200808 Life Industry: Trends and Developments Influencing Industr7

Industry Overview:Trends and Strategies

Prepared For:

Life Insurance Industry

Prepared By:

Steve CallahanPractice Development Director

R. E. Nolan Company, Inc.August 2008

© Robert E. Nolan Company, Inc. www.renolan.com Page 2

Industry Overview: Trends and Strategies

Topics§ Key Economic Trends..………………………………………. 3§ Industry Trends………………………………………………... 11§ Market…………………….……………………………………. 19§ Customers………..……………………………………………. 32§ Products………………………….…………………………….. 40§ Distribution……………………..………………………………. 59§ Technology………………………….………………………….. 66§ Summary…………………………….…………………………. 73

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Key Economic Trends

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© Robert E. Nolan Company, Inc. www.renolan.com

Real GDP Growth,* 2000-2009F

*Yellow bars are Forecasts.Source: Blue Chip Economic Indicators, Vol. 33, No 3 (March 10, 2008), pp. 2-3.

Slow economic growth is forecast for 2008Recession

then Recovery?

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Inflation Rate (CPI-U, %) 1990 – 2009F

*12-month change March 2008 vs. March 2007 Sources: US Bureau of Labor Statistics (historical rates); Blue Chip Economic Indicators, Mar. 10, 2008 (forecasts); Ins. Info. Institute.

Inflation:• 2.2% in 2007 • Accelerating to 4.0% in 2008 • Likely decline to 2.4% in 2009

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U.S. Unemployment Rate: Recent Quarterly History and Forecast

Sources: Blue Chip Economic Indicators (3/07 and 3/08); Insurance Info. Inst.

Rising unemployment:• increase the policy lapse rate • Make new sales more difficult• Show value of flexible life policies

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The Most Recent Five Years of the S&P 500

** **

**

********

Want more control over the chart? Try our Interactive Chart.

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The Stock Market Became Much More Volatile Nearly 10 Months Ago

‘07 ‘08

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Annual Average Interest Rate of 10-Year U.S. Treasury Note Since 1980

*As of April 18, 2008, from http://www.bloomberg.com/markets/rates/index.htmlSource: http://federalreserve.gov/releases/h15/data/Annual/H15_TCMNOM_Y10.txt

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http://www.bloomberg.com/markets/rates/index.html

http://federalreserve.gov/releases/h15/data/Annual/H15_TCMNOM_Y10.txt


ROE: L/H vs. P/C vs. Fortune 500 In low double digits, subject to CATs

Source: Insurance Information Institute; Fortune. 2007 insurer data are for stock insurers only.

L/H and P/CROE Crossovers

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Key Industry Trends

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L/H Industry NI & NWP 1998-2007

Source: NAIC Annual Statements, p.4, line 35, from National Underwriter Highline Data.

$18.0 $20.9 $22.2

$9.8$4.1

$26.6$32.2

$35.9 $36.2$32.0269.9 272.6

303.4

479.1508.6 500.2

531.2 528.1583.6

616.7

$0

$100

$200

$300

$400

$500

$600

$700

$0

$10

$20

$30

$40

$50

$60

$70

$80

1998 1999 2000 2001 2002 2003 2004 2005 2006 2007L/H Net Income L/H Net Written Premiums

SurrendersDisabilityExpenses

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Annuities

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Direct Premium Trends, 1995-2007

NAIC changed its definition of group annuity premiums

Life

A&H

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Ordinary Life Insurance Lapse Rates1996-2006

Sources: NAIC Annual Statements, p. 26 line 15, from National Underwriter Highline Data.

Was the spike recession related?

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Quarterly Change vs. Same Quarter Prior Year Individual Life Applications, 1999-2007

Source: MIB Life Index, Annual Reports for 2001, 2002, and 2003, plus monthly releases

9/11 effect

“XXX” regulation

21 straight quarters of fewer applications than the year-earlier quarter; down again so far in 2008

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Individual Life Product Trends Since 1976

Source: LIMRA. *LIMRA’s annualized premium calculation includes 10% of single premiums but excludes (a) excess (dump-in) premiums on universal and variable universal life plans and (b) large-case corporate-owned life insurance.

Product Market Share, by Annualized Premium*

Rise in UL market share: • STOLI? • “No lapse” guarantees? • Indexed UL?

Term would be more if premiums

hadn’t come down so

much

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Term Life Insurance Rates

Source: Accuquote; Insurance Information Institute Forecast for 2008.

On average in 2008, premium rates for term life insurance are expected

to fall 1% from rates in 2007

$500,000 20-year level term for 40-year-old male nonsmoker

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Individual Annuity Sales, 1999-2007

$122.0$137.0

$111.0$117.0

$129.0$133.0

$137.0

$160.6$184.2$42.0

$53.0$74.0

$103.0$89.0

$88.0$80.0

$75.6$72.8

$0$25$50$75

$100$125$150$175$200$225$250$275

1999 2000 2001 2002 2003 2004 2005 2006 2007

Variable Fixed

Source: LIMRA International, as reported in National Underwriter, L&H, March 24, 2008, p. 8.

Fixed annuity fading

$ Billions

Variable sales:• 2006 +17%. • 2007 +15% vs ‘06

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MARKETS

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Key Market Trends§ Boomers starting to cash in their retirement driving higher demand for

asset management / payout products– Significant shift from accumulation to decumulation

§ Graying of America driving need for more retirement oriented products– Decreases in death rates should make life insurance cheaper, annuities

more valuable§ Increased ethnic diversity of markets

– More than a quarter of the U.S. population Hispanic or Asian by 2020§ Worksite market undergoing increased opportunities

– Poorly served market with dynamic change impacted by aging workforce§ Continued consolidation of small to medium sized companies

– Searching for economies of scale and expanded market share§ Global expansion continues at an accelerated rate

– Particularly in underdeveloped markets like China and India

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Industry moving to decumulation stage

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§ The most significant growth opportunity is the aging population– A global opportunity that exists across all of the developed countries

§ By 2010 the size of the market opportunity will be significant– There will be some 78 million people over age 60 in U.S. alone

§ Retirement of these “baby boomers” will shift invested assets– Funds will be redirected to retirement income purposes– Over $30 trillion in total expected to shift in the U.S. alone by 2010– Shift results in a move from accumulation to decumulation, or “payout”

§ Insurance companies have products positioned to meet payout needs– Diverse line of options: variable annuities, life, long term care– Backed by actuarial and modeling skills able to develop new products

§ This market shift could represent the biggest period of growth ever seen– Competition is high: banks, securities firms, asset management companies

• Advisors indicated 65% would solve with mutual funds, only 26% with annuities– To win, insurers must offer client focused solutions, not products

Aging Market Key Source of Organic Growth

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Populationshifting toolder ages

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Retirement Savings Goals - Progress by Age

Source: MetLife Employee Benefits Trends Study (2006)

62% 61% 48%Haven’t started, significantly or somewhat behind

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Coming from the retiring generations

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Significant growth in Hispanic population bringingservice and operations challenges

Doubling

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§ Rapid growth in demand for segment aware products – Products meeting Hispanics and Asians specific needs growing in importance– As market size grows, product and service voice will grow as well

§ Tremendously underserved market currently addressed casually– Translation of existing materials into native languages does not meet the

unique cultural needs of the different markets

§ Increasing notice by large carriers attempting to address the market– Recruiting of agents directly from the markets to be served– Innovative product designs taking into account culturally unique needs– Service centers staffed by individuals from within the different cultures

§ All carriers should be aware of the demographic changes in their markets– What is rate of change for key market areas – How is agent force composition aligned with their local market changes– What changes in product, sales, and service are needed to match changes

Ethnic Markets Bring New Opportunities

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Mergers and Acquisitions Will ContinueSigns point to a very strong mergers & acquisitions trend that started 2007§ Over ½ polled insurance executives (56%) expect to pursue an M&A§ Large mergers and acquisitions are pressuring mid-size firms

– Likely to see consolidations among mid size firms§ Creates a balance to the complexity of innovation and organic growth§ For some, it is more cost effective to acquire existing in-force than build up

Of those pursuing mergers and acquisitions (56%), the primary goals are:§ Achieve economies of scale and expense efficiencies (36%)§ Enter new markets via products, customers or geography (10%),§ Acquire new distribution channels (6%), and§ Enhance operational capabilities (4%).

Others are divesting themselves to focus on core businesses§ Broader financial services firms exiting small life insurance operations

Which segment of the industry appeals most to insurance executives§ Life (23%), P&C (17%), Agencies/brokers (14%), Reinsurers (7%), Health (6%).

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Globalization Key Source of Organic Growth§ International expansions underway

– Emerging markets where local economies growing or people underserved– Korea and Japan represent the first and second largest markets

§ Significant attention on China, Asia’s third largest insurance market– China will become world’s leading source of insurance premiums w/i 10 yrs– Chinese regulators have recently licensed a number insurers as “Pension

Companies” to serve their dramatically growing retirement market

§ Taiwan has developed a new system of retirement savings– Allows major insurance companies to establish pension plans

§ India is also attracting attention, even though market is relatively small– Most analysts expect their market will grow at 15% a year– Current growth rate in Europe, by comparison, is 5.5% a year

§ Non emerging markets also under consideration as sources of growth– Mexico, Turkey and Russia are being considered as growth opportunities– Almost every country is conceptually a target for some company’s products

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CUSTOMERS

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Consumer Satisfaction Trends Down for L&A

Life satisfaction dropped ’03 - ‘06

Health remainssignificantly lowerand has also dropped

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Life and Annuity Satisfaction Levels

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Over a 50% drop in lapse rate based on satisfaction

Customer Satisfaction Linked to Lapse Rate

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Satisfaction Level by Type of ServiceSomewhatSatisfiedSatisfied

Not At AllSatisfied

Very Satisfied

Never UsedNo Response

In person still most preferred

IVR’s not well liked

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Consumer’s Preferred Service Method

Has technology improved customer service significantly in last 5 years?20062005

Preference when short on time

Method used

Over 60% Somewhat to Strongly Disagree last 2 years

Phone still preferred service method

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Most Important Aspect of Customer Satisfaction

2005 2006

One stop shopping, or all problems solved in one call, greatest source of satisfaction

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Source of Customer Service Frustration

Despite outsourcing, accents and language issues lowest in source of frustrations

Wait time & first call resolution, or once and done, greatest source of service frustrations

2005 2006

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PRODUCT

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Product Development Trends§ Product Simplification to offset complexity introduced by innovation

– Improved clarity and simplification of readability– Design simplicity reducing complexities and improving understanding– Assured suitability of the insurance products for the clients

§ Regulation driven changes – Commission disclosures and replacement scrutiny– Suitability requirements– Anti money laundering (AML) in conjunction with growth in privacy laws

§ Underwriting use of genetic testing– Costs? Allowable? Public policy? – Moral and legal obligation to share results with applicant?

§ Terrorism, Natural Disasters and Pandemics (like the Avian flu)– Is the industry ready? Is there adequate capacity?

• According to recent studies and analysis, the answer appears to be yes

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Primary Source of New Product Failure

ProductComplexity

Insufficientcompensation

UncompetitivePricing

Unappealingfeatures andbenefits

Too slowto market

Top reasonfor failureWhat attributes do successful

companies have?1. A disciplined approach to the

sourcing, evaluation and translation of ideas into product design, implementation and rollout.

2. A well thought out, well documented and well understood, repeatable product development process

3. A clear and unrelenting focus on understanding the needs of their distributors and customers

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Market Share by Product Line

Page 44

UL‘05 ‘06 ‘07

VL‘05 ‘06 ‘07

VUL‘05 ‘06 ‘07

Term‘05 ‘06 ‘07

Whole Life‘05 ‘06 ‘07

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Term and UL Sales to Individuals 65+

ULBILLIONS

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Growth Rate by Life Product Type 2007

Page 46

Versions of UL are the fastestgrowing product

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Distribution of UL Sales by Structure

Page 47

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Distribution of VUL Sales by Structure

Page 48

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Typical Shelf Life by Product

Average time to market on a new product is 10-13 months• Start building next version right after each introduction

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Product Development Progress by Structure

Page 50

Maintenance ModeHopeful Star

Growth Mode

Maturing

Unproven

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Indexed UL - The Hopeful Star

Page 51

Sales went from $65M in 1998 to $512 in 2007 (10 years)• Sales doubled 2003 to 2005 after no-lapse guarantee introduced• Fastest growing product in the UL portfolio, over 1/3 of market share

Only 25 to 30 carriers in the market, yet not a registered product• Top 5 hold 75% of the market sharev Aviva (38%), AEGON & National Life (11%), AIG & Allianz (8%)

• Top 10 hold 97.5% of the market sharev Old Mutual, Pacific Life & Midland (5%), Conseco & Lafayette (2½%)

• Last quarter fastest growersv National Life (33%), AIG( 21%), and AVIVA (19%)

Despite success, still less than 10% of total UL sales• Average issue age is in the mid-60’s• Lots of optional “riders”

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UL Enhancements – The Proven Winner

Page 52

• Sales remain strong and market share is approaching 50%• 46% of UL’s market share is UL with Secondary Guarantees (ULSG)

• Product development efforts include• 2001 CSO by 1/1/09, with 30% done beginning of 2008 vs 25% in 2006

v Moving very slow, biggest product development focus in 2008• No lapse guarantees

v Some companies countering by offering low cost term without guarantees• Riders remain an area for innovation

• Most popular area of UL development is combination products• Pension Protection Act of 2006 has opened door of opportunity• UL / LTC where the LTC coverage is in the UL premium• UL / LTC where LTC is accelerated death benefit with rider charge• UL / CI bundling where the critical illness is paid in a lump sum• UL / DI combo to provide mortgage protection, compete with term

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Sample of Common UL Riders & Features

Page 53

Disability Waiver Premium / Monthly Deductions

Accelerated Benefits with Critical Illness Waiver of Surrender ChargesAccidental Death Guaranteed InsurabilityGuaranteed Value Children’s TermLTC Rider/Nursing Home Salary IncreaseLiving Needs Benefit Charitable Giving BenefitEstate Tax Repeal Life Paid-UpCaring for Today Benefit Additional InsuranceSupplemental Term Return of PremiumGuaranteed Survivor Protected Pour-InCost of Living Increase Change of InsuredAlternative Cash Value Overloan ProtectionLiquidity Rider Maturity Extension

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Variable Product Trends – A Mixed Bag

Page 54

• Variable Life• Sales up 7% in 2007

v Largest growth is in brokerage channel, other channels flat to slightly ahead• Product Development two-pronged

v Providing more fund alternatives to choose from (consumer choice key)v Guaranteed Benefits (GMIB, GMWB, GMAB, etc.)

• Variable Universal Life undergoing investment in product features• Cash Accumulation VUL largest segment of VUL market• Adding in UL style death benefit guarantees (GMWB & GMAB)• Incorporating variable annuity style product features• Creating portfolio structured investments – Lifestyle and Lifecycle• Overloan protection riders

• Variable Annuities grew 15% in 2007 to over $184 billion• 2007 Q4 to 2006 Q4 showed a 17% jump, reaching $48.2 billion• 10th consecutive increase in current year versus prior year same quarter

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Traditional Products – Stable Returns

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• Whole life• Sales relatively flat, growing only 3% in 2007• Agency and direct marketing channels source of growth• All other channels declined

• Term Life• Sales up 5% in 2007 based on annualized premium, 6% based on face• Term still represents 20% of the life insurance market• Traditional term a staple for agents – price first, then ratings & service• Most popular areas of Term development is in simplification

v Simplified Issue termv Dial-a-term (adjustable term face based on changing needs)v Riders

• Return Of Premium (ROP) term becoming very popularv More and more companies entering this market due to simple conceptv Price for lapse rates, state hurdles, reserve & 7702 issues, interstate compact

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Individual Annuity Sales by Channel in 2007

Source: LIMRA International, as reported in National Underwriter, L&H, March 24, 2008, p. 41.

Many PPGAs and bank agents are not licensed to

sell variable products.

$ Billions

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Life Settlements a New Wildcard§ Life Settlements represent a secondary market for life insurance

policies that allow insureds to cash-in while still alive§ About 60% of top insurance executives expect the secondary market

for life insurance to be significantly larger in 5 years than it is today– About 33% moderately larger; 2%, about the same size; and 5%, smaller

§ About 52% said they would root life settlements out, and 12% said they would let it occur but would want to see them rooted out

– The other 36% said they would want to participate in a growing market§ Life Settlements are not STOLI (Stranger Owned Life Insurance)

– Some say the effort to equate Life Settlements and STOLI is really a desire to stop the Life Settlement business.

§ Life Settlements will grow rapidly for a few years, then consolidate as volume stabilizes.

– One well-known private equity fund is using trusts to make $250 million in life settlements per month

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Voluntary Worksite Product Growth Accelerating

Increasing growth rate

Life and Disability largest segments

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DISTRIBUTION

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Changes in Life Insurance Distribution§ Decline in full-time affiliated agents (LIMRA estimates)

– In 1989: about 262,000 – In 2001: about 178,000 <-84,000> <-32%>– In 2004: about 160,000 <-18,000> <-10%>

§ More than ¾ of independent agents began careers as affiliated agents– A drop in affiliated agents represents a future drop in independent agents

§ Stockbrokers and banks wrote – About 40% of new individual annuity premium – Less than 10% of new individual life premium

§ Insurers are currently working to design products for banks and brokers– Target is wirehouses and bank reps– Examples include simplified issue, guaranteed issue and single premium

§ Growth in alternative channels needs to match decline in primary agents– Failure to grow channels will result in a drop in sales over time

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Channel Market Share 1983-2006

Page 61

• Growth in independent agents• Flattening decline in career• Slight downturn in “other”

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Agents are Source of Competitive Advantage

Implication is clear:Agent/broker service is clear differentiator and a competitive advantage, more than price.

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Traditional Touchpoints Remain Key to Field

Service and supportremain more important than commissions

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Web Tools Table Stakes for Channel Growth

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Quoting and Managing Client Relationships

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TECHNOLOGY

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Investments: Internet, Analytics, Admin

The Top 3 Investments1. Agent Portals2. Actuarial / Analytics3. Admin System

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Influence of the Internet§ Internet has become an increasingly important communication channel

– Most consumers’ purchasing process is “Web Influenced”– Search engines like Google and Yahoo! are critical channels for insurers – More insurers are embracing search engine optimization

§ The college-bound “Millennial” generation born between 1982 and 2000– Represent the next mass affluent group. – Financial institutions will need new marketing approaches to reach them– Companies will have to invest heavily in mobile and web channels

§ Pure online sales are growing, but still account for less than 15% – “While 100% online sales are unlikely to exceed 30% in any area, the Web

will be a major influencer for nearly all sales within five years,”

§ Agent’s use of and dependence on the internet has grown tremendously– 90% have the ability to download product forms, illustrations, and materials– 80% can get pending business, client values, and commission information – 50% use e–signatures and e–applications.

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Increased Use of Predictive Analytics§ Brings greater precision to pricing and risk assessment

– Data mining paired with sophisticated algorithms find patterns and trends.– Trends are used to forecast future behaviors and events.– Subjective judgment is replaced by statistically sound empirical data.– From basic demographics to behavioral factors like finances or commute time

§ Understanding and targeting specific customer needs by– Enhancing the understanding and targeting of microsegments of the market

• Customized, one-to-one customer centric approach to service– Retaining existing customers through elasticity of services and support.

§ Strengthening distribution– Match selling methods and needs of multiple channels (Know your agents)– Better identify, assess, understand, and serve clients (Know your clients)– Leverage web portals to allow distributors to use (Enable your agents)

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Policy Admin System Sales Continue

AdminServer and Accenture best in class

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Still, Legacy Systems Remain In Place§ Some technologies are making it easier to revitalize legacy systems

– Further slowing the pace of change in the industry– SOA, Web services, and other technologies make it more plausible

§ Wrapping and extending legacy systems remains a viable option– It is not going to become unpopular anytime soon – Carriers need to realize is that they’re mortgaging their futures doing this– These technologies carry a higher total cost of ownership in the long term

§ Advances have expanded viability, usefulness and accessibility by– Enabling processing of significantly larger volumes of data,– Increasing capacity for handling a wider variety of variables

• From basic demographics to behavioral factors like finances or commute time– Enhancing precision of forecasts providing deeper operational insights.

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Financial Services Offshoring§ Well established and accepted by most as a competitive necessity

– Some still wait on the sidelines, unwilling or unable to get started

§ For those who have offshored for several years, fatigue is setting in– Slowing growth and drop-offs in savings levels and quality

§ The development of financial services offshoring at an inflection point– Winners and losers will now be determined rapidly in competitive industry – Immediate challenges depend on size, experience, and offshoring maturity

§ Major players need to be offshoring at a much greater scale and soon– Must institutionalize their offshoring operations while managing them well – Embed best practices into their organization’s culture– Focus on aggressively expanding scope and head count– Continue to streamline their systems and processes

§ Those new to offshoring have chance to adopt emerging best practices– No time to waste: Offshoring is maturing rapidly – Companies slow to act may expose themselves to undue competitive risks.

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SUMMARY

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Four Major Trends in Insurance§ Active and informed consumers will drive competition

– Expectations of service and convenience will rise, in part due to technology– Nontraditional operators will be rewarded for excelling at service– Customer centric service and convenience will drive competition

§ Technology will virtualize the value chain and lower barriers to entry– Web based insurance service components allow modularizing value chain– Barriers to entry fall as companies enter the market by assembling modules– There will be numerous virtual companies comprised solely of web services

§ Products will be dynamic and provide consistent performance– Global market will require products to be flexible and able to adapt– Near realtime underwriting interaction will be available via sensor networks– Enlightened privacy regulations will facilitate while still protecting

§ Industry standards will be affirmed globally with coordinated regulations– Consumer and business protection will become geographically independent– Automation driven efficiency will lead to industry standardizations

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Industry Implications§ Market Demographics Impact : Aging and Ethnicity

– Aging shift of funds from accumulation to decumulation products– Operational impacts of serving ethnically diverse cultures

§ Mergers and Acquisitions– Consolidations of operations– Closed block sales– New market entries

§ Increased regulations– Demands for more predictive reporting and analytical systems– Greater controls over processes with audits and systematized standards

§ Product shifts– Annuities, settlements, and investment related products on rise– Payout stage brings demands for annuitization and financial management

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Strategic Initiatives to Address Trends§ Technology Enabled Distribution

– Services key, portals and automation continue

§ Differentiation based on Service– Consolidations, integrations, optimizations to drive expense margins– Enhanced focus on customer centric service delivery– Continued expansion of web based services

§ Increased, but Targeted, Investments in Technology– Analytical tools usage for risk management, marketing and sales will grow– BPM and SOA will become game changers– New systems implementations continue while legacy systems persist– Portals, automation, and e-services

§ Discrete and Selective Use of Outsourcing– Selective outsourcing for economies of scale a critical competitive edge– Insourcing and onshoring opportunities will grow for core operations areas

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Helping Insurers Solve Business Challenges Through People, Process, and TechnologyFor Over 30 Years

Industry Update:Life and Annuities