Stable Value: Issuers’ Perspectives

By Randy Myers

At the right price, it appears, some new players are prepared to step into the stable value wrap business after all.

In the wake of the 2008 credit crisis, when wrap issuers were earning only about seven basis points on the stable value portfolios they insured, some began leaving the business. The compensation, they argued, wasn’t worth the risk. Wrap capacity has been an issue for the industry ever since; when Charles Schwab Bank announced late last year that it was going to shut down its $7.6 billion stable value fund, it cited wrap capacity constraints and the low interest rate environment as the reasons.

Wrap fees are now closer to 20 basis points. Those higher prices have enticed some new entrants into the market. In addition, some veteran issuers that had stopped writing new business after the crisis are finally looking to expand their footprint again by providing additional capacity.

RGA Reinsurance Company is one of the market’s new entrants. RGA actuary Ryan Stevens told participants at the 2011 SVIA Fall Forum that his group has secured all the necessary internal approvals to enter the wrap business with a “sizeable capacity limit.” It has begun filing contracts in key states, he said, and is in negotiations with several stable value managers to provide wrap capacity for some of the plans they serve.

“We expect the business to grow with the aging population and the increasing need for stable value products,” Stevens said. “We find the current risk factors acceptable, given proper controls. It’s a risk similar to those we analyze in our primary business (reinsuring mortality risk), and it fits well with our core competencies.”

Stevens said RGA was working hard to have its first contract written by the end of 2011. If that didn’t happen, it expected to have it done by early 2012. “From there, we’re hoping to continue to build infrastructure and staff to grow the business in a measured way,” he said. “We want to be a long-term player.”

Among the veteran issuers ready to expand their footprint is New York Life Insurance, which in the past has limited its participation in the stable value marketplace to guaranteed investment contracts, or GICs. But David Cruz, a director in the company’s Stable Value Investment Group, said that over the past year and a half, his group has gotten a commitment from the company to move into the wrap business. “It is probably going to be a measured step into the business,” he stressed. “We’re already familiar with a lot of plans (through our GIC business), and those are the ones with whom we are expanding our relationship.”

Adam Silver, director of the 401(k) stable value group at Royal Bank of Canada, said his firm is also among the established wrap issuers who are prepared to start growing their business again, “although how big and fast is to be determined.”

Silver, Cruz, and Stevens were part of a four-person panel, along with Marijn Smit, president of AEGON Stable Value Solutions, that assessed the outlook for the stable value wrap market during the SVIA’s 2011 Fall Forum. AEGON is the largest wrap provider in the marketplace, Smit noted, with contracts on about $60 billion of fund balances, all on the synthetic side of the business. Smit said that’s been a “pretty consistent number” for the past several years and that AEGON is not planning to grow it at the moment.

The company is interested, however, in seeing wrap capacity expand industry-wide. AEGON has been actively encouraging new players to enter the market, Smit said, even going so far as to use some of its administrative capabilities to help new competitors come up to speed. “It may seem counterintuitive,” he said, “but we think it is in the overall best interests of the industry to have a diverse universe of providers.”

Silver said the idea that wrap capacity constraints could prompt some stable value managers to follow Schwab’s lead in exiting the business remains a legitimate concern, even though he continues to view stable value as an “incredibly attractive product for plan sponsors.”

“Eventually, and hopefully sooner rather than later,” Silver said, “other banks will come into the market.”

Looking at other trends in the wrap market, the panel predicted that global wrap contracts, in which multiple wrap providers agree to similar terms when wrapping a single stable value fund, will likely continue to decline in importance. In 2006, the panel noted, 61 percent of stable value funds were globally wrapped; by 2010, that figure had fallen to 30 percent.

Cruz also noted that his organization is seeing more transparency from fund managers, a trend Silver applauded. “When we underwrite, we need to understand what the different strategies are, whether its in a global wrap structure or not,” he said. “I think the new approach going forward is to have a lot more information about the overall asset structure of a fund and an understanding of who the other wrap providers are. One of the lessons we learned over the past few years is that all issuers take the credit risk of other issuers, and there is huge pressure to work problems out when an issuer gets into trouble to avoid harming the stable value fund.”

Cruz also said his company now values the ability to periodically re-underwrite its exposure on its wrap contracts, which is why it is moving toward offering finite-maturity rather than evergreen wrap contracts. “Everybody understands maturity profiles and the ability to manage exposure to certain dates,” he said. “I think that is an important consideration for us as we move forward.”

Looking toward other possible changes in the stable value marketplace, some members of the panel expressed reservations about having stable value funds included in the portfolios of target-date retirement funds, or about seeing the stable value industry create “hybrid” or “income” funds that would feature both wrapped and unwrapped assets. (See “Income Funds: The Next Evolution for Stable Value?” elsewhere in this issue of Stable Times.)

Silver said many investors were disappointed during the 2007-2009 stock market crash to find out that they could lose money in target-date funds, and that as a wrap provider he wasn’t sure he wanted to be involved with “a product that doesn’t ultimately achieve what it is expected to deliver.”

Silver also said hybrid funds could be problematic for wrap issuers for a number of reasons, notably the unpredictability of investor behavior in such a fund. In any event, he said he didn’t think such funds would prove very popular with retirement plan participants since they wouldn’t offer the principal protection that stable value funds have provided for decades.