The overall breadth of the insurance product marketplace has increased dramatically over the last 30 years. With the countless products now available, it is more important than ever to make certain insurance products are carefully and thoughtfully purchased as part of an individualized financial plan. If someone is trying to sell you a product without knowing your overall financial picture, there is no way for them to know this product is actually in your best interest.
What is the purpose of Insurance products?
Life insurance and annuities are both insurance products, and are two different sides of the same coin. Both are tools used to transfer risk from the buyer to the insurance company. They are both priced in different ways based on life expectancy (mortality) calculations. What’s the difference between the two?
- With life insurance, the insurance company wants you to live. The insurance company makes a mortality calculation down to the month based on your health records and family history. This is what your insurance premium is based off of. In general, the lower risk you appear to the insurance company underwriters, the lower your premium will be.
- With an annuity contract, the insurance company wants you to die as soon as possible (yes that’s morbid, I know). The insurance company is pooling risk based off a group of buyers they expect to purchase the products. They price the products knowing that a large number of people won’t make it through a long enough period of payments to financially get into the insurance company’s pocket.
For more on this, here a link to a great podcast with renowned health expert Gary Brecka. He worked for 20 years in the mortality department of a large life insurance company doing these exact calculations on mortality. He eventually left to start a health company focused on increasing longevity of life for people rather than calculating when they were going to die. A much more noble endeavor in my opinion!
What Drives insurance product sales?
In periods of high economic uncertainty, you often see an uptick in people being sold insurance products out of fear. During Covid, for example, life insurance sales spiked as a result of people grappling with the fear and uncertainty of the virus leading them to misjudge the probability of death. Last year in 2022, with inflation hitting levels we haven’t seen since the 1970s and the unusual event of both stocks and bonds being down in the same year, sales of annuity products spiked. People were overestimating the probability of the poor returns of 2022 continuing into the future and seeking out annuity products that they deemed “safer.”
Both the uptick of life insurance sales in 2020 and annuity sales in 2022 are partially the result of what we call recency bias – our behavioral tendency as humans to vastly overestimate recent events as if they are going to continue indefinitely into the future. This sometimes causes us to make decisions based off emotions instead of facts in times of uncertainty. However, there is a secondary component to this…
“Caveat Emptor” Let the Buyer beware
Not only do people seek out these insurance products more in times of uncertainty, but insurance companies are not stupid. The sales tactics are going to focus exactly on playing to these emotions to drive sales. When most insurance agents or advisors are selling insurance products, they are not required to act as a fiduciary to the buyer. This means the product only has to meet a suitability standard (much lower bar) and does not actually have to be in the best interest of the buyer. There is a reason insurance companies and traditional financial services firms lobby so hard against a true fiduciary standard.
Added Complexity does not equal added value
Another issue we see is that many life insurance and annuity products are no longer the plain vanilla risk transfer tools they used to be. Many now have some sort of investment component built into the contracts and products. This does not necessarily make all these products bad, but when you attempt to layer investments into an insurance product two things happen:
- It adds complexity
- It adds fees
In many cases we come across for review, the added complexity and fees are to the benefit of the insurance company and the agent selling the product; not the person purchasing the product. Most insurance agents aren’t doing anywhere close to the level of financial planning work or due diligence that would be required to meet a fiduciary standard for the products they are selling.
Seek out an expert, not a salesperson
There are definitely instances where certain products make sense for certain people, but this is on a case by case, individual by individual basis. As we mentioned earlier, insurance products should never be purchased out of fear! They should only be bought as they fit into your overall financial plan. If you ever feel yourself being pressured into a product sale, our best advice is to take a step back and have an independent expert evaluate the product before moving ahead with the purchase. There are many good advisors out there who will do this evaluation without being compensated for the product sale.
