The Benefits of product Diversity

November, 2008

Dear Clients and Friends,

Welcome to the first of what will be a regular feature of the Pfeifer Advisory LLC website – a short letter from us to you that comments on key business issues of the day, and provides thought-provoking insight and perspective.  If our input enables you to make one more conceptual connection or develop one more idea, then we will have achieved our objective.  Please give us feedback on the content of these letters, or suggest topics of interest for future letters.

As of this writing, the global financial world is in a state of confusion and shock that is unprecedented in our time.  Consumers, regulators, and financial professionals are not sure where the next booby-trap may be.  Although the mightiest to fall have generally been investment banks and retail banks/S&L’s, a natural question to ask is whether life insurance companies will be able to withstand pressures of market volatility, tight credit, and asset write-downs.  Skeptics would say that today’s financial world is too interconnected and interdependent to permit insurance companies to escape the domino effect.  Optimists would say that life insurers have developed strong financial hedging programs and have come a long way in refining Enterprise Risk Management (ERM) initiatives. 

As we see it, the events of the last year have “re-shuffled the deck” of the financial playing field.  Accordingly, insurers and firms engaged in marketing insurance-type products must begin thinking about hedging and risk management beyond merely financial risk management.  When the dust finally settles (and it will), there will be winners and losers in the future product, market, and distribution world that have nothing to do with current financial solidity.

The science (art?) of product portfolio and market risk management needs to become ingrained in the strategic thinking of insurers and marketing organizations.  Regardless of the environment, providers of life insurance and annuity products should have something appealing, implementable, and profitable to sell.  Given the time needed to conceptualize, design, file and launch a new product, waiting for an obvious sign of market acceptance assures a “too late” arrival at the party. Since the demand for a particular product is a function of economic, demographic, psychographic, and regulatory elements, a product portfolio needs to be “hedged” to account for these various factors in a way that optimizes market presence across an array of outcomes of such elements.

So, does product portfolio “hedging” mean that an insurer should offer one of everything just in case sales representatives and customers meander toward a given product?  In our opinion, the answer is “no”.  However, manufacturers and sellers of insurance products need to improve their ability to anticipate shifts in risk profiles, demographics, and economic conditions.  For example, the first half of 2008 has seen a powerful re-emergence of fixed annuity sales, for some obvious and other not-so-obvious reasons.  Carriers without fixed annuity offerings (or without the right fixed annuity offerings) have been left on the outside looking in.  The emerging long term-care need and its associated demographics are another example of thundering footsteps that should be evaluated in product risk management.

Product portfolio risk management elevates the ERM process (as practiced today) to a higher level.  There undoubtedly will be those who say that product portfolio hedging is too subjective (and maybe unnecessary) in today’s environment.  To that, we respond that products are still the engine that drive financial results, rarely the other way around.

Tim Pfeifer
President