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THE ANNUITY MARKET IN AN EVOLVING PENSION SYSTEM:
LESSONS FROM ITALY
Giovanni Guazzarotti and Pietro Tommasino
May 2008
by Laura Piatti*
Cerp, Financial Security in Retirement, Collegio Carlo Alberto,
Moncalieri (Turin), 18/19 Sept 2008
*IntesaSanPaolo/Turin University
The paper:
• Describes the key characteristics of the Italian annuity market in an
international perspective
• Presents new evidence concerning annuity prices in Italy and computes
indicators of actuarial fairness which have been already used in other
research (MWRs)
• Shows that annuities sold on the Italian markets are quite expensive with
respect to the ones sold in other countries with a more developed market
• Advances some policy and market implications to increase efficiency and
to speed-up the development of the market
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General points:
• Annuities markets around the world are small
• They have been growing with the increase of DC pension schemes
• Some previous research shows that MWRs are high in most countries
(James, 2001; Mitchell, Mc Carthy 2003) but quite often insurance
companies cover their costs through up front pricing and financial
portfolio techniques (they earn a spread on the ALM)
• The pension or asset decumulation/withdrawal is not yet a strategic or
commercial issue both for insurers and for distributors (retail markets)
• There are key market and regulatory factors that explain the low supply
and also the low demand for annuities
.
• Insurance companies do not manage so efficiently the demographic
mutuality (they do prefer the financial one) and returns are quite low
(the smaller the market for annuities, the higher is the risk and the
spread/price, but total returns remain very low). Annuities or withdrawal
plans represent for a distributors an outflows of assets, while as
investment products are mostly illiquid and transferable with high costs
for the consumers
• For consumers who would prefer to accept an investment risk and
capture the spread themselves (sometime underestimating the
longevity risk), the demand for annuities decreases
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The Italian annuity market (from the paper, confirming other
research):
• Is at present quite underdeveloped
• Has been not particularly pushed or pulled as the public pension
system has been based mainly on a PAYGO scheme and has
crowed-out the private market
• Can be in the future much more developed because of the new rules
regarding the payout phase of the public system and for the expected
growth of the complementary system
• Considering the MWR analysis, presents fair prices covering the
component due to the cost of adverse selection, but it shows very high
prices if referred to the administrative costs and profits components.
• OBSERVATION: probably .this second component also discounts the
distribution costs (very high in Italy, see mutual funds and other
insurance products)
• Therefore, supplies products quite expensive (compare to the
international experience), with a range of offer very limited and poor
solutions for coping with the presence, on the demand side, of a huge
bequest motive and a preference for liquid assets
• OBSERVATION: a working field for market providers could be looking
for a wider variety of solutions/products that can deal with the
decumulation need, with not only traditional longevity options. In the
foreign markets, eg, VA and financial decumulation plans are quite
widespread
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Example: Variable Annuities can be presented as unit-linked with a
dynamic allocation of different financial options
Description
GMDB
Unit-Linked
GMAB
Guaranteed
minimum death
benefit
Guaranteed minimum
allocation benefit
+
• In case of death, guarantee of a
fixed capital higher than the
premia paid (also possible
during the accumulation period)
• Guarantee of a minimum return
at fixed dates, for example after
5/10/15 years (accumulation
period)
• Guarantee of a minimum level of
payouts as life annuities
GMIB
Guaranteed minimum
income benefit
- minimum floor of calculation of
the life annuity predetermined in
the contract
- predetermined switch of the
lump sum in a life annuity in the
contract
GMWB
Guaranteed minimum
withdrawal benefit
• Guarantee of a minimum
withdrawal value, independent
from the effective value of the
assets (either for a fixed
period of time or for the whole
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length of the contract)
Variable Annuities
annuities can
can cover
cover key
main
risks
risks
more
more
widely
widely
than
than
other
other
products
products
Key issues: portfolio techniques, risks quotation, administrative
costs, fiscal incentives, transparency, regulation.
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Another way to look at the “decumulation” need:
From the Asset Management industry: investment + insurance
Financial
component
(market risk)
Insurance
component
Initial financial
capital
Financial annuity
with rate of
return
Initial Insurance
capital
Lump sum
at 80 years
Differed
annuity
Annuity
(longevity
risk)
Total
Invested
Capital
eg 80 years
There is a no interruption between the
financial and the insurance annuity
Key issues: good service, financial efficiency to be valued, price
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