In 1999, when the record-breaking bull market still seemed imperishable, St. Louis-based financial advisor Jerry Adzima went with a colleague on a sales call. The colleaguewell call him Kevin Smithwas a solid professional who conducted annual high-touch reviews, helping his clients revisit and stay true to their risk profiles.
The client Smith and Adzima visited that day was a senior citizen who was living off her pension and investment income. Betty, a moderately conservative investor, had called Smith and told him they ought to get together and review her portfolio. Adzima, a specialist in variable annuities (VAs), had gone along to explain a new VA product that Smith thought might work well in Bettys investment plan.
Kevin, I just have to tell you up-front, Betty said after the three took seats at her kitchen table, Im a little disappointed with the return on my portfolio.
The statement surprised Smith, since Bettys portfolio had performed at a solid 11 percent to 12 percent for years. But he listened as his client continued.
Ive been playing cards with the girls down at the club, Betty explained. Theyre all earning between 20 percent and 25 percent on their investments. Now, Im not as crazy as some of those girls, but I think I should be getting a nice, safe, conservative 15 percent per year.
Adzima, who had been sitting with his hands in his lap, remembers what happened next. When she said that, Kevin and I looked at each other. I put my hand up on the table, put it over my business card, slid it off the table and put it back in my pocket. Adzima didnt want a client who thought 15 percent was a nice, safe, conservative return to remember his name when the market went south.
Most advisors think they show how much they know if they can explain complicated issues. But the really good people keep it simple.
The next year, the market did go south. But Betty wasnt alone in her thinking. The skewed reality of the latest bull market has left lingering problems for advisors selling equities-driven products including VAs. As buyers flee equities, VA product complexity is increasing, as is buyers demand for information. Meanwhile, retirement savings plans have become increasingly portable, and VA buyers tend to do most of the porting, according to recent research. Finally, a tendency toward prosaic thinking about VAs has caused advisors to pigeonhole themand thus fail to realize their full production potential.
Five successful advisors share six ways to leverage the value of VAs for your clients and your practice.
Educate the consumer. In terms of dollars, the annuity market is huge, contributing over $190 billion in direct premiums and deposits in 2000, according to a study released this year by Hartford, Conn.-based Conning & Company. But while VA sales once soared past other types of annuities, capturing more than 72 percent of premiums, fixed annuity sales have surged since Wall Street began crumbling in 2000. Today, the percentage of households owning VAs remains virtually stagnant, hovering at a meager 6 percent.
The skewed reality of the latest bull market has left lingering problems for advisors selling equities-driven products including VAs.
That may be due to lack of consumer knowledge. Nationwide Financial does an annual study of high-income people (defined as those earning at least $150,000 annually). While its true that high-income earners may be more financially savvy than those occupying lower income strata, the study showed that producers shouldnt assume that these high-income clients already understand how VAs work. Theres a lot of education advisors could do in the areas of surrender charges, fees, active fund management, tax advantages and riders such as guaranteed death benefits, explains Michael Butler, vice president at Nationwide Financial. Whats interesting is that high-income people really do know that retirement planning is their No. 1 financial need. But, on the other hand, they know very little about individual products.
Butlers observations mesh with Connings findings that VA buyers now demand more information from insurers before committing to buy. The study indicates that advisors selling VAs should familiarize themselves with specific sources of information that buyers know and trust. For example, when they are gathering prepurchase data, they typically turn to friends or relatives. The study suggests that insurers reach out to friends and relatives of current annuity holders.
Can advisors replicate that wisdom? Probably. Households at the income and asset levels of current VA buyers are not widely dispersed, and even cluster in certain towns and neighborhoods, such as retirement communities. The Conning study notes, Targeted mailers, newspaper inserts or other creative marketing programs can be more successful and cost effective than might initially be assumed.
Take a more comprehensive view of where VAs might fit. Readers might assume that taking a comprehensive look at where VAs might fit into a clients portfolio is standard due diligence. But then there is the case of the 80-year-old San Diego woman whose advisor stuffed $800,000most of the clients life savingsinto a fixed annuity that didnt begin paying out until the client reached age 95. While thats simple malpractice, it may also represent one end of a scale where there are shades of gray: When it comes to considering VAs, does every advisor really take a big-picture look at clients retirement plans?
Maybe not, says Butler: Independent advisors are so unique. Some are very sophisticated, offer the latest and greatest analytical tools and take a very comprehensive view. Others are more piecemeal. A client says, Heres 20,000 bucks, and the advisor says, Great, lets get you into the market. Id like to see producers sit down and take a more comprehensive view: Lets see what you want this money to do for you.
Advisors selling VAs should familiarize themselves with specific sources of information that buyers know and trust.
VAs, in fact, may do more for some market-minded clients than other equity instruments. A PricewaterhouseCoopers (PwC) study, prepared for the National Association for Variable Annuities (NAVA) and published this year, showed that VAs may outperform mutual funds over the long haul. The study extended the PwC research conducted in 2000, which compared VAs and mutual funds as retirement planning vehicles. While the 2000 study focused on quantifying the benefits of tax-deferred accumulation, the 2002 report uses the VA model to compare, on an after-tax basis, lifetime annuity income with maximum mutual fund distributions consistent with a 5 percent risk of outliving assets.
Researchers found that, for equal investments in a VA contract and a mutual fund with comparable distributions, VAs were the winner every time. For example, per $1,000 investment in an average VA made at age 55, the VA model calculates that a male investor would receive $164 in after-tax income per year beginning at age 65. This is based on a life annuity distribution with a 10-year guarantee. If the same $1,000 were invested in an average mutual fund (with the same gross return as the VA), the investors after-tax withdrawals maxed out at less than 70 percent of the VA distributionwhen calculated to ensure that the client had a less than 5 percent chance of outliving his money.
NAVA concluded: The analysis in the report shows that VAs are an attractive option for investors who are seeking to supplement lifetime retirement income from qualified retirement accounts and Social Security.
Tap into the Baby Boomer market. Many of those doing the seeking are Baby Boomersso much so that Philadelphia-based advisor Sid Friedman calls Baby Boomers the market-maker for VAs. Retirement planning is becoming the most important thing that we as life insurance people are doing, and Baby Boomers have one of the biggest problems around, he said. Most havent saved enough money, and many havent begun saving at all. They were too busy buying the house or educating the kids.
Friedman notes that Boomers are often good candidates for VAs because they are old enough to start thinking about the guaranteed income that is associated with annuities, but young enough to weather the variable factor associated with equities-driven products.
Theres a lot of education advisors could do in the areas of surrender charges, fees, active fund management, tax advantages and riders.
Some Boomers also fall into another category highlighted in the Conning study: those who are ready to move their retirement savings from one vehicle to another. Recent regulatory changes have increased rollovers of qualified plans. Under the Economic Growth and Tax Relief Reconciliation Act of 2001 (EGTRRA), eligible rollover distributions from 401(k), 403(b) and Section 457 plans can be made to any such plan or to an individual retirement account (IRA).
In addition, distributions from an IRA can be rolled over into another IRA, or any of the aforementioned plans. This, the Conning study notes, opens up the 457 market, and potentially, defined benefit plans to IRA rollovers, a prime source of funding for annuities. Rollovers from qualified plans already constitute a potentially significant source of assets for VA insurers, and that market will grow larger in the coming years, thanks to EGTRRA.
Advisors who believe a VA might fit into a clients overall plan would do well to check into rollovers from other qualified plans as a possible VA funding source.
Think outside the box. That idea may set off sirens and flashing red lights in some advisors minds, since according to conventional wisdom, tax-qualified retirement plans and VAslike cousinsshould never marry. Another snippet of conventional wisdom says using a registered investment advisor (RIA) in a VA costs the client too much, since advisory fees, if taken out of the annuity as a distribution, are 1099d back to the client. Taken separately, such wisdom is wise.
But Adzima suggests producers think outside the box: Put the two ideas togetherusing RIA services and a VA inside a tax-qualified planand you come up with some unconventional wisdom that can help clients build wealth. Adzima points out three advantages:
First, in the IRA and tax-sheltered annuity marketplace, RIA fees are not 1099d to the client. Second, several companies now offer VAs in which the total expenses of using an actively managed VA inside an IRA can actually be lower than using an RIA in a nonqualified instrument such as a mutual fund, even with mortality expenses figured in. Finally, inside a VA, investors avoid the tax consequences of moving their money.
The example below represents the comparison of average expenses in two actively managed funds:
The average financial representative will automatically think the VA with RIA will be more expensive, says Adzima. But on the mutual fund side, however, fees can many times be higher and there is also a tax consequence every time the RIA makes a switch. The variable annuity, on the other hand, often has lower RIA fees, plus active fund management without tax consequences.
Death benefits attached to VAs also make them a good risk-hedge. Adzima says one advisor has already distributed five VA death benefits this year. In three cases, the death benefit was higher than the account value.
Return to fundamentals. A guaranteed death benefit is just one feature insurers have added to VAs over the last decade to make them more attractive to buyers. Other add-ons include floor on principal guarantees, increased annuity payments in the event of illness and stock basket investment options.
Minneapolis-based financial advisor Bob MacDonald believes many such features benefit clients, but that VA bells and whistles have overshadowed the instruments fundamental value. What is a variable annuity? It is a financial instrument that allows a client to accumulate assets on a tax-deferred basis for a later pay-out as in-come that he cannot outlive, says MacDonald, who retired as chairman and CEO of Allianz Life of North America, and is now in private practice.
But we lose sight of the fundamental value of this product. To make the product seem different, theres been too much loading on of things, and the product has become complicated, he adds.
The mistake many advisors make is getting too much into the details, MacDonald says. Most advisors think they show how much they know if they can explain complicated issues. But the really good people keep it simple.
James Hassinger, an advanced sales specialist in New Orleans with Pan-American Life and Pan-American Financial Advisers, agrees. In training advisors who sell VAs, hes found that some become so enchanted with available whirligigs that they forget the core VA benefit: that annuities can be annuitized.
The loading on of VA features over the past decade or so has also created a copycat effect throughout the industry, MacDonald says, sometimes increasing product value, but more often commoditizing VAs and creating a focus on price. Price changes, but value endures, he notes. You need to be able to identify and sell value. Thats where you have to get back to with VAs, particularly in this market. People will buy value in any economic condition.
Use a consultative rather than traditional sales approach. People also will buy solutions in any economic condition. But not from advisors who come on too strong. In the case of VAs, buyers are often seniors, notes Sid Friedman, adding that their age alone makes using a consultative sales approach especially important. Old folks are getting wise, Friedman says. They want to leave a legacy and maintain control.
What they dont want is to be blown over with so much data that their reason for meeting with an advisor in the first place is lost in a maelstrom of facts, figures and features. The 75-year-old doesnt want to hear about how much you know. He wants to know that 10 years after hes gone, some young grandson is going to get an education.
Friedman, 68, says clients often tell him something like, Im really glad you came over, Sid. The last person who was here really tried to push this annuity on me. He offers young advisors a gentle reminder about selling VAs to clients two and three times their age: Start meetings with new clients by asking what they want to accomplish. I want them to tell me their hopes and dreams. As long as they do something with me, Im going to earn a living. My job is to find out what they want and deliver it. If I find out whats wrong and fix it, why wouldnt they buy it?
Lynn Vincent is a frequent contributor to Advisor Today.