Insurers lead on Boomer income programs

(April 2007) Sun Life announced earlier this month that it will take on its rival Manulife by offering a guaranteed minimum withdrawal benefit product that will compete with Manulife’s hugely popular IncomePlus. The move doesn’t surprise industry observers, who say the battle for position is just getting under way.

GMWBs are a relatively new product in Canada. At their core, they are seg funds that offer guaranteed protection of the principal investment over a fixed period of time. Usually, the product will guarantee a fixed income of 5% of the initial investment annually over a 20-year period. For example, if an investor initially invested $100,000, he or she would be guaranteed $5,000 a year for 20 years, regardless of the market performance of the underlying investment.

GMWB goes beyond a principal protected fixed-income product because the growth of the fund can be locked in and reset every three years. So if the investment were to grow to $120,000 over three years, the investor has the opportunity to reset the insurance contract and then has a guaranteed $120,000 to be paid back over 20 years. In addition, both Sun Life and Manulife offer a guaranteed 5% annually on the initial investment if no withdrawals are made for the first 10 years.

Sun Life has its work cut out for it. Manulife’s IncomePlus, Canada’s first GMWB, launched in October 2006 and did $1 billion in sales in less than 19 weeks. Sun Life is hoping to make up the gap by offering more flexibility on its GMWB product, SunWise Elite Plus. It will offer an optional rider that can be added onto 74 different seg funds that are jointly offered with CI Investments.

“SunWise Elite Plus is structured as a rider and can be added when you first sign a contract or it can be added later in the day, depending on client needs,” says Peter W. Glaab, Sun Life’s vice-president of individual wealth management.

Glaab believes this flexibility will not only attract new buyers to its seg funds but will also allow pre-existing consumers to continue with Sun Life funds that they used for wealth accumulation without transferring into a different product when their investment needs change.

Moshe Milevsky, a professor of finance at York University’s Schulich School of Business and the director of the Individual Finance and Insurance Centre, says this is just the beginning of innovation in this field. He says the appeal of GMWBs reflects the changing needs of boomer investors. Milevsky co-authored a study that looked at what he calls the “retirement risk zone,” which is the seven- to 12-year period before investors start to draw on their retirement income.

Milevsky says investors experience a much higher risk factor during this period. Over the long-term, investments tend to grow at a healthy pace, but as the time frame is shortened, risk increases. Even moderate losses or slow growth in retirement savings during this risk zone could significantly reduce the length of a person’s retirement income. This is because once a retiree taps into his or her investments, the growth rate declines as principal savings shrink.

“During the accumulation phase, wealth is going to bounce back,” Milevsky explains. “As you get closer to retirement, you can’t hold on for the long run and just wait it out.”

So baby boomers need not only wealth growth but wealth retention. This demographic need has been observed in the U.S. for some time, says Bob Tillmann, Manulife’s vice- president of marketing and business development. He notes IncomePlus was launched after observing the phenomenal success its U.S. subsidiary, John Hancock, had selling a similar product, Principal Plus.

“The GMWB is really a subcategory of variable annuities. It started from scratch in the U.S. in 2002,” he says. “[John Hancock’s] sales in the variable annuity category were just over $9 billion in 2006, which was up from $7.9 billion in 2005. That’s a 15% growth in 2006 alone.”

And with demographic similarities between the U.S. and Canada, Tillman says, the opportunity was ripe for a Canadian GMWB. The company consulted Investor Economics, which foresees the total Canadian marketplace “being in the high $40 billion mark within five years.”

Milevsky does offer some caveats, though. For instance, he says GMWBs are unnecessary for most people who participate in a defined benefit pension plan because DB members already have a primary guaranteed source of income that will last their lifetime.

Clients don’t necessarily have to buy an insured product to derive the same benefit of a GMWB, Milevsky adds. He notes that insurers excel at offering these products because they are much more sophisticated at mitigating long-term risk.

Products like the joint BMO Dynamic Funds RetirementEdge are an example of a non-insured product that essentially derives the same fundamental results. RetirementEdge consists of income portfolio notes sold in 15-, 20- or 25-year maturities. The 15-year note guarantees to pay the holder 6.66% starting immediately; the other two have deferred payments of five to 10 years respectively.

The principal is not guaranteed, but Jason Agaba, vice-president of product development for Dynamic Mutual Funds, says Dynamic has targeted the same demographic as the insured GMWB, by offering fixed income and moderate growth. As the notes progress, they mitigate risk by decreasing the equity-holding and increasing the fixed-income portion.

This product will not appeal to risk-averse investors since there is no principal and creditor protection, or death benefits, Agaba adds. Instead of principal protection, Dynamic opted for tax deferral, which allows it to offer a higher growth potential than an insured product. Dynamic charges a 1.99% annual management fee on the product and an additional 5% advisory fee that is incurred over the first three years of the investment. In total, the MER works out to be between 2.19% to 2.32% depending on the term of the note.

The MER with a GMWB can vary, since it is being added to a seg fund, which typically has a slightly higher MER than a regular mutual fund to begin with. For example, with IncomePlus, Tillman says, there is an additional expense for the guaranteed aspect of the investment, which ranges between 25 and 75 basis points above the regular MER. Using Manulife’s fund Simplicity as an example, the MER is usually 2.5% per annum; with IncomePlus, it would be 2.55%.

Filed by Mark Noble, Advisor.ca, mark.noble@advisor.rogers.com

(04/23/07)

Mark Noble