Why not more annuities?

From a reader in the know:

Annuities are often unappealing because they’re expensive, and they’re expensive because of the capital rules and market dynamics. Capital rules make it challenging for insurers to back annuities with anything but investment grade debt. Using a 50/50 A/BBB portfolio would require capital of about 5% of annuity premium. Additionally these products never sell without the intervention of a sales rep, who will require a commission of 3-10% depending on annuity type.

So now the insurer’s shareholders have committed 10% of premium and need to earn a return on that equity. If I target an ROE of 12% (common in the industry), I need to earn a net 120 bps of spread (and more to amortize the commission!). So in effect, the customer is paying to get a treasury yield or worse. It’s understandable why they may prefer to take their chances with more traditional investments.

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