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Home > Library > Stable Times > Volume 3, Issue 2  The quarterly publication of the Stable Value Investment Association Second Quarter 1999 • Volume 3 Issue 2 Consolidation Transforming Stable Value Business Into the Few and the StrongBy Randy Myers The long-running consolidation of the financial services industry has finally begun to transform the stable value landscape. Last year, insurance industry giant American International Group Inc., a big player in the wrap business, completed its merger with SunAmerica Inc., a large issuer of traditional GICs. This year, Germany's giant Deutsche Bank will acquire Bankers Trust Corp., to create the world's largest banking entity and a formidable presence in the book value wrap marketplace. Also scheduled to join forces this year are Dutch insurer Aegon N.V., which sells guaranteed savings and investment products through its Diversified Financial Products group, and Transamerica Corp., a smaller but also significant player in the wrap business. Fewer Players "These combinations are in and of themselves somewhat interesting, but it's even more interesting since a few other providers have gotten out of the business," observes Karen Onderko, a director of Deutsche Bank's New York Branch and manager of its Benefit Responsive Products Group, which has about $7.25 billion of mostly wraps on its books. "I think we reached a point where a lot of providers looked at the stable value market, the level of pricing, and the terms people were asking for, and concluded that if they didn't already have a decent-sized book of business it would be hard to support this activity going forward." Many industry insiders see this new trend continuing. "The traditional GIC side of the business is going to be dominated by the biggest, strongest players, and those companies that continue to focus on the narrowest of markets will continue to shrink," predicts Lin Grey, vice president of group products for SunAmerica Life Co., which is responsible for the company's GIC activities. "But I don't think we're going to get to the point where we have just one or two competitors. I think there will continue to be a number of very strong competitors." Impact on Pricing Seen Negligible Grey's view suggests that while there may be fewer providers of stable value products, there's no indication that capacity will be reduced, and hence little if any near-term impact on pricing. "The biggest determinant of traditional GIC pricing is the appropriate spread to Treasuries relative to the insurer's ratings, and the ability of the insurance companies to invest their monies at an attractive spread to meet their return hurdles," says Grey. "I think that drives pricing much more than the number of players." "I'm not sure consolidation will have a direct effect on wrap pricing," adds Onderko. "On the other hand, wrappers must negotiate terms that are fair to both their clients and their own organization, and I believe there will be a greater focus on contract terms by wrappers going forward." Credit Risk Concentration: Tradeoffs Likely While consolidation will put more stable value assets in the hands of fewer players, it also will provide new marketing opportunities for some smaller providers, as plan sponsors scurry to make sure they don't have excessive credit exposure to any one insurer or bank. That shouldn't be too hard, since most contracts have explicit exit provisions that allow the plan sponsor to terminate the relationship with the provider. (Though an early exit may trigger a penalty payment.) The size of some of the newly combined entities in the stable value marketplace will be rather dramatic. Jon Fraade, vice president with AIG Financial Products, notes that based on numbers compiled by Galliard Capital Management, Diversified Financial Products and Transamerica combined had about $17.1 billion in synthetic GIC and wrapped assets outstanding at year-end 1997. A combined Deutsche Bank and Bankers Trust would have had about $16.7 billion outstanding at that time in synthetics and wraps. The next biggest provider would have been J.P. Morgan, with $7.6 billion. "What you see is that these two entities (Deutsche/BT and DFP/Transamerica) are becoming huge players relative to everyone else," Fraade says. "But stable value managers generally have diversification requirements that prohibit them from having any more than 5% or 10% of their stable value assets in any one wrapper. We're already seeing transactions where people are unwinding existing contracts with other providers and asking us to replace them." Onderko does not see credit-risk concentration becoming a significant problem for Deutsche Bank and Bankers Trust, however. "We were happily surprised to find that the overlap between our book of business and BT's book of business was only about 20%," Onderko notes. "And my sense from speaking with clients in that 20% category is that most are happier about the fact that their new counterparty is a bigger, more diversified institution than they are concerned about the fact that their exposure to a single organization is increasing. But there will be clients who will face concentration limits, and we will need to address those issues after we merge the two books." Grey says there was little overlap between the traditional GIC business at SunAmerica and AIG. "There were maybe one or two (pension) plans that had a GIC investment with both companies, but it was a rarity," Grey says. "More importantly, we were rated AA-, and now we are rated AAA as a result of our merger. That has allowed us to enter markets we were previously prohibited from entering based on our rating, and opened a lot of opportunities for us. Prior to the merger, we depended on innovation to grow our business. Now we have the innovation, plus the highest credit rating." The Merger Experience While it is impossible to say what challenges will confront Deutsche Bank/Bankers Trust, and Aegon/Transamerica when they merge, the experience of AIG and SunAmerica seems to have been a happy one. "In most of the insurance industry mergers to date, we've had holding companies being acquired by other holdings companies, and the individual life companies have been kept separate and distinct initially, and merged into another life company at some later point," observes Grey. "These mergers were dependent on cost savings to make them successful. That was not the rational behind our merger, which was done to expand market opportunities for both companies. In our case, we haven't been combined with AIG operationally, nor do we expect to." SunAmerica is, however, coordinating the GIC marketing activity for the AIG Life companies. "The object is for both of us to grow the business and to be competitive in all the markets in which we choose to compete," Grey says. With bigger and stronger competitors springing up in those markets as a result of the consolidation wave that's sweeping through the industry, SunAmerica's partnership with AIG should serve it in good stead. Look for more stable value players to adopt this strategy in the years ahead.
Read Next: Consolidation of the Financial Services Industry: ERISA Implications
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