1.  2nd Younger Members’ Conference With-Profits: How Much Worse Can It Get? Peter Ford 1-2 December 2003 The Glasgow Moat House

2. Agenda n Bonuses - how much worse can it get? n Disclosure - transparency please! n Equity Backing Ratio - an anachronistic term? n Market Consistency - is this the answer? n Waivers and Realistic Reporting - where is consistency? n Principles & Practices of Financial Management (PPFM) - ties it all together

3. Where have we come from... Source: Lipper Hindsight 90-day money£acts account, Norwich Union. Past performance based on the product & funds available in January 1991 & is not a guide to the future

4. Smoothing in action... Source: Money Management Jan 2003 & Standard & Poors

5. Bonuses - How much worse can it get? n What has happened to payouts in 2003? 25 year Endowments Payouts Year last 2002 2003 at 2003 level % change Highest £113,445 £94,954 1988 - 16% Lowest £65,917 £57,993 1990 - 12% Average £87,356 £71,821 1988 - 18% Source: Money Management - as at 1/2/03 Best UK Balance Managed Fund in 2003 - £53,757 Regular reviews of payouts throughout the year now commonplace Underlying sum assured and annual bonus guarantee biting for many durations

6. Bonuses - Regular bonuses slashed n Examples: Industry High Low NU No of offices Unitised Pensions 2003 5.35% 1.0% 3.75% 17 2002 5.50% 3.50% 5.25% 18 Unitised Life 2003 4.0% 0% 3.25% 17 2002 4.5% 2.0% 4.25% 19 Rates falling below minimum guaranteed levels Conventional: Many regular bonuses now passed, NIL or getting pretty close to NIL! Cost of guarantees increasingly onerous Source: NU

7. What happens next? - Projection assumptions Historic investment returns:Market median performance Future Equity Backing Ratio:50% (including 10% property) Economic Scenarios: Base ScenarioNo initial change in level of FTSE from 31 Dec 2002 Alternative Scenarios: Scenario 1 Recovery in FTSE to 5,000 in 2003 Scenario 2 Fall in FTSE to 3,000 & 20% property fall in 2003 © Copyright Towers Perrin, Forster & Crosby, Inc

8. What happens next? - Projection assumptions Followed by: Gilt yield 4.5% Equity return 7.0% Reversionary Bonus Rates: CWP Life0.5% / 1.5% p.a. UWP Life2.5% p.a. UWP Pensions3.5% p.a. Sample policy: Regular Premium£50 per month Single Premium£10,000 © Copyright Towers Perrin, Forster & Crosby, Inc

9. Projected asset shares - 25 year endowment Base scenario Copyright Towers Perrin, Forster & Crosby, Inc

10. Projected asset shares/payouts - 25 year endowment Alternative investment scenarios Copyright Towers Perrin, Forster & Crosby, Inc

11. Comparison of asset shares and unit funds for regular premium UWP pensions Copyright Towers Perrin, Forster & Crosby, Inc

12. Comparison of asset shares and unit funds for single premium UWP pensions Copyright Towers Perrin, Forster & Crosby, Inc

13. UWP bond with a 10 year no-MVA guarantee 2.5% future annual bonus © Copyright Towers Perrin, Forster & Crosby, Inc

14. UWP bond with a 10 year no-MVA guarantee No future annual bonuses © Copyright Towers Perrin, Forster & Crosby, Inc

15. Unitised With Profits nPayouts closer to Asset Share for longer durations. nShort durations - MVRs will be in place for many years to come nLess smoothing/more active MVR policy nNo MVR guarantee dates are valuable nUWP bonus rates - new series required for equity - new Smoothed Managed Funds give an opportunity nApproach to new business very important - need to be transparent and equitable to new v existing business

16. Disclosure - transparency please! n Media coverage - could have been worse BUT many companies are failing to be transparent n This damages everyone and the reputation of our profession n Communicate changes in bonuses to policyholders - press releases and updates to company websites n Transparent approach required with minimum standards n Media advertisements may be a good idea

17. Disclosure - Policy Payout Charter n Press release should include n New bonus rates and previous rates for conventional and unitised products n Policy payouts - both savings and mortgage related policies n With profit bond payouts n With profit pension payouts n Latest available return on with profit fund, together with details of the returns on the fund over the last five years n Latest information on asset mix of with profit fund n Up to date position on MVRs

18. Disclosure - Closed Funds n This will become a hot topic! n More information is required of Closed Funds n Are policyholders not entitled to know?

19. Equity Backing Ratio - an anachronistic term? n What is the appropriate equity backing ratio? n Forced selling of equities to meet statutory solvency n Realistic solvency regime reduces reserving impact n Flat markets  guarantees biting and close matching needed, further EBR falls n Property now significant asset class - well understood? n Policyholder expectations? - expect a high EBR n Risk Based Capital drives further equity reduction? n Available capital greatly reduced n Lots of work to be done in building stochastic models to answer this question!

20. Equity Backing Ratio - an anachronistic term? © Copyright Towers Perrin, Forster & Crosby, Inc

21. Equity Backing Ratio - an anachronistic term? © Copyright Towers Perrin, Forster & Crosby, Inc

22. Equity Backing Ratio - an anachronistic term? © Copyright Towers Perrin, Forster & Crosby, Inc

23. Market consistency - is this the answer? n Market consistent approach to options and guarantees n“buy out” or reserve for options and guarantees using market pricing techniques nis there a liquid market? nis such an approach reasonable/sound? n Options/guarantees in the money - little or positive impact at/out of the money - substantial impact! n Significant extra reserves/capital requirements may result n The industry does NOT have enough capital! n Charges for guarantees may need to be made to asset shares where PRE allows

24. Market consistency - is this the answer? n Sophisticated models needed to cope with management decision making nDo such models work in practice for real offices? nCommon economic models need to be developed nManagement decisions may need to be complex nUntested and untried by most of the industry n Time needed to embed these models, test the results and analyse tails of distribution n Runtimes are likely to be very challenging n We should NOT rush this process

25. Waivers and Realistic Reporting - where is consistency? n Realistic reserving MAY lead to lower basic reserves - achieved in short term by Waivers n Interaction with Implicit Items not yet clear? n Are waivers as much value as Implicit Items? n Lack of consistency in approach to realistic reporting - profession needs to provide this consistency - are we capable of defining “realistic”? - GAO take up rates? - persistency? Time required to embed new approach. Dangers through too hasty adoption. BUT change was needed!

26. PPFM - ties it all together n Realistic reporting links directly to PPFM  Future bonus policy defined under different conditions under realistic reporting - owned by Board and With Profit Committee  Glidepath amount defines degree of smoothing  Investment policy defined at different FTSE level reflecting the solvency position of the company  Management rules on bonuses and smoothing defined for stochastic modelling  This provides a substantially improved discipline for running with profits business in the future

27. Conclusions 1. Payouts will continue to fall. Annual bonuses reduce to zero. 2. MVRs in place for many years to come. 3. Disclosure of bonus rates/payouts important. 4. Equity Backing Ratios likely to fall further. 5. “Market consistency” - will be very demanding. 6. Realistic reporting - a step forward, but NO consistency. 7. PPFMs substantially improve disciplines when combined with realistic reporting

28.  Want copies of slides? peter.ford@norwich-union-life.co.uk or www.actuaries.org.uk