(Dow Jones) A string of redesigned variable annuities are hitting the market, after life insurers last year yanked the products that proved too generous to customers and threatened some insurers' financial health.
Variable annuities are a tax-advantaged form of investing in mutual funds, and, for an additional fee, investors can buy downside protection. In simplest terms, the safety net often works like this: If the funds perform poorly, the investor can swap the shrunken sums in them for lifetime payments of a guaranteed-minimum amount.
Those guarantees of lifetime payments were a major strain on insurers after the market slide of 2008 and 2009. Insurers quickly pulled the juiciest deals off the market-subbing in less-generous versions at higher prices.
Now they are rolling out fresh designs. The good news for investors is that costs in the famously expensive products are edging down, and one of the new offerings has an interest-rate adjustment feature that will appeal to many baby boomers worried about inflation.
But in general, the new guarantees continue a trend in which insurers are trying to minimize their risk and consumer choice, by, say, requiring that buyers put 30% or more of their money into bond funds.
The flurry of activity represents what consultants say is the start of a transformation of the variable-annuity business, as insurers try "to come up with a sustainable product that people want to buy" to help save for retirement and protect against a deep market downturn, says Ken Mungan, a practice leader at consulting firm Milliman Inc. "That means simple, low-cost, easy for people to understand," he said, predicting "significant changes throughout 2010."
The bottom line is that the new-generation products can be valuable to some consumers as a slice of an overall portfolio, advisors say, provided they know the drawbacks. One long-time knock has been the cost, with fees sometimes topping 3.5%, a serious drag on owners' fund returns.
Yet the products' safety net gives many cautious boomers the fortitude to keep some money in stocks, in hopes that big years for the market will deliver high-enough returns to overcome the fees-and make falling back on the guarantee unnecessary.
There are many variations of guaranteed-minimum variable annuities, but they typically involve keeping track of two figures: the actual value of the customer's funds and a guaranteed-minimum "benefit base," which is used to calculate the annual income if the funds tank and the owner opts to go this route.
When the owner is eligible to pull money out of the contract, it comes down to which is the better option: keeping control of his funds for withdrawals as he pleases, or collecting the guaranteed annual income pegged to the benefit base (in which case the insurer uses what remains in the funds to cover fees).
So how is this benefit base calculated? Under contracts that got many insurers into trouble, it is "reset" at least annually to incorporate gains from the owner's funds, and many contracts promise minimum annual boosts of 7%. Since the crisis, new contracts typically give 5% boosts. Typically, owners in their mid- to late-60s are eligible for annual income of 5% of the base.