strategy (PacLife), over-selling business in the mid-2010s (Securian), strong alternative asset returns (Penn Mutual) – the list goes on. Each company has a bit of an angle that manifests in different S&P 500 Caps. That’s the art.
But, ultimately, science prevails. The average life insurer sets fair rates for its Indexed UL products based on reasonable assumptions about portfolio yields and option prices for a particular block of business. That’s why you can see clear and nearly universal trends across the industry when it comes to rate setting for Indexed UL. The actuaries at life insurers selling Indexed UL are, in my experience, almost universally committed to setting fair rates for policyholders. That’s why they go to work every day. The strange irony is that they’re often willing to use ridiculous gimmicks on the fuzzy math of illustrated performance but when it comes to the hard math of rate setting, they play it straight.
There is one exception to the average that sticks out like an increasingly sore thumb – Global Atlantic’s Accordia subsidiary, which was the largest seller of Indexed UL in the country under its legacy Aviva/AmerUs/Indy Life branding until 2009. Global Atlantic has been gradually winnowing rates on its in-force Indexed UL products for years. Some of the reductions made sense in the context of falling rates and rising option prices. There is also the case to be made that older product variants had higher investments spreads and, therefore, should have lower Caps. But over the past couple of years, the economics for the block should have improved and the science of ratesetting seems to point to improvements, as we’ve seen at some other insurers. That hasn’t happened at Accordia.
Instead, rates continue to drop. Last week, Global Atlantic announced that “due to sustained higher hedging costs, cap rates on certain in-force Indexed Universal Life [IUL] products will be adjusted.” This is the first rate update since Global Atlantic pulled the plug on the Accordia Life new business franchise just a few months ago. Cap rates reduced by 0.5% to 1.25%. The rate changes and current rates by product are in the table below.
|Lifetime Builder III
|Lifetime Builder Elite
|Advantage Builder 2/3/4
|Lifetime Builder Elite 2020
|Lifetime Builder (Accordia)
|Lifetime Foundation Elite
|Lifetime Builder II
Let me put a little bit of context on these numbers. Lifetime Builder III was the flagship product at Aviva/Accordia for many years. As a show of commitment to the IUL business in 2014, Aviva juiced the cap on Lifetime Builder III from 11.5% to a whopping 13%. At some point afterwards, the Cap was reduced to 12%, which was still highly competitive for the time. Global Atlantic cut it to 11% in February of 2019, then to 9.75% in September of 2019 and again to 9% in August of 2020. At some point afterwards, the Cap was cut to 7.5% – despite the fact that the successor product available for sale (Lifetime Builder Elite 2020) received a rate improvement in late 2022.
Now, the cap on Lifetime Builder III is a meager 6.25%, well below products of similar vintage at Pacific Life and Securian. Lifetime Builder III was illustrated north of 8% prior to AG 49 and over 7% even after AG 49 – meaning that the current Cap is now lower than the previous default illustrated rate. In other words, there is exactly zero chance of Lifetime Builder III performing as illustrated even less than 5 years ago without an increase in the Cap. This is the worst-case scenario for Indexed UL playing out in real time on a product that was once one of the most popular and best-selling Indexed ULs in the industry.
Global Atlantic’s explanation for the rate reduction is higher hedging costs. It’s true that hedge prices have come up. I keep a history of the price of a 10% S&P 500 Cap going all the way back to 2007 on the IUL Benchmark Index. When the Cap was reduced to 9% in August of 2020, the cost of a 10% Cap was 4.8%. As of last week, the price was 5.4%. Assuming that the option budget remained unchanged at 4.3%, which was the cost of a 9% Cap in August 2020, the current Cap should be at 7.5% – which, not ironically, is what it was prior to this most recent rate reduction. The current cost to hedge the current 6.25% Cap is about 3.7%. At no point in time have option prices been so cheap that the cost to hedge any of Accordia’s previous Caps would have been 3.7% or lower.
In other words, I don’t think this rate reduction actually has much to do with hedge prices. The cost to hedge a 10% Cap has actually cooled off a bit from mid-summer, when it was closer to 5.7%. But there is even more damning evidence to be found in the rate reduction itself. Global Atlantic whacked all of the indexed crediting strategies in products where the S&P 500 Cap was reduced, including strategies that aren’t affected by volatility or even have an inverse relationship to volatility.
Accordia Global Accumulator offered a BlackRock Diversa 7 Excess Return index where the option price was fixed (as is customary for engineered indices) and Global Atlantic still cut the Cap from 12.75% to 12.25%. Monthly caps, multi-index strategies and monthly average strategies all also got hit with significant rate reductions despite the fact that their hedge price dynamics are markedly different than traditional S&P 500 Caps. If this rate reduction was really just about hedge prices, we would have seen targeted reductions in spots where hedge prices have markedly gone up. Instead, Global Atlantic hit rates across the board in nice, round increments. It’s just the sort of steady degradation in value that will slide under the radar.
As a result, my sense is that this most recent rate reduction isn’t actually about hedge prices, despite what the field bulletin says. Instead, it looks like Global Atlantic is systematically increasing their profits by gradually reducing rates on what is now a runoff block. There is no new business franchise to endanger. They don’t care if the few agents that are still paying attention to these policies are infuriated. They know that most clients don’t understand the impact. Who is going to call Global Atlantic to the mat for taking profits from non-guaranteed elements? Not a soul.
This is the worst-case scenario for buyers of Indexed UL. The contrast between current practices and old marketing material for Aviva would be almost comical if real policyholders weren’t involved. There are pieces that talk about the firm’s commitment to the business. There are pieces showing that an 8% return is achievable more than 60% of the time based on historical data assuming, in very small print, that the Cap doesn’t change. There are pieces showing that an Aviva IUL policy would have outperformed the S&P 500 from 2000 to 2009. The list goes on. This company did everything it possibly could to make the case that its illustrations, in-force management and actual performance was strong.
And yet, none of that matters. The people that wrote those marketing pieces are no longer at the company. Neither are the people who built the products. Neither are the people who signed off on the supportability of the illustrations. Neither are the wholesalers. Neither are the executive leaders. Now, it’s up to KKR-owned Global Atlantic to manage these policies and with this most recent rate reduction, their agenda seems to be clear – “optimize” profitability for the in-force block at the expense of policyholder returns.
One way to interpret what is happening to the Accordia block is that it’s a cautionary tale about PE-backed insurers and non-guaranteed elements. Maybe, but there are other counterexamples of PE-backed firms who haven’t touched NGEs. Another way to interpret the Accordia story is that it’s what will ultimately happen to all mature Indexed UL blocks over time but, again, I don’t think that’s backed up by experience at other insurers.
Instead, I think this is really a story about transparency. Global Atlantic said that it reduced rates because of higher option prices. I don’t think the evidence backs that up. It looks like there’s a lot more to the story. The problem is that I had to write 2,000 words to paint the proper backdrop and to put the rate changes in context to draw a fairly simple observation that it actually looks like Global Atlantic is taking profits. It would have been a lot easier to take Global Atlantic at their word if they’d showed the math. But they didn’t. They’re banking on trust, that what they put in their little press release is true, without actually doing anything to earn that trust.
Ultimately, all permanent life insurance rests on trust. Trust can be earned over decades of delivering fair returns to policyholders. It can also be artificially manufactured through policy guarantees. Indexed UL has neither of these things. It hasn’t been around long enough to prove that it works as promised over a variety of rate and economic cycles and the guarantees in the product are weak enough to be essentially worthless.
Now, the fundamental trust in Indexed UL as a mechanical product construct is being called into question. The response from insurers should not be new portfolios with higher rates and new illustration gimmicks. The response from insurers should be transparency. They should actually start to explain how these products work. They should set Caps on a monthly basis in-line with market conditions. They should show policyholders the underlying economics. Without transparency, there can be no trust. And if you want a prime example of what happens to Indexed UL without transparency or trust, then look no further than Accordia.