- Through ignorance, stupidity, timidity and incompetence, insurance company executives have lost control of the most successful fixed annuity product in the history of the insurance industry. I realize the seriousness of this charge, and I do not make it lightly. Nor do I make such an accusation without offering a solution. But first things first.
Annuities Were a Terrific New Insurance Product
Introduced in the late 1990s, the Equity Indexed Annuity (EIA) rapidly became the growth accelerator – actually the only growth product – for many insurance companies. Indexed annuities were a huge success. In fact, at its zenith, the EIA represented 70 percent or more of many companies’ total sales.
It was only natural that such levels of success would attract the enmity of competitors who either failed to take advantage of the EIA phenomena or lost income because of it. And those companies and organizations not benefiting from the EIA boom definitely saw the market as ripe for attack.
They recognized that executives of the insurance companies had become dependent on the sale of the EIA for their success and were ill-prepared, unwilling or unable to effectively respond to their competitive attacks.
How Brokers Became a Force to be Reckoned With
When the stock market “dot.com” phenomena became the “dot-bomb” of 1999 and 2000, many stock brokers saw their income plummet as equities became an industry anathema. In hopes of regaining their financial footing, many brokers shifted their attention to selling the EIA. But there was a sticker: Because the EIA was an insurance product, it was sold directly by insurance companies and commissions earned were paid directly to the registered representative. As a result, the lucrative middle-man efforts of the broker dealer were circumvented – cutting them off from millions of dollars in revenue. The broker dealers wanted a piece of the action and to their credit they developed a creative strategy to achieve their objective.
Recognizing that they would get no sympathy simply because of lost revenue from EIA sales, the broker dealers (BDs) began an organized campaign to have the EIA declared a “security.” If the EIA were to be declared a “security,” then any and all EIA sales would have to go through the broker dealer network. This would not only allow the BDs to skim off a big slice of the commissions, but would also give them an even more important long-term benefit – the firm control of EIA distribution. This control of distribution would, in fact, give the BDs a piece of the commissions earned by the registered representative, for any and all insurance products sold.
To achieve their objective, broker dealers first had to overcome one major hurdle: Any unbiased and objective review of the EIA would show that it was an insurance product and not a security. To overcome this problem, the BD community took advantage of a marketing vulnerability made possible by insurance companies. Annuities must be equities, they argued, since insurance companies themselves marketed the EIA annuities “as if” they were securities – even calling them “equity” annuities. They also exploited examples of how a few poorly-trained or rogue agents sold the product. And yet, for good reason – that being they wanted to sell it – never once did they actually attack the product itself.
In the battle to control the multi-billion dollar market for EIA products, the broker dealers were as creative and aggressive as most of the insurance company executives were unimaginative and passive.
The BD community effectively used a compliant media to create negative publicity surrounding the sale of the EIA (not the product itself). Then, under the phony guise of “protecting the consumer,” the broker dealer community filed with the SEC to have the EIA declared a security.
When the SEC was slow to respond, the broker dealers convinced their “supervisory” organization, FINRA, to unilaterally declare that broker dealer organizations were required to “supervise” the sale of any and all financial products sold by their registered representatives. This had the immediate effect of scooping up the EIA product and bringing it under the control of the broker dealer, along with the commissions paid on the product. When the SEC finally announced the ruling – even if flawed, illegal and illogical – known as 151A, designating the EIA as a security, it was simply a validation of what had already become predetermined.
So Who’s to Blame?
Well there you have it; a war where there is enough blame and shame to go around for everyone. Insurance companies, agents, regulators, broker dealers, the SEC, FINRA and the media have all had a hand in clouding, confusing and otherwise obfuscating the EIA issue. Despite the variety of villains in this drama, insurance executives who had come to depend on the EIA for their success are doing a lot of whining and finger-pointing, but the real responsibility for this unmitigated insurance industry disaster falls squarely on the stooping shoulders of these same insurance company executives.
Insurance Management Blew It
The response by insurance company executives to the attacks on the EIA could best be described as dimwitted, dismal and ineffective. In effect they were like drugged sheep who passively accepted their fleecing.
From the very start of the EIA controversy, the insurance executives were totally snookered into believing the issues had to do with the product and how the agents sold it. Wrong!
As some had written and warned at the time, the real battle revolved around money and control of distribution, not the product itself. Here’s a sample. Riding fat, dumb and happy on the wave of EIA sales the executives failed to recognize that the real threat was not to the sale of EIA products but to the very core of the company’s distribution system – the independent agent. Ironically, some company executives felt the way to ward off attacks on the EIA was to throw the independent agent under the bus.
A few of the weaker insurance executives even prostrated themselves before Congress groveling aloud that – if only they could keep selling the EIA – they would institute strict sales supervision of the agents. Sacrificing the agents on the altar of greed, they promised to “review every sale” and even hire “suitability police” to monitor the agents. But it would not be fair to say these insurance executives were totally lacking in creativity and aggressiveness. Some of them wrote a few really nice letters, while others adopted the creative strategy of, “if you can’t beat ’em, then join ’em.” The idea was to totally capitulate by jettisoning the agents altogether and begin to deal directly with the broker dealers. Unfortunately, appeasement by any name in war and business is the path to defeat.
Opportunities Missed, but not Totally Lost
Even though the battle has been lost, there is still the opportunity to snatch victory out of the jaws of defeat. The solution is to simply make the victory by the broker dealers illusory and more important, irrelevant. This can be accomplished by reducing or eliminating the importance of the EIA product to the success of the company and agent.
As convoluted as the SEC 151a ruling may be, the reality is not the ruling itself, but how companies and producers respond to it that will determine its ultimate impact. Unfortunately, the initial reaction of companies and producers is that this ruling will have a cataclysmically negative impact on the traditional insurance industry. But, with wisdom and creativity, there can be a better outcome.
Let’s face the facts. Indexed annuities have been around for less than a decade and while they became the single largest type of fixed annuity product sold, they are only one form of annuity. If the very survival of insurance companies and producers is now so dependent on one type of product, then the industry has more problems than a flawed SEC ruling.
To be brutally honest, companies and producers became fat, dumb and lazy selling indexed annuity products. Creativity, innovation and diversity have been suffocated by the very success of the indexed annuity. The industry became awash in complacency. The insurance companies and agents got so caught up in the concept of “indexing” that they forgot that it is only a small part of what makes an annuity attractive to the consumer.
The SEC ruling is a shock to the system that should jolt the insurance industry to get back to what it does best: developing safe and sound accumulation and income annuity products. But I’m talking about new product ideas that clearly differentiate between insurance products that guarantee real value with no potential for loss with investments that may promise high returns but only guarantee the potential for loss of principal.
The current financial crisis and the consumer’s increased sensitivity and desire for the safety and security of their funds create the perfect opportunity to negate the proposed SEC ruling by making it irrelevant. That can be done by developing a broad array of creative new products that uses a bad SEC rule as motivation to do something good for the industry, its producers and customers.
Unfortunately, waiting for the current pack of insurance company executives to discover the creativity and innovation needed to accomplish this objective may be akin to waiting for grass to grow in a paved parking lot.