1. The Fixed Annuity Marketplace BRAMCO Annuity Bootcamp Timothy C. Pfeifer, FSA Pfeifer Advisory LLC February 3, 2009

2. 2 Areas of Focus Today Recent fixed annuity sales and broad trends Industry product and financial responses Product pricing discussion Role of capital in product pricing and management Investment portfolios The Future

3. 3 Recent Fixed Annuity Sales YTD 3Q Sales Est. = $70.6 Billion, up 50% over 2007 Source: Beacon Research, Inc.

4. 4 Recent Fixed Annuity Sales by Product Type Indexed 28% Immediate 8% Book Value 47% MVA 17% Significant growth in Book Value/MVA, modest growth in indexed Source: Beacon Research, Inc.

5. 5 Recent Fixed Annuity Sales by Channel Distribution Channel2008 Market Share (%)2007 Market Share (%) Captive Agents Independent Producers Wirehouses Large/regional B/D’s Independent B/D’s Banks and S&L’s Other 12.5 41.3 1.9 2.8 4.3 35.1 2.1 11.9 51.1 2.2 2.9 27.5 1.5

6. 6 Important Drivers in 2008 Fixed Annuity Sales Trends Economic downturn of unprecedented proportions Equity markets slide Steepening yield curve generally Corporate spreads over Treasuries Rule 151A spectre looming AIG difficulties/1035 activity Income focus building

7. 7 Industry Product Responses (Current) MYGA MVA’s Principal Guarantees Flexible SPIAs Indexed Product Stability LTC Combos

8. 8 Industry Product Responses (Future) Lifetime Withdrawal Benefits Focus on Retention Bailout Provisions Interest- Indexed Products

9. 9 Financial Responses to Current Environment A significant amount of attention to capital consumption. Some carriers are considering exiting or scaling back the fixed annuity business due to capital limitations. For some companies, concerns about liquidity are driving rate crediting decisions. Management of the existing inforce has become a much bigger part of the picture.

10. 10 Product Pricing Discussion (#1) Spread business (superior asset returns drive) Retain assets (surrender charges, renewal credited rates) Control expenses and capital outlays ALM and Hedging have become key 1 2 3 4

11. 11 Product Pricing Discussion (#2) Statutory, GAAP, IFRS After-tax After-required capital Main measures are –Statutory Internal Rate of Return (8-10%) –Statutory Return on Assets (30- 35 bps) –GAAP ROE (10-13%) Deterministic or Stochastic? Based upon model cells Pricing Measures

12. 12 Product Pricing Discussion (#3) Net Investment Earned Rate (net of expenses/defaults) Commissions and other sales expenses Lapse rates and mortality (now morbidity) Capital assumptions (NAIC RBC, internal capital, other) Overhead and maintenance expenses Premium flow Pricing horizon (10-20 years) Key Pricing Assumptions

13. 13 Product Pricing Discussion (#4) 1)Profit hurdle (today, liquidity is issue) 2)Capital assumptions (5% to 10% of reserves) 3)Net investment earnings rate 4)Lapse assumptions (spike year, specifically) 5)Commissions/sales expenses 6)Pricing horizon What differentiates carriers’ pricing?

14. 14 Role of Capital in Product Pricing and Management Commissions and other upfront expenses Reserves (conservative) Risk-based (target) capital 225-250% of company Action Level in pricing Higher capital required to maintain ratings (300+%) Canadian companies have different regime to follow Sales of annuities generally result in statutory surplus strain Level of RBC assumed in pricing is significant, but often below company management level Why?

15. 15 Role of Capital in Product Pricing and Management Different ratings objectives/levels of conservatism Different asset portfolio envisioned Different commission structure Different basis for risk-based capital Lower commissions Lower reserves (e.g., Change in Fund Method, MVA) Design elements (shorter interest rate guarantees; no RPG) Reinsurance What accounts for differences in capital impacts in pricing? What can be done to mitigate capital strain?

16. 16 Fixed Annuity Investment Portfolios Traditionally,….. 60-70% Corporate Bonds 5-7% of Bonds Below IG 20-25% of Bonds Private Issue Well-matched to within 0.5 – 1 yr 15-20% Mortgage Related Virtually no common stocks 5-10% in Misc. Yield Enhancers

17. 17 Fixed Annuity Investment Portfolios But lately,….. Need for liquidity Large credit spreads available Write-downs on Mortgage-backed? Re-examinations of derivative exposure Greater opportunities with Private Issues More fallen angels creating capital issues Tight ALM harder to maintain

18. 18 The Fixed Annuity Future Significant amount of 1035 activity Two to three-year strong run of fixed annuities Difficult investment climate starts to turn in 4 th Qtr ‘09 New fixed annuity market entrants Lifetime Income Features Indexed Products In Limbo Design and financial solutions for capital strain