Session 112 PD, Uses of Reinsurance for Deferred Annuities. Moderator: Richard J. Tucker, FSA, MAAA

Transcription

1 Session 112 PD, Uses of Reinsurance for Deferred Annuities Moderator: Richard J. Tucker, FSA, MAAA Presenters: Michael L. Kaster, FSA, MAAA Lawrence A. Seller, FSA, MAAA Katrina E. Spillane, FSA, MAAA

2 Uses of Reinsurance for Deferred Annuities SOA 2015 Annual Meeting Session 112 1

3 Status of Reserving for Fixed and Indexed Annuities with GLIB s Larry Seller, FSA, MAAA Larry Seller Actuarial Consulting, LLC 2

4 Agenda Background on non-va s with guarantees CARVM requirements and example of how guarantees can impact reserves Possible reserve alternatives Overview of Representative Scenarios Method Reinsurance 3 Larry Seller Actuarial Consulting, LLC 3

5 Background Background VA guarantees offered since the 80 s more recent development on non-va s Low interest rates added to motivation to gain a competitive edge through guarantees Guaranteed Lifetime Income Benefit (GLIB or GLWB) has been most prominent GMDB s also being offered for example: Pay more than 100% of AV Pay the GLIB income base over a period of time More common on Indexed Annuities EIA s now offering equity funds adds to reserve complexity Larry Seller Actuarial Consulting, LLC 4 4

6 CARVM Requirement Need to consider all possible integrated benefit streams Surrender, recognizing SNFL Partial withdrawal Nursing home/sc waiver & LTC benefits o LTC benefits becoming generous, e.g., 3 x possible IB amount Income Benefit Death Benefit Combinations Complicated, but 100%/0% usually governs Can produce anomalous results that are very punitive! Larry Seller Actuarial Consulting, LLC 5

7 Example GLIB has x% roll-up for shorter of 20 years or age 75 GMDB pays the GLIB income base over n years CARVM produces reserve strain of approximately 140% because worst path assumes: No surrenders, not even when SC expires No partial withdrawals, even if RMD necessary No Nursing Home/SC waiver of LTC benefits No annuitizations Zero utilization of income benefit but 100% utilization of GMDB feature Larry Seller Actuarial Consulting, LLC 6

8 Alternatives Scale back benefits Balance risk by limiting sales Use alternative reserve methodology several companies have received permission from their state to use an AG43-type method until VM22 completed VM 22 cousin to AG43/VM21 (on hold) A streamlined PBR method called the Representative Scenarios Method (RSM) is being worked on by ARWG Other AG33 modernization initiatives being discussed by VM22 workgroup Reinsurance market is developing Larry Seller Actuarial Consulting, LLC 7

9 Overview of RSM Many view AG43/PBA as too difficult/costly to calculate and audit RSM is a multi-risk calculation that would utilize the company s CFT model and (hopefully) far fewer scenarios than AG43, in conjunction with 3 Floor Reserves (FR) Identify all Key Risk Drivers (KRD), not just C3 risk For each KRD identify a Current (best) Estimate (CE) Assumption e.g., surrender, defaults, longevity Develop a probability distribution for each KRD Utilize the CE and assumptions that are +/- x, y standard deviations from the median of the distribution e.g., x and y could be 1 and 3 For each KRD, run all scenarios through model to find breakeven reserve Weight the results to produce a KRD amount Weight all KRD amounts together to produce the Current Estimate Reserve (CER) Larry Seller Actuarial Consulting, LLC 8

10 Overview of of RSM (continued) Aggregate Margin on top of CER produces the Modeled Reserve Individual margins seen as redundant since too difficult to incorporate appropriate correlations Current preference is to determine aggregate margin using Cost of Capital method (other possibility is the Percentile method) Calculate 3 FR s FR1 = CARVM ignoring GLIB, prescribed lapse rate are a possibility FR2 = PV of GLIB benefits using a prescribed utilization function FR3 = CSV FR max(fr1, FR2, FR3) Could be basis for tax reserve Goal: Modeled Reserve dominates most of the time - improvement vs. AG43 9 Larry Seller Actuarial Consulting, LLC 9

11 Overview of of RSM (continued) Challenges Identifying appropriate # scenarios, hopefully much < 1000 Developing distributions Applicable guardrails on assumptions Field test (Phase 1 completed for non-va s) VERY EARLY and lots of work to be done - hope to apply to all product types VA and term insurance also being tested Larry Seller Actuarial Consulting, LLC 10

12 Developing Assumptions & Distributions Key issue is how regulators can keep control over the assumption setting process while, at the same time: Enabling observed experience to be used Recognizing that every company is unique Statistical Agent being developed to compile a database with companies reported experience. Current thinking: Some companies would use that experience directly Those with credible experience can make case to modify, with approval Likely to be guardrails Regulators will set up a new PBR Valuation Analysis Work Group Focus will be on supporting state efforts to review and analyze PBA submissions Larry Seller Actuarial Consulting, LLC 11

13 Redundant Reserve Reinsurance Application would be similar to reinsurance of redundant reserve on ULSG Company holds an Economic Reserve CARVM reserve in excess of Economic Reserve is ceded to a reinsurer Larry Seller Actuarial Consulting, LLC 12

14 Uses of Reinsurance for Deferred Annuities SOA 2015 Annual Meeting Session 112 Rich Tucker, FSA 1

15 Annuity Redundant Reserve Relief When life gives you lemons, make lemonade Wikipedia: Proverbial phrase used to encourage optimism and a can-do attitude in the face of adversity or misfortune. Charlie Sheen of Two and a Half Men: "The difference between you and me is, when life gives me lemons, I make lemonade. When you get lemons, you just bite into them and suck them inside out." 2

16 Cause of Redundant Reserve U.S. Stat requires all possible policyholder paths to be examined Value set at path with largest reserve Policyholder behavior chosen at most conservative level, which often means 100% utilization of a benefit Historical experience cannot be used 3

17 Free Partial Withdrawal 10% of AV can be withdrawn each year without assessing surrender charge Reserve calculation assumes 100% utilization Redundancy estimate Block with SC averaging 7% in first 5 durations Redundancy is 70% of lost surrender charges $1B AV in each of durations 1-5 ($5B total) Redundancy = $25M = 10% Free PW x 7% SC lost x 70% efficiency x $5B 4

18 Indexed Annuity Guaranteed Income Benefits Can produce significantly larger redundancy Benefit base is rolling up at a higher % than what is expected to be credited to AV Accumulates over time Greatest of all future paths includes 100% efficient utilization of guaranteed income benefit Actual reserve amounts vary by design 5

19 Reinsurance Design Targeted risk is transferred to reinsurer YRT is simplest High initial premium, with experience refund Stat reserve credit is paramount, so consult with local regulator Reinsurer s retained fee commonly expressed as % of reserve credit 6

20 REINSURANCE OF DEFERRED ANNUITY PRODUCTS Michael Kaster, FSA, MAAA Head of Life Solutions Willis Re October 13, 2015

21 Outline Types of products - Risks Reinsurance of Fixed annuity products Dynamics of ceding companies and reinsurers Types of Annuity Reinsurance structures Challenges and considerations with reinsurance FIA and VA Reinsurance Key differences 2

22 REINSURANCE OF RISKS 3

23 What do we mean Asset Intensive? When we talk about Asset Intensive products, we mean those products which, from a risk profile to the insurance company, are affected by a set of assets or investments on the company s balance sheet. Annuity reinsurance is really the ultimate form of Asset Intensive reinsurance, i.e. reinsurance of liabilities that are heavily weighted on asset/interest rate risk. Forms of reinsurance can be developed on the Asset Only component of these types of liabilities; ISWL Universal Life Payout Annuities Indexed Annuities Structured Settlements Disabled Life Reserves Whole Life Long Term Care

24 Types of Risks Individual Insurance Mortality / Morbidity Longevity Interest Rates Policyholder Behavior (lapse, withdrawals, etc) Equity Markets 5

25 Various Risks considered in Reinsurance of individual products Risks Individual annuities Product Description Sub-products Immediate / Payout Annuities Fixed Deferred Annuities Variable Annuities Earn a fixed rate for the life of the contracts Earn a fixed rate for a period followed by a floating rate set by the insurer Premiums are invested in separate account funds earning a floating rate Single-premium immediate annuity Structured settlement Fixed annuities Fixed indexed annuities Living benefit VA Death benefit VA GAAP standard Interest rate Equity Mortality/ Longevity FAS 60 Lapse / Other FAS 97 FAS 133/ SOP 03-1 Term Life Provide a death benefit over a specified benefit period with no cash value FAS 60 Individual life Traditional Whole Life Provide life insurance with cash value Whole life 20 Pay Life Final Expense FAS 60 Universal Life Flexiible premiums, accumulated account value, life insurance protection NLG-UL (term alternative) Accumulation Indexed UL FAS 97 Individual Health Long-term Care (LTC) Provide benefits based on need for longterm care FAS 60 Significant risk exposure Moderate risk exposure Some risk exposure 6

26 FIXED ANNUITY PRODUCTS MARKET DRIVERS OF AND RATIONALE FOR ANNUITY REINSURANCE 7

27 Market drivers of fixed annuity reinsurance Despite higher sales, low interest rate environment continues to pressure fixed annuity writers Spread compression on general account assets Pressure on credited interest rates and profit margins Reluctance of companies to invest capital (Surplus Strain) Results demand for fixed annuity reinsurance is strong 8

28 Reasons for reinsuring annuities Reasons Description Downstream Impact(s) De-risk balance sheet Capital base Diversification Investment experience No appetite for on-going management of non-core business Release of EV within closed blocks High concentration of risks Annuity reinsurers consider investment management one of core strengths Focus on growing core business More readily support and grow new business Diversify risks to protect balance sheet, in particular during adverse environments Share in expertise 9

29 Risks transferred in Annuity Reinsurance Risks transferred Disintermediation Lapse Credit Quality Reinvestment Mortality & Morbidity Mitigation strategies by reinsurers Managed through rate negotiation Managed through rate negotiation Reinsurer typically manages investments Reinsurer typically manages investments Generally secondary risks and of less concern In other words, 100% risk transfer is typical of these arrangements. 10

30 DYNAMICS OF CEDING COMPANIES AND REINSURERS 11

31 Characteristics of reinsurers Established, highly rated, well capitalized Generally, most have pulled back from capital driven reinsurance, and though this is starting to come back a bit Newer, annuity focused reinsurance entities Growing Bring Investment expertise Off-shore vs. On-shore Unauthorized vs. Authorized Various stages of capital raising efforts 12

32 Reinsurance market segments to consider AM Best rated NAIC Reinsurers: US Statutory accounting and US tax/less flexible investment strategy AM Best rated non-naic Reinsurers: GAAP accounting, non-naic regulations, non-us tax, collateral structure / moderately flexible investment strategy Unrated Reinsurers: GAAP accounting, non-naic regulations, non-us tax, collateral structure / flexible investment strategy 13

33 Ceding company considerations when choosing a Reinsurer Credit Rating of reinsurer Experience in market Investment expertise Pricing / Competitiveness Regulatory concerns Rating agency reactions Reinsurance structure proposed Partnership Approach 14

34 Considerations choosing a reinsurance partner 1. Pricing assumptions Annual full surrender ( lapse ) rate assumptions (assuming current low interest environment remains during projection period): Review of experience of company Benchmark to competitor rates High lapse at end of SC period Investment yield (per investment guidelines) Expenses (for administration typically paid to ceding company) Commissions are an expense on new sales - shared Taxes, cost of capital, etc. all different by reinsurer 15

35 Considerations choosing a reinsurance partner (cont d) 2. Viewing all of the economic factors in a block transaction: Ceding allowance is only one consideration Reinsurers have been offering negative ceding allowances on blocks of fixed annuities with relatively high minimum interest rate guarantees Liquidation of assets to provide a cash transfer to the reinsurer often results in releasing unrealized gains that can be used to offset the negative allowance Liquidating assets to fund a 100% coinsurance transaction may also release a portion of the Interest Maintenance Reserves 16

36 TYPES OF ANNUITY REINSURANCE STRUCTURES 17

37 Forms of Annuity Reinsurance Coinsurance Reinsurer assumes risk for portion of asset performance, disintermediation, expense and persistency In force vs. new business Ceded premium is either defined as a quota share of the annuity deposits (new business) or a quote share of the reserves (enforce) Does not require a separate investment management agreement Acceptable investment guidelines are defined in treaty. 18

38 Forms of Annuity Reinsurance ModCo and Coins funds withheld Assets remain on ceding company s balance sheet, liabilities will depend on structure Usually put into a trust or separate account, to the benefit of the reinsurer Maintains more control over assets still on balance sheet Viewed as less risky Requires separate investment management agreement between two parties Assets are maintained at Book Value 19

39 Unauthorized Reinsurer Trust requirement Reserve Credit Trust To obtain reserve credit, a market value trust is established Assets held in trust are marked to market at all times Fluctuations in market conditions that impact asset value are responsibility of reinsurer Investment guidelines are agreed to for trust assets 20

40 CHALLENGES AND CONSIDERATIONS WITH REINSURANCE OF ANNUITIES 21

41 Other issues in negotiations Quota share how do you manage different profit objectives and investment approaches? Example 60/40, with reinsurer assuming 5% yield and cedant assuming 3.5%. If both have same profit objective, will need to discuss an on-going allowance from reinsurer to cedant to off-set the lower return target. Investment Guidelines Credit quality of Reinsurer Over collateralized structures, with assets/loc equal to x% of reserves pledged as security. 22

42 Treaty issues Ongoing management Reinsurer does NOT have authority to determine non-guaranteed interest rates; must work in cooperation with the reinsurer. seek consent, not to be unreasonably withheld Agreement will specify process to be followed. Should ideally address cure and compromise approach. 23

43 REINSURANCE OF OTHER ANNUITY PRODUCTS o INDEXED ANNUITIES o VARIABLE ANNUITIES 24

44 Is VA or FIA Reinsurance different than Fixed Annuities? Differences: Investment Risk Guaranteed Benefits Similarities: Reinsurance challenges Full risk transfer Counterparty concerns Reserve and capital credit Reinsurance structures not straight forward 25

45 Indexed Annuity Reinsurance Key issues / challenges Still need to manage the fixed interest rate aspects, very similar to fixed annuity reinsurance. IN ADDITION need to have hedging capabilities or appetite for the indexing strategy New developments GLWB riders more popular Not every reinsure is open to this, but most are, and will work with cedants Viewed as a less risky rider than VA GLWB 26

46 Indexed Annuity Reinsurance Counterparties/reinsures Similar to the Fixed Annuity players, with just a few differences. 27

47 Indexed Annuity Reinsurance Product Development Changing market Indexed annuities are growing in 2015 Many companies are considering alternatives for their distribution, but they either don t 1. Have the expertise for indexed products, or 2. Don t want any kind of derivative on their balance sheet Possible solutions? Partner with an Annuity Reinsurer to co-develop a product 28

48 VA Reinsurance Key issues / challenges Very different no investment risk transferred, per se Separate account assets must be maintained by ceding company Living Benefits are they reinsurable?? And at what cost Big question can full risk transfer be achieved And can it be done at a cost similar to the rider fee??? 29

49 Segments of the VA reinsurance market are no longer dormant (1/2) Historical supply of VA reinsurance market 1 Time range Supply Description Major products Complexity of reinsurance s Present GMDB reinsurance was commonplace (CIGNA was one of original GMDB reinsurers) VA reinsurance dried up with dot com recession, as reinsurance premiums increased drastically Reinsurers entered market as equity markets were rising and interest rates remained at relatively high levels Reinsurance market creased to exist during global financial crisis Reinsurance market growing slowly post financial crisis More companies considering VA reinsurance Banks and newer reinsurers have expressed interest in both capital market risks and actuarial risks in VAs Living benefit rider reinsurance has increased the complexity of transactions GMDB GMDB, GMIB GMIB, GLWB GMIB, GLWB GMDB, GMIB, GLWB GMDB, GMIB, GLWB 1. Fitch 30

50 VA GLWB Reinsurers who are they?? Investment banks feel this is a risk they know well Must be very comfortable managing the market risk associated with the living benefit Generally are open to some aspect of P/H behavior risk and/or longevity risk But this risk appetite varies considerably Separate reinsurance entity?? Some yes, some no Traditional Reinsurers Generally more comfortable with Actuarial risks Starting to consider options in this market 31

51 Principles of VA reinsurance 1 2 Principles Appetite for VA reinsurance is not homogeneous across markets Segments of the VA reinsurance market are no longer dormant Description Appetite for reinsurance of new business / in-force products varies across markets Appetite for VA products (GMDB, GMIB, GLWB, hybrid products) varies across markets Markets display heterogeneous appetite for reinsuring certain risks (e.g., actuarial, lapse, longevity, market, credit, etc.) Cedents have recently been trying to reinsure the living benefit rider of new business, making VA portfolios closer to an asset management business, via collection of revenue sharing fees In-force / block reinsurance is still an active market, driven by new market entrants and increasing equity levels 3 Rationale for reinsurance Mitigate balance sheet fluctuations as asset values change by transferring underlying risks of policies (not policies themselves) from ceding company s balance sheet to reinsurer's balance sheet Presence of base contract makes reinsuring VA policy more palatable Separate account reserve and asset treatment Cost of reinsurance varies considerably The base contract is the most profitable part of the VA contract, leading most reinsurers to demand the base contract M&E fees as part of reinsurance transaction Non-NAIC regulated entities require reinsurer to post statutory reserves on funds withheld or coinsurance basis with high quality assets held in a trust Separate accounts reserves are reinsured on modified coinsurance basis (policies retained on cedent balance sheet but statutory requirements transferred to reinsurer) Separate account assets are never reinsured Pricing of reinsurance varies across reinsurers (e.g., reinsurance transactions can be structured with one-time ceding commission or periodic reinsurance premiums) Whether tail protection is provided Richness of product, product vintage and net amount at risk are primary drivers of reinsurance premiums 32

52 QUESTIONS????

53 Contact information Mike Kaster, FSA, MAAA, MBA Executive Vice President Life Solutions Group (E): (T): Willis Re Brookfield Place 200 Liberty Street New York, NY

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55 Uses of Reinsurance for Deferred Annuities YRT Reinsurance on GMDB riders Katrina Spillane AVP, Pricing 1

56 History Simple Riders Products became richer Very rich products are offered Dot com crash Reinsurers participated in all risks Reinsurers still participated in all risks 2

57 History Product designs are still very rich Products are redesigned to reduce risk 08/ 09 crash Reinsurers reevaluate their GMDB appetite Reinsurers leave GMDB market - hedging takes off Some Reinsurers return to the market 3

58 Mortality Cover on GMDB Riders One way that Reinsurers have been able to return to the GMDB market is through reinsuring the mortality risk associated with the GMDB rider Very similar to traditional yearly renewable term reinsurance on life products In return for a premium, the Reinsurer pays the death claims associated with the GMDB rider 4

59 Net Amount At Risk The Net Amount At Risk ( NAAR ) is defined as the excess, if positive, of the GMDB over the account value The Reinsurer s exposure Metric upon which Reinsurance Premiums are calculated Cedant and Reinsurer need to agree upon timing of the calculations Beginning of the period Mid period End of the period Other agreed upon timing Upon death of a policyholder, NAAR is typically calculated as of the date of death 5

60 Timing of Calculations The timing of the calculations affects the reinsurance premiums paid due to the performance of the stock market Historically the stock market has increased during the month more often than it has decreased 6

61 Historical S&P 500 Index Year Number of Months Up Number of Months Down Through 8/ Total

62 Reinsurance Premiums The Reinsurance Premium Rate charged by the Reinsurer is a yearly renewable term rate Most of this rate is composed of the Reinsurer s mortality assumption, along with a portion that covers capital and profit Is applied to the NAAR to calculate the Reinsurance Premium May be guaranteed for a period of time 8

63 Mortality Assumptions The Reinsurer s key driver of the Reinsurance Premium Rate is their mortality assumption Actual mortality is likely to fall somewhere between population mortality and insured mortality If Cedant has actual experience, the Reinsurer can use that to develop its mortality assumptions Otherwise, the Reinsurer will make an assumption based upon available industry data 9

64 Reporting 1) Level of Reporting Seriatim basis Reinsurer will require confirmation of a claim (i.e. death certificate) 2) Timing of Reporting Reporting can be done on a monthly or quarterly basis Preference to be on a monthly basis as this limits exposure 10

65 Retrocessionaires This is a traditional mortality cover, therefore it is likely that a Reinsurer may encounter a situation in which it is reinsuring an individual on both a life insurance policy and a GMDB rider There is no retrocessionaire market for YRT reinsurance on GMDB riders Any lives that are greater than the Reinsurer s retention, a Reinsurer will need to decide whether to decline the life or accept it and live with the fact that it is over-retained on that individual 11

66 Hedging YRT Reinsurance on the GMDB rider is an excellent fit with the existing hedging strategy Without any type of reinsurance, hedging strategies must hedge against the volatility in the market and death benefits Typically the hedging strategy assumes an expected level of death benefits With YRT Reinsurance on the GMDB rider, hedging strategies only need to hedge against volatility in the market Volatility associated with the death benefits is removed for a fixed cost 12

67 Type of Blocks YRT Reinsurance on GMDB products works best on inforce blocks with a few years of experience so that the Reinsurer can use the actual experience of the block to set its mortality assumptions 13

68 Data Requirements Information required by the Reinsurer includes: Information on all of the GMDB options Funds that the policyholder can invest in Demographic information Marketing information Policy Forms Illustrations Seriatim Data Historical Lapse Information on a Seriatim Basis Historical Death Information on a Seriatim Basis 14

69 Example Policyholder A B C Age Sex M F M Monthly Reinsurance Premium Rate AV 0 500, , ,000 GMDB 0 1,000, ,000 1,000,000 NAAR 0 500, ,000 Reinsurance Premium ,000 AV 1 503, , ,987 GMDB 1 1,000, ,000 1,000,000 NAAR 1 496, ,013 Reinsurance Premium ,976 AV Death 505,000 GMDB Death 1,000,000 NAAR Death 495,000 Death Benefit 495,000 15

70 Recap YRT Reinsurance on GMDB Riders is a powerful tool: It removes mortality volatility from the variable annuity It allows the Ceding Company to better hedge its product It is a simple design It has Reinsurance Premium Rates that can be guaranteed for more than 1 year 16