The New Normal for Income Protection #1 – Transcript

Fraser Jack
Hello, and welcome to this series on The New Normal the new risk environment for income protection as we settle into the changes brought about by individual disability income insurance, or IDI for short. I’m your host Fraser jack, and in these episodes, we get expert opinions from our superstar panel. We have Cathy case risk insurance specialist from Brisbane influential financial adviser John cash from Melbourne. Serena West joins us as a risk insurance specialist from Perth and Dr. Jeffrey Scott from Sydney head of advice strategy at Metlife, Jeff always has something interesting to add to the conversation. This is a five part series and we are kicking it off with this the first episode looking back at exactly how we got to this point in the first place. In the next episode, we will discuss the new mindset advisors should adopt to move forward. In episode three, we get technical and nerd out about how to make income protection profitable. In episode four, we discuss the human side of the changes, and we rounded out in the last episode discussing the future opportunities and threats. Let’s dive into the first episode. Now looking back at how we got to this point. And to get us started off, let’s kick off with Jeff Scott. Jeff, how did we get here?

Dr. Jeff Scott
Thank you, Fraser. How we got here is that asterik or port 413. Asked advisors and also the insurance companies to get a balance between both product and pricing. So that clients actually have appropriate protection for the long term. Giving a client a fully featured product was never the expectation, give them a gold, what they called a gold plated product is never the intention. It was providing appropriate cover to appropriate people at the appropriate time. So if something unforeseen happens, that they’re gonna have the right cover, right money right time.

Fraser Jack
Yeah, this is a really interesting, this is the interesting part that you bring into this. That was the gold, the gold bar, you know, the best product, the most amazing product was never the intention. That’s that seems a little bit counterintuitive for a lot of advisors, don’t you think sort of Serena, what do you think it’s always been? We’ve always tried to find the very best thing for client.

Serena West
Yeah, we typically have. And I think that’s in part based on wanting to make sure that we don’t let anyone down at claim time. So, you know, when we need to make sure that in the event that they they need the policy, that there’s no one else kind of saying, Well, you could have got this or this or this so and over time, the products have, obviously got so many features, that there’s been a lot of complexity.

Fraser Jack
Yeah. John, what do you think?

John Cachia
Yeah, it’s very interesting that that’s what’s being said, because probably similar to Serena, it’s, you know, when we’re advising the client, we’re taking the position that we want to have a solution that’s got the highest chance or highest probability of them actually claiming on the policy. And so when we’ve got a, a suite of policies that have been obviously designed for many, many times, you know, we’re really looking to those and the technology around that the industry has kind of adapted to try to actually make it easier for advisors to identify which policies are better than one another. So it’s very interesting that and, you know, I’d love to hear from Jeff, obviously, you know, a bit about also how we got here, because my understanding is obviously policies weren’t as good as they were two years ago, and they got better and better and better and better. And, you know, is the is the industry also to blame for that, as well, too. So, you know, my expectation as an advisor, and probably from a client is going to try and find the best solution that’s got the highest probability of claiming,

Dr. Jeff Scott
John, John, I agree with your philosophy on this. But I think we go back to first principles, products need to meet a customer need and the two Basic customer needs are either eliminating debt or potential debt or creating an income stream for the client. And what insurance is inherently there to do is to put a client back in to the same financial position they were immediately prior to when that claimable event occurred. So if we look at it from that perspective, the policies that we have now, again, the Institute of Actuaries did a study on this. And the policies that we have now that came out on the first of October 2021, are still the best income protection policies in the world, even after them being stripped back or they don’t have as many benefits and features now, as they did on the 30th of September 2021. They’re still a very, very good policies. And so we come back to those first principles of what it wasn’t an income protection, their income protection policy their to do. It’s there to replace lost income, and protect the client’s biggest asset, their ability to generate income. So we go back to that does the do our current income protection policies, whether they’re by MetLife, or any other company in the marketplace? Do they still meet that primary need? And what I’m looking at so far is the answer is yes.

Fraser Jack
Yes, exactly. Right. And and, Cathy, what are your thoughts on on how things happened in the past?

Cathy Kayess
I think there’s a lot of products that as Jeff said, you know, the clients had took out products that if they weren’t on time, it was going to put them in a better position than being at work. And ultimately, that’s how we’ve ended up in the position that all of these products have had to be reassessed and report to market because their aim was never to make it monetarily better for you to stay on client. Does that mean that advisors are really having to re look at what they are insuring their clients for? And how they’re insuring their clients? Yes. But a combination of industry and advisors have meant that we’ve ended up in this position,

Fraser Jack
Serena do I think, yeah, I

Serena West
was more reflecting in what Kathy was commenting about with some of the older style policies. And, you know, I still have some clients on the books who have lifetime benefits. And some of these policies, you know, they’ve been around a really long time, and potentially when they were built, and when the wording was all created, our current reality wasn’t considered, you know, it was such a long way in advance in the way PDS is written now, that there’s so much more specific, the difficulty of when you do have a lifetime benefit is, of course, it is lifetime. The funny thing when you’re managing a client on claim on lifetime benefit, because I have a couple is some of the companies don’t actually even have access to the original documents, because it’s been so many iterations along time. But the pricing attached to these and circling back to Jeff’s point, that the client is receiving income, far different to what their actual reality was at the time of claim. And that, of course, has triggered what’s going on. So I can see why the changes are needed to be made.

Fraser Jack
Yeah, the changes came through, let’s say, you know, there was, I call it the pendulum, you know, like, they went one way too far too long. And then, of course, these big sweeping changes came through like a pendulum and went, you know, possibly too far. Who knows, we’re all we’re all trying to work out where that line in the sand is, I guess, Jeff, tell us about the cycles. Because I mean, this is this is something that’s not, you know, changes in this changes in income protection changes. Change is something that’s, you know, happened a long time, we’ve had cycles, we’ve always had cycles in this type of insurance. Tell us about the cycles?

Dr. Jeff Scott
Yeah. I’ve been in Australia now for almost 30 years. And I started off as a actuarial trainee. And what’s happened is that people have said, it’s different this time with income protection. Well, actually, it isn’t. So we’ve seen the same cycles, they go about every seven to 10 years. What ends up happening is that it either one insurance company or a bunch of insurance companies are trying to gain market share. So they either relax the underwriting standards or they produce premium, then average claims experience comes along, and they go whoops, we’re starting to lose money. And when the money’s when they start to lose money. They say we have to tighten the underwriting and or increase premiums. And then as they start to make profit, again, by going through that process. They say, Oh, well, let’s make more generous benefits, or let’s decrease pricing and then they complete that entire cycle. And it takes again, somewhere between seven to 10 years to go through the cycle. But this isn’t the first time we’ve seen a situation where the industry’s been losing money. In the income protection industry, and what they then do is that we start to see this happen again. So again, we’ve seen premiums go up. And most people over the past three to five years I’ve seen that occur. We’ve seen situations where underwriting has been more restrictive. And again, that’s happened as well. And then what’s happening now is that they’ve the the new policies have been far less generous with the benefits. So we’re starting to see that we’re now at the bottom of that loop. Now, the question then becomes what happens when the next cycle comes around? So to say that we haven’t seen something like this before? I think that’s actually erroneous. What we’ve actually seen is, this has occurred, we haven’t seen in the last decade, but again, over the past 30 years, we’ve seen this happened about three times already.

Fraser Jack
Yeah, I guess, I guess the big difference is it was always managed internally, though, right?

Dr. Jeff Scott
I think the answer is yes. But what Apple does, what Apple did was that they actually took a look at the industry, and apres credit, they were looking at the industry, they went to the industry, they said the industry has been losing over a billion dollars a year in retail income protection, and APRA, to their credit, went out to eat the life insurance companies in 2019. And said to them, what what are each of you going to do? How are you going to manage this internally. And to their credit, they basically come up with their first set of measures, they consulted with the industry, then came up with their final set of measures in September 2020. And that’s what we have now. But in the past, in the past, when when they’ve managed them internally, there’s been a turnaround within a period of time. APRA has been asking this question for a significant period of time. So as a regulator, they had to do the right thing, and basically intervene in this situation.

Fraser Jack
Yes, exactly. Right. And I kind of feel though, there was a lot of there was a lot of people sort of sitting on their hands in a way that then nobody really wanted to be the first mover to make a big change or a big difference. And that caused a lot of angst with regards to, to, you know, if no one’s going to do it, then everybody’s got to do it. But as as we moved through that time period, obviously, cash reserves were a big part of that was, you know, the fact that there was a not a very high return on the money being invested or, you know, we had a cash a very low cash environment where it was very difficult for insurance companies to get, you know, a solid return on their, on their cash reserves. So it was assumed that was all claims was the problem was why companies were losing, you know, billions of dollars a year. Was it all claims or was it something to do with cash reserves.

Dr. Jeff Scott
The the Institute of Actuaries in their report on individual disability income insurance, actually stated that one of the things that across the industry that some one of the assumptions that were made, where’s the investment return on the premiums coming in the exact words that were used by the Institute of Actuaries, and said reducing interest rates have also added upward pressure on claims costs. And they said a 10 year government bond rate yields have fallen from 5.1% and 20, in July 2010 2.9%, in June 2020, and consequently, insurers have needed to increase premium rates in the order of 20% to maintain profits. So this is directly from the Institute of Actuaries their disability insurance taskforce report. So they basically stated that, yes, claims were an issue, but also investment returns were also an issue. In other words, over that 10 year period, the difference in returns were over 4%. And so if you’re getting 4% less each and every year, over that period of time, then when it comes to the profitability of a product, that’s going to have an impact.

Fraser Jack
Yeah, John, what do you think?

John Cachia
So is that why we also see, like have seen the level premiums increase as well, too? Is this why we’re saying this, because of those numbers around the premiums? Obviously, being? The premiums not being enough? Let’s be honest,

Fraser Jack
well, I’m not sure about the premiums, it’s more about the cash reserves, isn’t it? Well laid onto that doesn’t.

Dr. Jeff Scott
The assumption with level premiums Is that is that you make your return in those first few years in the hope that you’ve gained enough, you’ve gained enough premium or gain enough return on that investment those first few years with a higher premium that you’ve actually got, you’ve built up a reserve for future years. But that’s also based on the fact that you’re going to be getting a particular return on that reserve. And if the return does not meet what that increased risk is, then the premiums that you have this level of premiums won’t be sufficient. So bring that dilemmas that if you don’t get the appropriate return up front and also don’t end don’t get the appropriate return, going forward when the risks begins to increase significant only, then you’re not gonna then you’re going to be underfunded when it comes to paying claims.

Fraser Jack
Yeah. Now just wanted to dig into something else you said then Jeff, when it comes to the, you know, the difference of nearly 4.9%, or whatever we say around 5% difference in returns of what was expected returns versus what did was worth returns when it comes to the when it comes to the, you know, the cash reserves in 2010. Does that mean that projecting forward the assumption was going to be then that cash would always get 5%? Return on Investment?

Dr. Jeff Scott
From from what I’ve read from the actuaries Institute? The answer is yes. And when, again, when you look at old returns on if you have old whole of life policies, normally, what they what they assume is that the crediting rate is normally going to be in that in that vicinity. And so, right now, we’re at all time lows in relation to interest rates. And people who are in people who have a mortgage right now have been benefiting from it, because they can borrow at ridiculously low rates, that we’re an all time low interest rates in Australia. So seeing interest rates that are below 1% is basically unprecedented. Yeah.

Fraser Jack
But, but I mean, we’ve been in this environment for a while, and we’ll we’ll probably be a bit, you know, the assumption is, it’s going to take some time to move out of that environment, you can’t just stay awake, interest rates up, you know, 5%, over over a short period of time without causing some damage. So what does that mean, for reserves for insurance companies? You know, sort of in the short term and medium term,

Dr. Jeff Scott
I think what it means is that APRA, in cooperation with the various insurance companies have said, Okay, let’s look at all the various levers to make sure this particular product becomes profitable. So the one is product terms conditions, the other one that AHPRA addressed in their measures is pricing. So when you’re doing the premium pricing, how are you basing your assumptions, and one of the measures that apre say state is that the assumptions that you that you have with regards to your premium pricing cannot be anything more than 18 months old, with regards to industry data, and 12 months old with regards to your own data within your organization. So what APRA has basically stated is, okay, let’s look at the product terms and conditions. Let’s also look at how you price your product based on industry experience and various other factors such as interest rates, and then also going back to the insurance company saying, how are you going to manage claims? So what they asked was for long term claims, how do you manage that risk. And so to apres credit, what they effectively stated was, there isn’t one silver bullet, it’s a combined situation. So one, get your interest rates and your investment assumptions, correct insurance companies to get the appropriate product. Three, get the appropriate pricing based on industry claims experience, industry, interest rates, and also your own individual stuff within your organization. If you only look at one aspect, then you pull one lever, but then you push the other ones in different directions. And to Apples credit, what they said to the insurance companies is let’s look at everything as a holistic situation. So we can actually have a product that lasts not just for 12 months, but last all the way through for clients working life. So there’s still a product there when they need it.

Fraser Jack
Yep. Now, Jeff, from coming from memory, I remember that angel last year that Apple did release some new figures around insurance companies and profitability is that was that the case?

Dr. Jeff Scott
Yeah, so, um, the 12 months to September 2021. So to the 30, September 21, the the individual disability income insurance stats released by APRA, said that the retail income protection industry was actually in the black for the first time to the tune of $124 million. Now, considering that they were in the red to the tune of billions of dollars. This is this is positive. This is positive and hopeful. But I want to see what happens in the next 12 months rolling period.

Fraser Jack
Yeah, now, this is an interesting time frame, right, September 21. That’s just prior to any of the changes that’s going on. So what APA are saying in that scenario is there’s a it’s a profitable industry, based on the old products,

Dr. Jeff Scott
or what’s happened is that the insurance companies have increased premiums which you’ve seen, which most people have seen across the board. And those premium increases have now flown through to the bottom line. So again, there’s there could be various factors in this. So I want to beat so. Again, it’s nice to see we’re in the black. I want to find out what the reasons are for that. And again, we haven’t been I haven’t found out what those reasons are yet. So

John Cachia
this is this is very interesting. And obviously for people that are listening and obviously may hear it’s like you know, has anyone run through the companies in the books properly. You know, for me, that sounds like a mispricing. If that was in my If that was in my business, obviously I’d be able to probably identify that pretty quickly. But it sounds like if we’re talking around those dates, it’s just like, increase premiums, same products, no changes the policies. Voila. I think most people’s issues when it comes to insurances is Well, mine anyway. And I know that I’m talking for a lot of other people who I’ve spoken to. No one likes premium increases. But what we don’t like, is policy changes and tampering with because personal protection is to create certainty. And it’s the uncertainty that is driving me and a lot of other people that I’ve spoken to Matt. So very interesting that they’ve said that, and it’s just, I’d love it, Jeff. And I know we’ve shared a yarn on this. But you know, I’d love for you, when you do do the D Day on this and get through to the numbers. I’m on wondering if this is just mispricing from the insurance companies trying to chase the bottom and become the cheapest so that they’re on the top of research choices from a premium perspective.

Dr. Jeff Scott
I think there’s again, as we discussed before, there’s probably multiple factors on this. So the question is, is it due to premium increases only? Is it due to increased increased or improved investment returns, which again, the entire last year was a bumper year for for many, for many people from an investment perspective? Or was this due to reduce claims, there’s could be any number of factors with this one. And until you actually get under the bonnet and look at it, it may be one or all those factors, or it might be something else that we’re not aware of. So again, like I said, it’s positive that we’re actually seeing it in the black for the first time in a number of years. I want to see what the numbers are to the end of December 2021, and see if it continues in that trend. And then the next thing I would like to find out is what’s the reason for it? Is it just due to investments? Is it just due to claims? Is it just due to premiums? Or is it a combination of all three, it’s the combination of all three and effectively, what APRA has done is they’ve done their job properly. They basically said to people, let’s look at all the factors. And let’s try and get this business back in into one situation. So it’s so let’s, again, I’m hopeful, but I want to see if this is a continued trend. And I also want to find out what the reason what the what the various reasons are for this improvement.

Cathy Kayess
And I think what you’re going to find is, if it comes back to just premiums and their overpricing knows, there’s going to be so many advisors that probably lose their lid, because in my instance, that my past two years has literally been dealing with clients who cannot afford the new premiums that are coming out. And for most of my work, that’s not a small change. And that’s not a small piece of work to do. And that is all I’m doing on a daily basis. So that’s what comes back out. I think there’s going to be a very big uproar from people have spent a lot of time trying to sort that out for their clients.

John Cachia
And, Kathy, it’s one of those things it’s, you know, has this just been industry over years and years and years and years just trying to chase the bottom. Yeah, these kind of chase the bottom. And then therefore, you know, setting expectations where it is. And I think Jeff hit the nail on the head there is contributing factors across the board. And we ultimately I think everyone’s got the same goal here. And this is what it all boils down to we all need a sustainable, a we need a sustainable solution that is affordable first trying to have a have also a solution that creates certainty so that when things do go wrong, you know, they’re there. And you know, like you guys it’s it gives when a family’s hurting. And you can say to them say hey, listen, you’ve got this, you don’t need to worry about you don’t need to worry about everything else. We’ve got this and I had one I leave late last year where a guy 3233 years of age had testicular cancer, a couple of young kids and I just said to the wife, or could you take care of him and humorous stuff, and we’ve got this, and I’m sure everyone’s got stories. That’s our goal to continue to do that and but just have a sustainable solution. So yeah, let’s get this right. And Kathy, you’re spot on?

Fraser Jack
Yeah, I also think that there’s probably one thing that could be included in those figures from September 21, which we’re not thinking about. And that was just the sheer amount of new policies that were put in place, I think sort of in the in the second half of this year or even around when prior to that around April when you know the the agreed value was taking place. I think there was probably correct me if I’m wrong, Jeff, but there was probably a lot of inflows into into insurance companies that are slightly higher than normal.

Dr. Jeff Scott
I think I think the the entire industry in that lead up to the first of April 2020 saw that but again, I would have thought that would have came through in previous previous quarterly results. So this one in particular. Again, it was it was a well, it was welcome news. But I want to, again, I want to get under the bonnet and find out the all the rationale as to why.

Fraser Jack
Yep. Serena has been obviously, if we’re looking back at the past, there’s been one of the side, one of the last year 2021 was one of the busiest years for risk specialists.

Serena West
Oh, it was pretty horrifying, I would have to echo Kathy’s comments, seeing clients, particularly if they’re in their late 40s, where, where the premium pricing is getting pretty steep anyway, and you’re starting to look at is it a diminishing return for these people to even hold the cover? To be able to look people you know, straight in the eye and say, yeah, you’ve got another significant increase, that that’s not fun. And also, then, you know, when you’re trying to do the work, and you’re looking under best interest, and you’ve had these changed circumstances, in terms of what the products actually offer in the in the detail, it makes it really difficult to to genuinely give the client the best outcome because you are looking at what’s affordable, and what they have, and you know, what they have is probably the best one. But but they literally, you know, are saying to you, gosh, you know, this is this has gone up so, so much I can’t afford this. So a huge number of hours is being spent on that. And I think also consumers or clients these days, have an expectation that they want you to compare, not fully understanding what a comparison actually means. You know, as much as there is some some similarities between insurance, there’s differences and the new through underwriting and underwriting is of course, the key to most things in this discussion. So clients expect comparisons and if you don’t necessarily want to move people for for a small game, it becomes really really difficult and tedious. Yeah, and

Fraser Jack
certainly moving forward when we when we get into this particular topic there’s going to be a lot of different conversations to still be had with all the existing policyholders around you know, at what point does it become the old product become unaffordable? And you know, is is there you know, at what point does it become okay to start recommending you people switch to a newer product? Yeah, very good. Okay, well, let’s let’s leave this particular one here. We talked about the you know, how do we get here all the things of the past and in the next few episodes are really going to start looking forward and in the next episode, we’re gonna start thinking about the advisor mindset moving forward. So I will look forward to catching you all in the next episode.