Hartford Mulls Client Buyouts to Cut Risk Buffett Called Ungodly

Hartford Financial Services Group Inc. (HIG) Chief Executive Officer Liam McGee may follow Axa SA and Aegon NV’s Transamerica in offering to pay customers to exit savings products that are weighing on the company’s results.

McGee is under pressure from investors such as billionaire John Paulson to boost the stock, which trades for less than 40 percent of book value. McGee has said he’s “laser focused” on reducing risk and that options include lump-sum payments to clients who agree to exit variable annuities guaranteeing minimum returns. The firm already scaled back annuity sales and agreed in April to divest the unit that originates the products.

“Giving out a lump sum right now, it’s costly, but it may actually be cheaper than keeping the liability on the books,” said Moshe Milevsky, a finance professor at York University in Toronto who studies annuities. “It was the rates that were included in the products that were problematic.”

Life insurers are paying the price for guarantees made to clients before 2008, when stock markets were in the midst of a five-year rally and the yield on the 10-year Treasury (USGG10YR) was more than 4 percent. The industry took on what billionaire Warren Buffett has called an “ungodly” amount of risk and accumulated liabilities as Treasury yields dropped below 2 percent, making it harder to generate returns to cover the obligations.

Photographer: Andrew Harrer/Bloomberg

Warren Buffett, chairman of Berkshire Hathaway Inc., at the Economic Club of Washington. Close

Warren Buffett, chairman of Berkshire Hathaway Inc., at the Economic Club of Washington.

Close
Open
Photographer: Andrew Harrer/Bloomberg

Warren Buffett, chairman of Berkshire Hathaway Inc., at the Economic Club of Washington.

The deal to sell the origination unit to Forethought Financial Group Inc. excludes the contracts previously issued by Hartford, and McGee’s firm had a $3 billion variable annuity reserve at the end of the second quarter. The U.S. annuity business was unprofitable in two of the past four quarters, with a combined loss of $27 million in the 12 months ended June 30.

‘Aggressively Looking’

The insurer is studying whether it can reach agreements with other firms to take on liabilities and assets not covered in the Forethought deal, McGee said Aug. 2. Hartford, based in the Connecticut city of the same name, is weighing client payouts even as consumers may opt to stick with their contracts, McGee said, without disclosing the size of potential incentives.

“We are aggressively looking at that,” he said in response to a question about lump-sum payments from Christopher Giovanni, an analyst at Goldman Sachs Group Inc. “That is one of many work streams that we’re considering with great urgency and diligence, because we’re determined to reduce the book as quickly as we can.”

Axa (CS) Equitable, a unit of France’s largest insurer, plans to offer a payment to clients who cancel their standalone guaranteed death benefit rider on Accumulator contracts issued between 2002 and 2007, said Jo Ann Tizzano, a spokeswoman for the company. Those who accept the offer will receive an increase in their annuity account balance, she said.

Axa Equitable was the No. 1 seller of U.S. variable annuities in 2007, with $16.3 billion, according to data from trade group Limra. The figure fell to $7.1 billion last year.

MetLife, Prudential

Industrywide variable annuity sales were $159 billion last year. The figure had spiked to $184 billion in 2007 as insurers competed to win more business, in some cases guaranteeing annual returns of about 7 percent to long-term savers who were willing to accept limits on access to their funds, said Alan Devlin, an analyst at Atlantic Equities LLP.

Hartford was among the most vulnerable insurers on the guarantees because the company didn’t hedge risks as much as MetLife Inc. (MET) and Prudential Financial Inc. (PRU), the largest U.S. life insurers, Devlin said by phone from London.

Liabilities on the contracts swelled in the financial crisis, helping drive Hartford to a U.S. bailout and fueling a 60 percent plunge in the Standard and Poor’s 500 Life & Health Insurance Index in the 12 months ended May 3, 2009. It was that day that Buffett, at a press conference in Omaha, Nebraska, said the industry took on an “ungodly amount” of risk.

‘That’s Poison’

When insurers “tell the policyholder that he gets some of the up side and you take all the down side, that’s poison,” Buffett said. “That would be like a stockbroker telling you that he’ll pay you back if your stocks lose money.”

About 26,000 contract holders will get the Axa Equitable offer, scheduled to be mailed starting in October, Tizzano said.

“We are making this offer because high market volatility, declines in the equity markets, and the low interest-rate environment make continuing to provide these guaranteed benefits costly,” Axa Equitable said in a June 8 regulatory filing.

Transamerica, a unit of The Hague-based Aegon (AGN), is offering a lump-sum option that was initiated in May, Cindy Nodorft, a spokeswoman for the company, said in an e-mail. The offering applies to eligible owners of Transamerica variable annuity policies with riders such as a guaranteed minimum income benefit, according to a company document.

Crystalizing Losses

While buying out customers may limit companies’ gains from stock-market rebounds, insurers can still benefit from terminating their obligations, Atlantic Equities’s Devlin said.

With lump-sum payments, “you crystallize some of the loss, but not all of it, and it frees up capital,” Devlin said. Insurers “obviously design it in order to make sense for them.”

Consumers will have to weigh contract terms, their health and other assets when deciding whether to take a lump sum, said Glenn Daily, a fee-only insurance consultant based in New York.

“The sales pitches make this look simple, but when you actually have to make a decision, that’s when you see how difficult it is to offer advice on it,” he said. “It’s a legitimate reason in my view to stay away from these products.”

MetLife and Prudential, which became the largest variable annuity providers, have lowered some guarantees and changed policy terms to limit risk. MetLife CEO Steven Kandarian is focusing on emerging-market growth and sales of accident-and-health protection in the U.S. while scaling back from variable annuities.

Addressing Risk

“The riskier your overall portfolio is perceived or is, either one, whether it is or perceived, it still goes through to your stock price,” Kandarian said in a May 23 presentation. “The goal is to shift toward a more predictable earnings stream.”

McGee, who became CEO in 2009 and repaid a $3.4 billion U.S. bailout the next year, is seeking to focus on property-and-casualty coverage to boost the company’s share price. Travelers Cos. (TRV), the P&C company that is the only insurer in the Dow Jones Industrial Average, trades at almost 100 percent of book value, a measure of assets minus liabilities.

Hartford struck deals this year to sell its individual annuities distribution business to Forethought and the Woodbury Financial Services broker dealer to American International Group Inc. McGee, 57, promoted Beth Bombara in July to president of the life runoff operation to shrink the annuity obligations.

“Hartford is diligently exploring opportunities to reduce the size and risk of our annuity exposures, isolating or separating them from the ongoing businesses and, over time, freeing up associated capital,” Shannon Lapierre, a company spokeswoman, wrote in an e-mail. “It’s early in the process to comment on specific plans, but we are evaluating both operational and transactional opportunities.”

To contact the reporters on this story: Zachary Tracer in New York at ztracer1@bloomberg.net; Margaret Collins in New York at mcollins45@bloomberg.net

To contact the editors responsible for this story: Dan Kraut at dkraut2@bloomberg.net; Christian Baumgaertel at cbaumgaertel@bloomberg.net

Press spacebar to pause and continue. Press esc to stop.

Bloomberg reserves the right to remove comments but is under no obligation to do so, or to explain individual moderation decisions.

Please enable JavaScript to view the comments powered by Disqus.