Timothy C. Pfeifer, FSA, MAAA Pfeifer Advisory LLC May 5, 2015 Session 21-Annuity Hot Topics

Interest Rates and Shape of Yield Curve Equity Market Performance Penetration of Annuity Alternatives (e.g., MLCDs) Risk Appetite of Insurance Companies Continued Favorable Tax Treatment of Annuities Product Design Regulation New Markets Investments Financial Considerations 2 Key Industry Components Covered Outcome Will Depend on Evolution of the Following:

Indexed annuities will increase their dominant position in the individual U.S. annuity marketplace. #1#1 3 Future Annuity Developments Over the Next Five Years Sales doubled over the ten-year period despite a weak interest rate environment ($47 billion in 2014) Product will approach variable annuity new sales levels over the next five years, regardless of interest rate/equity market movements Why? -More competitive products -Not a security -Expanded distribution (banks, B/D) -New carrier entrants -Less accounting volatility -Consumer appeal of participation with floor

New Indexes will include: Short Indexes Seasonality Total Return Multipliers New Indexes will include: Short Indexes Seasonality Total Return Multipliers Lower commissions Simple designs Weariness with market volatility Independent Agents still lead sales Lower commissions Simple designs Weariness with market volatility Independent Agents still lead sales Especially if interest rates rise Concentration in vanilla indices, with intriguing calculation mechanics More uncapped-participation rate emphasis Especially if interest rates rise Concentration in vanilla indices, with intriguing calculation mechanics More uncapped-participation rate emphasis Product Expansion Into: SPIAs DIAs Qualified Markets Product Expansion Into: SPIAs DIAs Qualified Markets Distribution will Shift Further to Banks and B/Ds More Emphasis on Accumulation, less on GLWBs Future Directions of FIAs Indexed annuities will increase their dominant position in the individual U.S. annuity marketplace. 4 Future Annuity Developments Over the Next Five Years #1#1

Insurers will continue to stretch their investment dollar to find ways to improve yields. #2#2 5 Future Annuity Developments Over the Next Five Years Traditional A and AA Corporate Bond Investments No Longer Provide Sufficient “Fuel” Portfolios Have Veered to A/BBB Reaction Tight, Theoretical Duration and/or Cashflow Matching on a Seriatim Basis May Also Constrict Returns More Barbelled Portfolios, Vis-à-vis Maturity Reaction Desire for Strong Liquidity May Limit Additional Returns Growth in Private Placements Reaction

Insurers will continue to stretch their investment dollar to find ways to improve yields. #2#2 6 Future Annuity Developments Over the Next Five Years Interest in Non-Traditional Investments Pursuit or Creation of Structured Assets with Advantageous Yield Alpha Reaction Use of Outside Asset Management Firms Engage Firms With Specific Knowledge (e.g., Emerging Market Debt or Real Estate) Reaction Intense Focus on Capital Consumption SVO Ratings are Key – Equities Still Face 30% Capital Burden Reaction

Deferred Income Annuities will continue to show the highest percentage growth rate for U.S. annuities for much of the next five years. #3#3 7 Future Annuity Developments Over the Next Five Years CAGR 374%117%21%132% Growth Rate of DIAs (Annual) Facts About DIAs Current Sales Market Share: #1 New York Life = 42% — #1-3 = 80% In 2014, at least ten life insurers sold over $25 million Captive Agents represented 64% of sales, but B/Ds represented 28% Successful DIA carriers also sell SPIAs successfully

Only 5 of the Top 15 annuity writers have launched a DIA Insurers favor longevity risk with limited liability liquidity Rising rates, steepening yield curve benefit DIA pricing More creativity in design, including liquidity and tie-ins with other products Opens some new doors to DIA sales Deferred Income Annuities will continue to show the highest percentage growth rate for U.S. annuities for much of the next five years. #3#3 8 Future Annuity Developments Over the Next Five Years NEW ENTRANTS FAVORABLE RISK PROFILE INTEREST RATES PRODUCT INNOVATION QLAC Ruling Reasons for Future Growth of DIAs

The definition of QLACs (Qualifying Longevity Annuity Contracts) will expand. #4#4 9 Future Annuity Developments Over the Next Five Years Tax-qualified deferred income annuity Premium amount cannot exceed the lesser of $125,000 or 25% of the purchaser’s pre-tax retirement savings Death Benefit during deferral period cannot exceed a return of premium and must be paid in a lump sum Income Start Date cannot exceed age 85 Cannot be a variable or indexed contract, but cost-of-living adjustments and dividend-paying designs are acceptable No commutation benefit or cash value Current QLAC Definition/Treatment

The definition of QLACs (Qualifying Longevity Annuity Contracts) will expand. #4#4 10 Future Annuity Developments Over the Next Five Years Raising the maximum premium and percentage of savings Permitting limited commutation – up to six months of income Indexed DIA can be incorporated, provided the indexing is only reflected during the deferral period, and not indexing during the benefit period Death benefits can be paid out over a period not in excess of five years Possible Future Movements in QLACs

Selected VA Leaders Have Left Market The Variable Annuity market has steadily transformed since 2008, signaling more changes for the next five years. #5#5 11 Future Annuity Developments Over the Next Five Years Sales Have Dropped Since 2011, Peaked in 2007 General De-Risking, With Bouts of Re-Risking; No Company Has Sustained Appetite Rise of Investment-Oriented VAs Stickier Business, Reducing 1035 Opportunities

The Variable Annuity market has steadily transformed since 2008, signaling more changes for the next five years. #5#5 12 Future Annuity Developments Over the Next Five Years VA sales have lost their connection with the stock market What’s Next? “Organic” sales must replace 1035s, and indications are that sales will fade in next five years So-called IOVAs will gain share, but doubts about ability to outperform indexes consistently (after-fees) will limit VA recovery – tax deferral will sustain sales Structured annuities will grow to 15% of VA sales, then plateau GLWBs will decline in overall prominence, but will still appear on 50-60% of VA sales

Ownership of annuity carriers by Private Equity Investors has re-shaped the landscape. #6#6 13 Future Annuity Developments Over the Next Five Years PE Ownership Concentrated in Fixed Annuity Insurers Investment Expertise and Creativity Favorable Tax Structures Possibly Lower Profit Hurdles Acquisition Capabilities to Build Scale Competitive Propositions

Ownership of annuity carriers by Private Equity Investors has re-shaped the landscape. #6#6 14 Future Annuity Developments Over the Next Five Years Probability of One or More Private Equity Owners Divesting of Insurers Very High Competitors Will Emulate Parts of Private Equity Strategy (e.g., use of captives) At Least One of the Larger Private Equity Firms Will Stay in the Annuity Market, Looking to Expand If Interest Rates Rise, New Private Equity Players Will Look for a Niche in Which to Succeed Private Equity Themes Over Next Five Years Private Equity Themes Over Next Five Years

Guaranteed Living Benefit Generosity Annuity carriers must be increasingly connected to the performance of their inforce business #7#7 15 Future Annuity Developments Over the Next Five Years Important Drivers Is Persistency a Good Thing? Imperative to Have Knowledge of Policyholder Behavior High Lifetime Credited Rate Guarantees Declining Net Portfolio Yields But Fear of Interest Rate Pops

Annuity carriers must be increasingly connected to the performance of their inforce business #7#7 16 Future Annuity Developments Over the Next Five Years Expected Inforce Strategies Careful Management of MVAs Strategies for Inforce Fixed With Interest Guarantees > 3% Limit Subsequent Premiums Fixed Annuities Elimination of Subaccounts Price Increases Premium Limitations Buybacks and Re-offers VA Guarantees Elective Behavior for Withdrawals Mortality/Surrenders Premium Payments Improvement in Experience Studies

Contingent Deferred Annuities (CDAs) or Stand Alone Living Benefits (SALBs) will gain steady traction #8#8 Essentially GLWBs providing income guarantees on withdrawals from non- annuities Covered assets not owned by life insurer Covered assets typically indexes or passively managed Appealing to investment advisors who sell little, if any, annuities NAIC activities have proceeded slowly, creating some regulatory uncertainty Cultural change for advisers to consider an insured component on a non-annuity Low interest rates increase hedge costs Infrastructure/IT needs What Are They? Why Has Sales Growth Lagged? 17 Future Annuity Developments Over the Next Five Years

Expansion of Supply, as Covered Assets are Hedgeable/Manag eable Strong Fit in 401(k) Plans, RIA, Large Asset Manager World Market Volatility and Demographics Stir Demand Contingent Deferred Annuities (CDAs) or Stand Alone Living Benefits (SALBs) will gain steady traction #8#8 Regulatory Guidance Will Largely be Completed, Generally Favorably What Does the Future Portend for CDAs? 18 Future Annuity Developments Over the Next Five Years

Only One Carrier Has Generated Solid LTC/Annuity Combo Sales Difficulty in Attaching to Variable Annuities Most Prevalent Benefit is Waiver of Surrender Charge or GLWB Doubler/Tripler Dominance of Life Combos Low Interest Rates Pinch Ability to Integrate Pension Protection Act gives Favorable Treatment to Long Term Care/Annuity Combos Combination contracts will begin to emerge as a component of annuities. #9#9 19 Future Annuity Developments Over the Next Five Years What Has Been the Recent Landscape?

Inclusion of LTC, Chronic Illness, and Critical Illness Features on Annuities Base Contracts Will Include DRFAs, SPIAs, and DIAs Variable Annuity Linkages Will be Harder to Execute Inclusion of LTC, Chronic Illness, and Critical Illness Features on Annuities Base Contracts Will Include DRFAs, SPIAs, and DIAs Variable Annuity Linkages Will be Harder to Execute Combination contracts will begin to emerge as a component of annuities. #9#9 20 Future Annuity Developments Over the Next Five Years The Next Five Years Will Bring: Very Favorable Demographics and Pricing Synergies Designs Will Push the Contours of State Regulation

Reinsurers will play a bigger role in the annuity market # Future Annuity Developments Over the Next Five Years Role of Reinsurers Today? Life Insurance Mostly, But Market is Changing, Shrinking Growing Interest in Longevity Reinsurance Amongst Reinsurers, But Thin Market Annuity Exposure is Mostly GLWB (spotty) Captive Reinsurers Play Role in VA Accounting Issues, Tax Leverage

Reinsurers will play a bigger role in the annuity market # Future Annuity Developments Over the Next Five Years Reinsurers Re-visit the VA GLB, CDA Market Packaged Transactions Involving Both Life and Annuities Wider Spread Usage of Offshore Captives For Tax, Accounting Volatility Reasons Still Little Participation in Longevity Risk Future Role of Reinsurers

Timothy C. Pfeifer, FSA, MAAA