This document discusses indexed annuity risk management strategies. It notes that interest rate and credit risk are the primary risks for fixed indexed annuities, while lapse and benefit utilization are the primary insurance risks. It then covers different product design strategies, benefit rider strategies, and evolving asset-liability management and hedging strategies used by insurance carriers to balance multiple risk drivers and accounting constraints. The key takeaways are that fixed indexed annuities and variable annuities have distinct risk paradigms, new product features are becoming more complex, and hedging and ALM targets are multi-dimensional.

1. © 2014 Oliver Wyman
Guillaume Briere-Giroux, FSA, MAAA, CFA
Indexed Annuity Risk Management Strategies
2014 SOA Annual Meeting & Exhibit
Orlando – October 28, 2014

2. © 2014 Oliver Wyman
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Agenda
I.Risk and pricing paradigm
II.Product strategies
III.ALM and hedging strategies
IV.Key takeaways

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© 2014 Oliver Wyman
Introduction to fixed indexed annuity (FIA) market risks Interest rate and credit risk are the primary FIA market risks
Product
Credit
Interest rates
Equity
Volatility
Fund correlation / basis risk
Base FIA
FIA GLWB
VA GMAB
VA GLWB
VA GMIB
SPIA
High
Low
Risk level
Risk and pricing paradigm
Unlike VA GLWBs, primary market risks on FIAs are “traditional ALM” related and carriers expect to hold most of the supporting assets to maturity

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© 2014 Oliver Wyman
Introduction to FIA insurance risks Lapse and benefit utilization are the primary FIA insurance risks
High
Low
Product
Longevity
Base lapse
Dynamic lapse
Withdrawals or annuitization
Morbidity
Base FIA*
FIA GLWB*
VA GMAB
VA GLWB
VA GMIB
SPIA
*With nursing home surrender charge waiver (base FIA) and nursing home benefit (FIA GLWB)
Risk level
Like VA GLWBs, FIA GLWBs are typically modeled with a cohort-based approach
Risk and pricing paradigm

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© 2014 Oliver Wyman
Overall, FIA GLWBs and VA GLBs have different risk management frameworks and pricing paradigms
Real World
Risk Neutral
Value lenses
Simple
Complex
Dynamic policyholder behavior
Static behavior scenarios
None
Behavior “scenarios”
Size of bubbles represents order of scale for recent new business volumes (LTC converted to single premium equivalent)
Sales data from LIMRA
Deterministic + sensitivities
Stochastic
Nested
stochastic
Deterministic
Integrated dynamic behavior scenarios
Economic scenarios
“Integrated dynamic behavior scenarios” consist of multiple behavioral paths, which are each impacted by emerging conditions within individual economic scenarios
Risk and pricing paradigm

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© 2014 Oliver Wyman
Pricing framework
Product
Stochastic equity returns (RW)
Stochastic interest rates (RW)
RN cost of guarantees
Behavioral cohorts
Dynamic behavior
Base FIA
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FIA GLWB
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VA GMAB
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?
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VA GLWB
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


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VA GMIB



?

SPIA
?
Risk and pricing paradigm

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© 2014 Oliver Wyman
Base product design strategies
Product strategies
Base design strategy
Features
Implications
1
Volatility control indices
•Uncapped with spread methods
•Dynamic rebalancing
•Proprietary indices
•Length of term varies
•Economics
•Statutory
•US GAAP
•Risk management
2
VA / FIA hybrids
•“VA like” or “FIA like”
•Registered
•Floors less than zero
•“Buffers” or “floors”
•Higher upside
•Economics
•Statutory
•US GAAP
•Risk management
Base designs are becoming more complex!

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© 2014 Oliver Wyman
Benefit rider strategies
Product strategies
Rider design strategy
Features
Implications
1
Indexed-linked income
•“Stacked” rollups (e.g. 4% + index credit)
•“Turbocharged” account value driving income
•Income increases after income start
•Economics
•Statutory
•US GAAP
•Hedging and risk management
2
Differentiation of riders
•Variation in income structures
•Incremental changes in guaranteed income
•Economics
•Policyholder behavior
Riders are becoming more complex!

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© 2014 Oliver Wyman
ALM and hedging strategies are evolving to balance multiple risk drivers and constraints Accounting volatility is a “hot topic” for FIA carriers
ALM and hedging strategies
AG 33 / AG 43
Interest-sensitive policyholder behavior
SOP 03-1 for GLWB
FAS 133 for base contract
Economics
Policyholder behavior sensitivity to in-the-moneyness
Not so long ago, hedging indexed annuities was relatively simple: not so much now!
Target volatility indices
Hedge notional management
ALM
Hedging

10. © 2014 Oliver Wyman
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Key takeaways
1
FIAs and VAs have distinct risk and pricing paradigms
2
New features are complex but help better balance constraints
3
Hedging and ALM targets are becoming multi-dimensional
Key takeaways