On the verge: equity indexed life insurance has been around for a decade in the United States. It finally may be poised for a breakout.

The concept sounds so enticing: Design a cash-value life product that, over the long term, should outperform whole life and universal life, but without the catastrophic downside potential of variable life.

Actually, the product has existed since the mid-1990s, but it never flourished as buyers sprang first for variable universal life during the heady days of the bull market and then for the refuge of fixed life products when the stock market went bad. It is called equity indexed universal life, the life-insurance cousin of equity indexed annuities.

Equity indexed annuities became a mainstream product last year, when sales shot up 66% to $23.3 billion. Sales of equity indexed universal life also grew at a fast clip, but known first-year premium totaled only $123.5 million. In short, it was a product whose time had not yet come.

But with the surge in equity indexed annuity sales came a sense that equity indexed universal life's time is near. Major writers are said to be entering or re-entering the market this year, driving up prospects for new distribution and a doubling of new premium. And with the stellar performance of equity indexed annuities last year comes the anticipation that agents and customers are growing more at ease with the index life product. Even the most optimistic industry voices, however, do not expect index life in the next few years to come anywhere near last year's sales volume for index annuities.

There are many reasons. One is that only 10 companies were known to write the product last year, according to Advantage Compendium, the Missouri-based company that tracks index products. And as might be expected, few agents actually sold it. "A lot of producers perceive this to be a complex product, when really it's a traditional UL product with a different way of crediting interest," said Sheryl J. Moore, president of Advantage Group Associates, an Iowa-based research firm that works closely with Advantage Compendium. "They're used to selling a traditional UL or variable UL, and when you tack on a no-lapse guarantee to UL, they figure they'll just keep selling what they're used to selling."

Agents also find incentives to sell index annuities over index life insurance. Moore pointed out that agents can sell the annuities without underwriting, and they don't have to wait to get paid. She predicts steady growth for index life, perhaps $10 million to $15 million of additional sales each quarter. But once the new carriers become established in the market, she sees "a potential for some real good growth." She added that some carriers have been "doing a great job training their sales forces."

Agent training and support have enabled a few companies to dominate in index life, said Jack Marrion, president of Advantage Compendium. "That's what made American General a huge player at the turn of the century and what has made AmerUs Life the top seller the past two or three years," he said.

Sales Projections

Marrion said he can't envision equity indexed universal life ever becoming more than a niche product with more than $3 billion in annual sales. "If interest rates get back up to 7%, and insurers can offer a 7% universal life yield, my sketchy, data shows that people won't even bother with the index side," he said. "They'll grab a sure thing." Marrion, who is less bullish on the industry than Moore, said that new writers may boost sales this year to $200 million, but that sales growth in subsequent years would be minimal.

Tim Pfeifer, an actuary and a principal of Milliman Inc., expressed optimism for the future of index life. "If a couple of the large VUL players move into equity indexed universal life, it could tamp up the market quickly but like any new product line, sales would start slowly and grow," said Pfeifer, who consults with insurers on product development. "I do think the product line is one of the growth areas for the business, and it's going to start tracking stronger as companies see you can really apply the equity indexed annuities principles to a life product."

Like index annuities, index life products require that insurers invest most of the available premium to buy high-quality bonds to guarantee some minireal growth each year. A small portion is used to buy equity index derivatives, such as S&P 500 options, which they can exercise to credit additional interest to each contract. A main design difference is that index life products tend to be built on a universal life chassis and are designed for periodic premiums, whereas equity indexed annuities are typically built around a single premium. Therefore, said Pfeifer, the hedging is more complex.

Adding to the difficulty is that the notional amount--the amount to be hedged--varies from policyholder to policyholder ha an equity indexed universal life policy due to cost-of-insurance charges and loads. "So even if two customers pay the same premium, the company normally would be buying a different notional amount of hedge for the two insureds," said Pfeifer. "That doesn't tend to happen on an EIA. So the mechanism to properly hedge, track and manage an EIUL is tougher."

Companies that already sell index annuities may gain some economies by blending the hedging of equity indexed annuities and equity indexed universal life, he added. And if the equity indexed universal life business is consistent with equity indexed annuities distribution, insurers "will have an easier jump than if they're not doing EIAs," Pfeifer said.

Regulatory Issues

Insurers writing index life also face regulatory issues. Regulators still are considering whether equity indexed annuities are securities rather than fixed products, and there could be ramifications on the index life side, Pfeifer said. There also is the matter of policy illustrations at the point of sale. The National Association of Securities Dealers and the Securities and Exchange Commission have guidelines on how the industry can illustrate variable universal life insurance, mandating an illustration assuming a 0% annual return and allowing illustrating at a 12% return. But, there is a lack of clarity for equity indexed universal life, Pfeifer said.

Index life's marketing position lies between fixed cash-value life products, whose upside potential is limited to declared interest rates, and variable lira, a line with only a handful of products at most that offer the kinds of guaranteed minimum-withdrawal benefits and minimum-accumulation benefits that have so helped variable annuities. Index life designs, however, can guarantee a buyer each year that cash values will grow, minus any insurance charges, and that index gains can result in additional percentage returns, sometimes limited by a defined maximum cap.

"It's not a traditional UL, and it's not a VUL because it has stronger guarantees," said Moore. "It's a perfect product for any type of market." Marrion said that slightly higher interest rates and a decent stock market would help the performance of most index life products. That's because the higher rates would reduce the amount of premium a company would have to spend on bonds to support the guarantee. It also would allow a writer to increase its stock-option participation rate and/or raise stock-option-crediting caps.

Moore said writers use numerous product designs. The predominant design for a long time has been annual point-to-point using the S&P 500 Index. Some writers offer other indexes, and some employ averaging strategies. "There are advantages to having a design easy to understand, easy to explain to producers, and easy for consumers to calculate their growth," Moore said. "Carriers that do a good job making sure products are straightforward and have diligent training programs will be the ones most successful in the market."

Key Points

* Index life sales should grow briskly over the next 12 months as existing writers improve and large insurers enter the field.

* A commitment to producer education and support is a prerequisite to success.

* Equity indexed universal life can be designed for specialized markets, such as premium financing or corporate needs.

* Overly optimistic performance illustrations could lead to market-conduct problems.

Learn More

National Life Insurance Co. A.M. Best Company # 06790 Distribution: Career agents, independent agents

Life Insurance Company of the Southwest A.M. Best Company # 06647 Distribution: Career agents, independent agents

Old Mutual U.S. Life Holdings Inc. A.M. Best Company # 70403 Distribution: Managing general agents, banks, brokers

American General Life Insurance Co. A.M. Best Company # 06058 Distribution: Personal producing general agents, brokers, independent marketing organizations, agency system

For ratings and other financial strength information about these companies, visit www.ambest.com.

What is Equity Indexed Life Insurance?

A LIFE INSURANCE POLICY that guarantees a small annual return on the cash value through investments in fixed-income instruments and, potentially, an additional annual return through equity index derivatives. Unlike variable universal life, the product guarantees that market fluctuations will not cause the cash balance to decline.

Equity Index Universal Life Annual Sales

Sales results tracked by annualized premium sales indicate the market for equity index universal life sales.

Equity Index Life Insurance-Top Writers

Total industry equity index life annualized premium sales.

                           2004

AmerUS Life                $74,628,553
Conseco *                  $20,563,295
Old Mutual                 $17,609,175
Lafayette                   $5,560,605
Allianz                     $4,122,000
AIG/American General          $500,000
Life Insurance Co.            $249,389
 of the Southwest
Union Central                 $246,942
Americo                        $20,016

                             Q1 2005

AmerUS Life **             $18,026,000
AIG/American General       $15,000,000
Old Mutual                  $6,469,615
Lafayette                   $2,757,378
Conseco                     $2,473,306
Allianz                     $1,634,000
Life Insurance Co.
 Of the Southwest             $112,231

Note: table made from bar graph.

* Bankers Life & Casualty sales are reported with Conseco.

** Indianapolis Life and Bankers Life of NY are included in AmerUs
Group totals.

Source: Advantage Compendium