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Insurers Weigh in on Timing Measures

WASHINGTON -- While the annuity industry remains hush-hush on the topic of the market-timing cases being brought by the Securities and Exchange Commission and the New York Attorney General, this silence does not indicate a lack of opinion. Speakers and attendees alike voiced their views on the brewing market-timing trouble and regulatory implications for the variable annuity industry here at the Regulatory Affairs Conference sponsored by the National Association for Variable Annuities of Reston, Va. And the consensus was that preventing market timing in annuities is more complex than preventing it in mutual funds.

Kathleen Schulze, VP and assistant general counsel for Aegon Insurance Group in Louisville, Ky., moderated a session called "Market Timing

Policies and Procedures: Developing Effective Solutions to Today's Challenges." Paul Fischer, a partner with Jorden Burt in Washington, Neil Lang, a partner with Sutherland Asbill & Brennan in Washington, and Joseph Rath, assistant vice president, assistant general counsel and assistant secretary for Allstate Financial in Northbrook, Ill., spoke about the pros and cons of various strategies, as well as anticipated reaction by regulators and others.

Clearly, market timing is an issue that is not going to simply blow over for insurers. While the bulk of trouble for mutual funds may have passed, the SEC and New York A.G. are only now assembling their cases.

One of the issues is that investigators at both agencies have not dealt with many, or any, variable annuity cases in the past, so it is taking longer for them to understand the issues behind market timing in variable annuities, said a source familiar with the matter. This has been evident as regulators have been building their cases, during which time investigators have repeatedly returned to carriers asking follow-up questions, Rath said.

The lengthy investigations have also been expensive. The e-mail sweep alone at Allstate cost the firm more than $250,000. However, the greatest implication may come in the form of new regulatory requirements and increased scrutiny from the SEC, the National Association of Securities Dealers and state regulators. The SEC and NASD are proposing new rules to help control market timing, and enforcement of the Conseco/Inviva case (see MME 8/16/04) demonstrates that the regulators expect carriers to back up prospectus-based statements about timing limitations with action.

"By adding restrictions and limits, we've created a new obligation for ourselves that we didn't have previously," Rath said. Especially given the vagueness of market timing itself and some uncertainty as to when it harms other policyholders, there are many ways to skin this particular cat. No matter what approach carriers take, however, "whatever the solution, insurers must enforce that solution," Lang said.

While the market-timing scandal will, hopefully, pass, market timing itself is sure to resurface. As one attendee commented, "[Market-timing hedge funds] are like chop shops, constantly coming up with new tax IDs or new annuitants. You can't keep up with them."

Insurers and broker/dealers are going to have to stay on their toes to keep tabs on timers, and the regulators will be watching. However, just as investigations into the mutual fund industry don't carry over completely into the variable annuity arena, so must the regulation of timing in variable annuities differ, speakers said. For instance, the 2% redemption fee for funds traded within five days of purchase proposed by the SEC creates several problems when applied to variable annuities. For one thing, trades in variable insurance portfolios are accounted for on an omnibus basis, with the insurer considered a single institutional shareholder, Rath said.

Not Just a Sale, a Contract

Another fundamental difference between mutual funds and variable annuities is that annuities are contracts between carriers and individual policyholders. One implication of this relationship is the fact that the contract may stipulate that fees will not be increased, so it may be contractually impossible for carriers to add a 2% fee.

The contractual nature of annuities also creates problems for the broker/dealers. Many companies have added a box on applications that the policyholder can check off, allowing the registered representative to make transfers on behalf of the client. "If the rep does that, he's aiding and abetting and facilitating a transaction," Schulze said. "This creates an obligation on the part of the broker/dealer, but if the application goes directly to the insurer, the broker/dealer may not know [about this obligation]." Furthermore, Schulze added, unlike mutual funds, transfers within a variable annuity do not create a ticket for the broker/dealer to monitor.