Smart guys question 4% SWR strategy

[AdventuresAddict]

Originally Posted by rmark

I recall an article from some years ago about japanese insurers petitioning their governement to allow the companies to reduce payments to annuity holders to keep the companies solvent. A reduced payment was better than no payment.

Haha, if someday more start to survive beyond 100, it's possible that those insurance companies who sold their annuities decades ago assuming the mortality is 85 will do likewise. Actually, when we buy an annuity, we'd rather that the people insured in the same pool would die earlier. If everybody starts to live beyond the assumed mortality, the insurance company may run into trouble. Still, as explained, certainty of survival income is important, so it's still better to have some certainty contractually rather than to worry about what's not happened and that's not in the contract.

[Want2retire]

Suppose John Doe buys a fixed, immediate, lifetime annuity from Insurance Company A, a company he feels is sound and stable. He spends a lot of time researching companies, and decides on this one.

Can "Insurance Company A" pay "Insurance Company B" to take over the obligation to pay John Doe, effectively transferring the annuity to "Insurance Company B"?

Just asking, don't shoot!

[haha]

Originally Posted by AdventuresAddict

If everybody starts to live beyond the assumed mortality, the insurance company may run into trouble. Still, as explained, certainty of survival income is important, so it's still better to have some certainty contractually rather than to worry about what's not happened and that's not in the contract.

Unless a company is proportionately very heavy into annuities, I would expect that their life policies should act as a natural hedge to their annuities with respect to life expectancy changes.

Any comment on this?

Life companies already hedge somewhat by using a life table with longer expectancies when they sell annuities, and one with shorter expectancies when they sell life insurance. At least this used to be the case

Ha

[RockOn]

Originally Posted by cute fuzzy bunny

Also, anyone under 60 who can get a 4%+ inflation adjusted SPIA with survivorship should email me the company name.

Unless I am not doing it correctly, the Vangard site offers single life at around 5% (CPI-U adjusted) for a 53 year old male. With survivorship (at 100%) it's 4.3%.

[brewer12345]

Originally Posted by Want2retire

Suppose John Doe buys a fixed, immediate, lifetime annuity from Insurance Company A, a company he feels is sound and stable. He spends a lot of time researching companies, and decides on this one.

Can "Insurance Company A" pay "Insurance Company B" to take over the obligation to pay John Doe, effectively transferring the annuity to "Insurance Company B"?

Just asking, don't shoot!

Yes, but company A is usually still on the hook if Company B blows up.

[brewer12345]

Originally Posted by haha

Unless a company is proportionately very heavy into annuities, I would expect that their life policies should act as a natural hedge to their annuities with respect to life expectancy changes.

Any comment on this?

Life companies already hedge somewhat by using a life table with longer expectancies when they sell annuities, and one with shorter expectancies when they sell life insurance. At least this used to be the case

Ha

The industry has moved on in many respects. Many companies are big sellers of fixed annuities, but not much on the life side. Dunno that anyone sells a lot of SPIAs (yet).

As for mortality tables, life policies have gotten more aggressive in assumptions about "longevity ramp" (game is to guess how quickly life expectancy will increase, believe it or not). Its a brutally competitive business (especially term), and now they life insurers have started securitizing blocks of life risk/reserves, effectively using the capital markets to fund reserves and shoulder a modest amount of mortality risk. So things are a little more complicated than they used to be. Incidentally, last year Goldman Sachs rolled out a series of longevity indexes, which were meant to be the basis for securitizations and derivatives (mortality swap, anyone). Dunno if it has started gaining currency yet.

[Want2retire]

Originally Posted by brewer12345

Yes, but company A is usually still on the hook if Company B blows up.

Oh, OK! Thanks. I always wondered about that.

[ERD50]

Originally Posted by haha

Life companies already hedge somewhat by using a life table with longer expectancies when they sell annuities, and one with shorter expectancies when they sell life insurance. At least this used to be the case

Ha

They also require you to take a physical and provide a medical history when you buy life insurance, and sign a document to state whether you smoke or not, or engage in certain risky behaviors.

No such requirement when you 'purchase' an annuity. I'm surprised they don't give you a gift basket on the way out of the office, filled with cigarettes and gift coupons for sky diving lessons....

-ERD50

[Rich_in_Tampa]

Originally Posted by ERD50

They also require you to take a physical and provide a medical history when you buy life insurance, and sign a document to state whether you smoke or not, or engage in certain risky behaviors.

No such requirement when you 'purchase' an annuity. I'm surprised they don't give you a gift basket on the way out of the office, filled with cigarettes and gift coupons for sky diving lessons....

True, but you can actually upgrade an annuity (at least a SPIA) if you can prove certain illnesses which shorten life expectancy. They'll bump the payout. Feels kinda weird.

[Independent]

Originally Posted by Want2retire

Suppose John Doe buys a fixed, immediate, lifetime annuity from Insurance Company A, a company he feels is sound and stable. He spends a lot of time researching companies, and decides on this one.

Can "Insurance Company A" pay "Insurance Company B" to take over the obligation to pay John Doe, effectively transferring the annuity to "Insurance Company B"?

Just asking, don't shoot!

This has been done. One name is "assumption reinsurance". See assumption reinsurance Note that it's "uncommon", not the typical type of reinsurance.

You may be wondering because you remember news stories from some years ago. There was a flurry of activity in which companies were transferring the direct policyowner liability without the policyowner's approval. This seemed wrong for exactly the reason you mention.

I believe that regulators got involved and started requiring policyowner approval. Since some people would always say "no", that made the transaction less attractive.

[Independent]

Originally Posted by AdventuresAddict

As I had explained, it's a comparison. In the case of financial difficulties, the insurers may still claim from the reinsurers, whereas most other private companies do not have this additional layer of protection.

You've said a couple things I can agree with. One is that insurers can use mortality pooling to add value to people who want income for exactly as long as they live. Another is that some retirees might benefit from a planning strategy that separates their spending into "needs" and "wants", and then target a very high probability of success for the "needs", while going further out on the risk/return curve when funding the "wants". (That's my re-wording of the strategy that I think you're promoting.) Those comments make sense to me.

But I've disagreed with statements like the quote above.

I've pointed out that typical reinsurance contracts don't make payments because of "financial difficulties". If there is a general recession with a lot of bond defaults, causing stress for insurers who have invested in bonds, reinsurance payments don't suddenly go up. Insurance companies can buy credit insurance just like anybody else, but reinsurance doesn't give them something better.

I'll try an analogy. If a manufacturer has factories in one country but sells a lot in other countries, it will have some currency risk. It might hedge this risk with some sort of currency derivatives. Suppose it wants to issue public bonds and get a bond rating. The rating agency will note that it has this currency risk, then look at the hedging program. The hedging will be recognized as part of the rating.

A bond salesman who says "This company is actually stronger than its rating, because it has a currency hedging program." is misleading the customer. He's implying that the rating agency ignored the hedging program.

I understand that ratings aren't perfect. But any insurance salesman who says "This company is actually stronger than its rating because it has reinsurance programs." is misleading the customer. The salesperson is in no position to claim that the rating agency isn't using the reinsurance in its rating, but that's what he is saying.


On the CPI issue, I made that comment before I realized that you aren't in the US. Here in the US, we not only have CPI-linked bonds, but also CPI-linked annuities (see the Vanguard site). In fact, in the US everyone already has a CPI-linked annuity through Social Security. A financial adviser who thinks a client might be a candidate for a private SPIA should first recommend that the client maximize his/her SS monthly income by deferring the benefit start date. It's plausible that a lot of people who agree with your strategy of having a solid base of "insured income" would conclude that SS meets that need.

[brewer12345]

Originally Posted by Independent

I understand that ratings aren't perfect. But any insurance salesman who says "This company is actually stronger than its rating because it has reinsurance programs." is misleading the customer. The salesperson is in no position to claim that the rating agency isn't using the reinsurance in its rating, but that's what he is saying.

I'll go you one further. Not infrequently, companies with lots and lots of reinsurance are actually weaker credits than those with less. Why? Because the heavily reinsured company is using reinsurance to make up for the fact that they don't really have the necessary equity capital to support all of the business they have written. If something happens or they have a dispute with one or more reinsurers, it often isn't pretty.

[AdventuresAddict]

Originally Posted by Independent

You've said a couple things I can agree with. One is that insurers can use mortality pooling to add value to people who want income for exactly as long as they live. Another is that some retirees might benefit from a planning strategy that separates their spending into "needs" and "wants", and then target a very high probability of success for the "needs", while going further out on the risk/return curve when funding the "wants". (That's my re-wording of the strategy that I think you're promoting.) Those comments make sense to me.

But I've disagreed with statements like the quote above.

I've pointed out that typical reinsurance contracts don't make payments because of "financial difficulties". If there is a general recession with a lot of bond defaults, causing stress for insurers who have invested in bonds, reinsurance payments don't suddenly go up. Insurance companies can buy credit insurance just like anybody else, but reinsurance doesn't give them something better.

I'll try an analogy. If a manufacturer has factories in one country but sells a lot in other countries, it will have some currency risk. It might hedge this risk with some sort of currency derivatives. Suppose it wants to issue public bonds and get a bond rating. The rating agency will note that it has this currency risk, then look at the hedging program. The hedging will be recognized as part of the rating.

A bond salesman who says "This company is actually stronger than its rating, because it has a currency hedging program." is misleading the customer. He's implying that the rating agency ignored the hedging program.

I understand that ratings aren't perfect. But any insurance salesman who says "This company is actually stronger than its rating because it has reinsurance programs." is misleading the customer. The salesperson is in no position to claim that the rating agency isn't using the reinsurance in its rating, but that's what he is saying.


On the CPI issue, I made that comment before I realized that you aren't in the US. Here in the US, we not only have CPI-linked bonds, but also CPI-linked annuities (see the Vanguard site). In fact, in the US everyone already has a CPI-linked annuity through Social Security. A financial adviser who thinks a client might be a candidate for a private SPIA should first recommend that the client maximize his/her SS monthly income by deferring the benefit start date. It's plausible that a lot of people who agree with your strategy of having a solid base of "insured income" would conclude that SS meets that need.

Hi, before I reply, let's read an interesting article regarding how the 'regulation' layer of assurance plays a part in ensuring the continuity of s reinsurer during potential crisis (not necessarily due to stock market crash):

Reinsurance crisis may spark more takeovers - Jacksonville Business Journal:

Monday, July 17, 2006
Reinsurance crisis may spark more takeovers

Jacksonville Business Journal

Florida regulators are warning that Florida Select Insurance Co. might be just the first of several property insurers they will take control of this summer because of reinsurance problems.
Following last year's heavy losses on hurricanes, many reinsurance companies that share risk with insurers are offering less coverage or are raising rates on insurers' residential and commercial property business in Florida.
On June 30, the Florida Office of Insurance Regulation received a state court order to put Sarasota-based Florida Select Insurance Co. into rehabilitation and a receivership under the Florida Department of Financial Services.
Florida Select, the state's 20th largest home insurer, has about 70,000 homeowners' policies.
As of July 11, the DFS was allowing Florida Select to renew policies, but not write new ones.
The OIR is monitoring several other insurers that, like Florida Select, do not have sufficient reinsurance to help pay potential claims if hurricanes cause damage to properties they insure, OIR spokesman Bob Lotane said.
He would not provide a number of companies or any names. The OIR has licensed and approves rate increases for about 150 companies that write homeowners insurance.
State laws permit the OIR to ask for receiverships for insurers that do not have adequate reinsurance, in addition to capital, in relation to their premiums and the insured value of policies.
The OIR usually will give companies "some slack" when quarterly deadlines pass and grant them several extra weeks to renew reinsurance contracts or sign new ones, Lotane said.
But when hurricane season began June 1, the OIR decided to strictly enforce that rule for at least several months.

The above is a real story of how the regulators would take action whenever they detect some potential problems.

Regarding my point that reinsurer may indeed decrease the risk of loss of annuity payout, let me use a simple illustration which I think makes things easier to understand. Again, I am comparing this Annuities Portfolio described vs Balanced Portfolio (including stocks and bonds to derive SWR) for the Survival Income portion.

A typical annuity-issuing insurer would be reinsured by a few reinsurers. This makes the nature of risk----carrier-risk-----diversified. For example, at a customer's level, his annuity may be divided into 5 proportional parts insured by the original insurers and 4 other reinsurers. And since each individual reinsurer must again be regulated, it makes the scenario in which the insurer itself plus all the reinsurers it's reinsured with being unable to honor the retirement income payout less likely. Less likely not than risk-free govt Bonds, but than the Balanced Portfolio which consists of these:
1) big-cap stocks
2) small-cap stocks
3) emerging mkt stocks........
4) govt bonds
5) corporate bonds.......

Let's understand that financial crises happen at different levels. What you mentioned is the worst case one, which does not occur so often. But even if it occurs, the regulators are likely to step in to make a decision that is fair all all sides.

During a crisis like the above, the regulators of insurance may take over the insurers and reinsurers temporarily or they may make some new rules, etc. But for most other private companies, the regulators would just allow the directors to do the insolvency paperwork if they want. With the Diversified Annuities Portfolio, the additional benefit is that our portfolio is protected with an additional layer of regulators' protection from Swiss, Singaporean, etc regulators. I'd heard that, in Switzerland, not a single insurer had failed to meet its obligations for 150 years (that's longer than any living human being's lifespan)!

[cute fuzzy bunny]

I hope you guys are cutting and pasting this stuff and not typing it all out by hand...

[Nords]

Originally Posted by cute fuzzy bunny

I hope you guys are cutting and pasting this stuff and not typing it all out by hand...

I was just thinking that we're gonna have to bring back the 5000-word limit to posts.

Wasn't it Peter Lynch who said that you should be able to explain a concept in posts of less than 1000 words on the back of a napkin-- otherwise it's not worth risking your money?

[cute fuzzy bunny]

So I guess the penultimate investment would be in napkins?

"There...thats it!"

[Want2retire]

Originally Posted by Independent