Older blocks of variable annuities (VA) still represent a risk to American insurers, according a report from A.M. Best.
In its most recent U.S. Life Annuity Segment Review, published last week, the ratings agency says that while rising equity markets have increased fee income and lowered the net amount of risk insurers face on their legacy blocks of VAs, they remain exposed to potential losses.
After the financial crisis of 2007 and 2008, American insurers took steps to reduce the amount of risk they faced in their VA products, which offer more generous benefits than those available on the market today. However, they were unable to rely on traditional reinsurance because reinsurance capacity for variable annuities with guaranteed living benefit (GLB) riders has been very limited. "Those companies which did historically engage in VA reinsurance generally suffered poor results, with long lasting negative impacts," notes A.M. Best.
Insurers have attempted to manage risk on their VAs in other ways, for example by introducing higher product fees, restricting on contributions to existing policies, refining their hedges, as well as offering fewer or mandatory asset allocation options with lower withdrawal and step-up rates. Nonetheless, the ratings agency warns that companies with large blocks of underperforming VA business will continue to face pressure on operating margins.
"Despite improvements in macroeconomic conditions, A.M. Best remains concerned over legacy VAGLB tail risk given continued limited experience and unknown policyholder behavior," concludes the report. "The product design for legacy VA products is highly complex and remains exposed to interest rate and equity market and policyholder behavior risks."