If the U.S. experience is any indication, investment advisors should be on the watch for swift changes to the terms and features of guaranteed income products offered by insurers.

North American insurance manufacturers are reconsidering the features of segregated funds with so-called “guaranteed minimum withdrawal benefits”, says Moshe Milevski, an associate professor of finance at York University in Toronto and executive director of the Individual Financial and Insurance Decision Centre.

The investment portfolios that back the promises for these popular products are overwhelmingly tilted toward equities. And those portfolios have been hit hard by the market slump in the crucial early years of the products’ life. As a result, the cost to the manufacturers is proving too high to sustain. As well, offering firms have been handcuffed by internal and regulatory capital reserve demands that are soaking up cash.

To deal with the issue, insurers are contemplating three changes, Milevski says. First, advisors can expect fees on these products to increase by 20 to 50 basis points. Similarly, the guaranteed interest rates and market lock-in frequencies (often called “step-ups”) will probably be reduced. Finally, the manufacturers may further limit the amount of equities that clients may hold in their segregated fund portfolios.

“This process has already started in the U.S.,” says Milevski, “and will probably be followed in Canada.”

Here’s a look at some of the changes that U.S. market leaders have made in the first quarter of 2009:

> As of Jan. 1, Pacific Life Insur-ance Co. lowered its annual lifetime payout to 4% from 5%.

> In early February, the Hartford Financial Services Group Inc. announced that it would transfer client holdings from several aggressive equity portfolio options to various bond and money market fund options, unless clients advised them otherwise by April 23.

> In March, Hartford announced it would not offer the living-benefits rider on its annuity product to existing contractholders of certain products after April 20.

> At the end of March, John Han-cock Life Insurance Co., a subsidiary of Toronto-based Manulife Financial Corp., announced that it would stop offering versions of its GMWB product with high equities content.

> ING Groep NV announced in early April a shift toward “low-risk rollover products” from the variable and fixed annuities business.

In Canada, clients will pay more for Transamerica Life Canada’s Five for Live version of the GMWB product. But that is just the beginning. Transamerica is also reviewing its product’s key features, with an eye to making changes later this year.

“Features were not based on these economic assumptions,” says Pierre Vincent, senior vice president of product strategy and business profitability with Toronto-based Transamerica. He notes that interest rates have dropped and that equities-market volatility continues to be high. “Transamerica, like all the companies, will not just be making a pricing change.”

Andrew Edelsberg, analyst and vice president with New Jersey-based A.M. Best Ratings Co. , says the downturn has forced the product manufacturers to determine if the policies were appropriately priced, given the risks the insurers were assuming. “Many companies,” he says, “have determined that they’re not.”

A.M. Best analyst and vice president Steve Irwin notes that in the U.S. market, something of an “arms race” has developed among the leading providers of GMWB products over the past few years. That competition for clients has led to increasingly generous features.

ING, for example, has gained the second-largest market share thanks to the success of its LifePay Plus product, which provides a 7% annual increase to the withdrawal base for the first 10 years and automatic quarterly resets (the withdrawal base is raised to a new high-water mark every quarter, or maintained at the previous one if that’s higher) once the payout phase begins.

Manufacturers will abide by the contracts they’ve already sold, notes Irwin. But, Edelsberg adds, some insurers may move toward passive investing in their underlying portfolios, replacing actively managed funds with cheaper indexed funds.

During the annual conference of the Association of Insurance and Financial Analysts in Arizona in March, Peter Rubenovitch, chief financial officer of Manulife, said Manulife was considering changes to its products globally, including: more hedging (it was hedging only a small portion of its U.S. equity products at the time); additional fees; less frequent step-ups; bonus reductions; the reduction of equities content in funds; and “other risk-mitigating functions.”

@page_break@But Manulife doesn’t plan any changes to its Income-Plus product following a review in April.

Kevin Strain, senior vice president of individual insurer Sun Life Financial Inc. in Toronto, acknowledges a broad movement in the U.S. toward changes in GMWB products. He says this could also occur in Canada.

“It’s about striking the right balance,” he adds, “to make sure the product is meeting the needs of shareholders and consumers.”

Mississauga, Ont.-based RBC Life Insurance Co. will be launching its GMWB product this year, and Neil Skelding, president and CEO of RBC Insurance, confirms that in keeping with the overall trend, it will be more conservative than existing products. He has given few details, however, but says the underlying portfolio will be hedged.

Depending on the GMWB product type, advisors and contract holders normally receive 60 to 90 days notice of changes to portfolios or features in the product.

Brian Shumark, a financial planner with HC Financial Group Inc. in Toronto who sells GMWB products, thinks advisors won’t be surprised to see them change.

“You fully expect it,” he says. “You’d be naive not to expect it. There are a number of things [manufacturers] can play with.” IE