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#Welcome to the American Equity Investment Life Holding Company's Second Quarter 2016 Conference Call.
At this time for opening remarks and introductions, I would like to turn the call over to <UNK> <UNK>, Director of Investor Relations.
Good morning, and welcome to American Equity Investment Life Holding Company's conference call to discuss second quarter 2016 earnings.
Our earnings release and financial supplement can be found on our website at www.american-equity.com.
Presenting on today's call are <UNK> <UNK>, Chief Executive Officer; <UNK> <UNK>, Chief Financial Officer; and <UNK> <UNK>, President of the American Equity Investment Life Insurance Company.
Some of the comments made during this call may contain forward-looking statements within the meaning of the Private Securities Litigation Reform Act.
There are number of risks and uncertainties that could cause actual results to differ materially from those expressed or implied.
Factors that could cause the actual results to differ materially are discussed in detail on our most recent filings with the SEC.
An audio replay will be available on our website shortly after today's call.
It is now my pleasure to introduce <UNK> <UNK>.
Thank you, <UNK>.
Welcome and thank you for joining us on our second quarter earnings conference call.
Our second quarter financial results had a similar tone as the first quarter.
Sales were strong again at $2.1 billion, and that marks the third consecutive quarter that we exceeded the $2 billion sales threshold.
Our policy holders now entrust us with over $43 billion of their funds, a 2.6% increase from the prior quarter end.
We also enhanced our shareholders' wealth by generating solid profitability and high returns on equity.
Our operating income for the quarter was $50.1 million or $0.60 per diluted common share.
And on a trailing 12-month basis that would translate into a 10.1% operating return on average equity, and if we exclude the effects of DAC unlocking, the return on equity bumps up to 12.3%.
Furthermore, earlier this week we strengthened our capital position by physically settling our two equity forward sales agreements and that generated $135 million of additional capital at an attractive valuation.
Before I turn the call over to <UNK>, I'd also like to mention a change that should be visible to you all.
We are always looking to strengthen our team and earlier this week, Steven Schwartz joined us as Vice President, Investor Relations.
Many of you know, Steven from his prior role as Life Equity Research Analyst at Raymond James, where he covered American Equity for more than 12.5 years.
Needless to say he won't have much of a learning curve in his new position with us and we're delighted to have him at American Equity.
So now let me turn the call over to <UNK> for additional comments on second quarter financial results.
Thank you, <UNK> and <UNK>.
Despite the challenges we face from the low interest rate environment and the DOL fiduciary rule, we are a strong and resilient Company and are confident that we can adapt and thrive as our industry evolves.
The Brexit vote in late June has led to further decline in investment yields and added to the challenges we face from the low interest rates.
We are taking actions to manage our renewal rates, the effects of which will materialize over the next 12 to 15 months.
Changes to new money rates and product terms should also be announced in near future.
A hallmark of our Company is its disciplined investment approach, which seeks to minimize credit risk.
Despite the pressure from lower investment yields; we are not breaking our discipline in taking on excessive credit risks.
One of our key promises to agents and policyholders is that policyholders can trust us with prudent management of their funds, and that we'll be operating and financially healthy for decades to come when those policyholders need their money.
While the DOL rule creates some uncertainty as to our long-term growth rate and the pace of that growth, it has not jeopardized the substantial earnings power of our in-force business; while a favorable outcome to legal challenges to the rule would remove this uncertainty, as <UNK> just discussed, we are positioning ourselves for continued success, should the rule not be delayed or overturned through litigation.
And of course, we're not losing track of the fact that the rule does not apply to non-qualified sales of fixed-indexed annuities.
While our comments on last quarter's call were interpreted by some as American Equity abandoning the fixed-indexed annuity business, nothing could be further from the truth.
FIAs have gained in popularity for a reason, they are attractive products and offer principal protection and guaranteed lifetime income that meets the needs of Americans preparing for or enjoying their retirement.
We believe American Equity remains a viable and growing Company and we'll continue to do so for years to come.
So, thank you for your time and attention this morning.
I will now turn the call over to the operator for questions.
(Operator Instructions) <UNK> <UNK>, FBR.
Hi.
Good morning.
Thanks.
Just wanted to ask a question on RBC, and you mentioned kind of the impact from drift on the credit side, but I was wondering if you could size the impact in the first half from higher sales, and that strain on capital.
The RBC ratio is at 328, I think pro forma ---+ the equity pull down.
Just trying to get a sense of, how much strain there was in the first half on the RBC ratio.
Well, we started out the year at 336%.
Do you know what's in there for [C4].
Not sure.
They could come down enough to avoid a capital raise, but we still have that uncertainty, relative to next year.
If for some reason the DOL rule litigation is successful, we don't want to be sitting there with a shortage of capital when sales opportunities materialize again.
We think that ---+ obviously interest rates are low right now.
The opposite of investing at crappy rates, is that you can borrow it at rates that are in the same market conditions.
So yes, we would understand that there are attractive terms or opportunities out there.
Obviously, we're still a little less than a year away from being able to do anything with the $400 million on a cost-effective basis.
But we had always talked about ---+ we talked about back in our capital offering a year ago, about the alternatives of reinsurance and debt.
And anticipating that, we might need to do one or both of those, depending upon where the sales progression has been.
And even if sales back up this year, we're going to still be ahead of the sales ---+ back up in the second-half, we're still going to be ahead of where sales were estimated to be when we were looking at the ---+ the capital would come from the equity offering.
So, we kind of had in our mind that next phase might be next year, it's been pushed up to this year, and that's one of the possibilities.
And one comment on the reinsurance.
Part of the reason that we opted not to proceed was because we were looking to use some of the cash that we have to fund that, which meant that the potential reinsurance counterparties were going to have to invest that money in the current rate environment.
And that all ---+ the process started before those rates reset to those levels, so once it got into late June, early July, it became clear that the desire to use cash would be an impediment to completing a reinsurance transaction.
No.
I would characterize what's in motion right now is as a bit bigger than the most recent one, but this is the fourth one I think that we've done, it goes all the way back to 2011 now.
I think the highest rate earlier was 30 basis points and I'm gauging these off of the fixed interest rate strategies as the benchmark, so at 40 basis points we're a little bit higher than the previous high of 30 basis points.
I think the third rate adjustment was more in the line of 10 basis points on the fixed rate strategy, so this is a bit bigger.
But we also have perhaps more policies, have already hit minimum guarantees through the previous rate adjustments and relative to the 52 basis points; of course the dynamic is it changes every quarter because we have a totally different mix of liabilities.
So as rate reductions filter in to pull the 52 basis points down, the new business would be added that would incrementally add to it.
And then we obviously have all the other dynamics of policyholder activities as well.
What number did you say Ken.
50.
Well that rate effect will not kick in immediately.
We've mentioned that it ---+ rate adjustments happen on policy anniversaries.
So of that $16 billion to $17 billion, the impact is going to be spread over 12 months starting September 1st as those policies hit their anniversaries and the rate adjustment takes effect.
So you're not going to see any kind of substantial adjustment to the cost of money from rates in Q3.
And also obviously since it starts on September 1, it's only going to be 1/12 of the policy base and I can't tell you how the funds are distributed monthly or quarterly over that number, but obviously the third quarter effect is going to be rather small because it will only be in for one month of the 3 and we'll only pick up 1/12, theoretically 1/12 of the policies.
There is no specific timeframe yet that we would provide although, I would think within a few weeks we'll have a more detailed framework of that.
I think in my view, the declared rate products, I think we said this last time, it doesn't take albeit ---+ there's not a long lead time to getting those products filed.
So, realistically if those things were ready to go by the first of the year that's plenty of time to have new declared rate products in the marketplace.
Although we wouldn't anticipate that those would be sold until come April of 2017, if and when the rule went into effect.
I'm not sure we expressed an opinion that it would get invested in a short period of time.
And certainly that balance has been going up, so it's not going to disappear by the end of this quarter.
Realistically, it could be down by the end of the year.
And we'll continue to follow our process of looking for the appropriate yields, keeping in mind credit quality and the other investment constraints that we have.
Hi, <UNK>.
That's a good question.
I'm not sure, are you talking industry-wide, is that ---+
I don't know the answer to that.
I sometimes speculate it could be DOL paralysis, as people start to look at the rule and figure out as a distribution, a marketing company, a producer how it's going to affect them or as insurance companies we all get a little bit distracted over the DOL now.
So, that's kind of what I chalk it up to as DOL paralysis.
I have not noticed anything at this point yet, <UNK>.
Yes, the NMOs are the ones that were affected perhaps the most, because of the deal.
And they need to find ways to remain relevant and in the business and keep their businesses going.
So you have some NMOs that have already broker dealers or RIAs that they need to figure out how they can look at their overall business model, utilizing those other companies.
There are some NMOs that are looking to buy a broker dealer or an RIA.
There are some significant ones that have filed with the DOL to become a financial institution.
And I think there are some that are primarily insurance only that need to find a partner or look at another strategy.
But they're all very busy, just like we are, trying to figure out what their business is going to look like in the future.
Well, we have, as I mentioned the 6 anchor accounts and then I kind of referred to 2 brand new ones that are just coming online that we're very excited about, that have huge potential for us.
And it always takes time of course for ---+ from the time that they sell ---+ from the time they sign an agreement to the time the applications start coming in, but we are excited about the 2 new ones, plus we do have some that we've been diligently working on that we think have a good possibility of getting additional selling agreements before the end of the year, which are pretty sizable accounts.
So we're very excited about Eagle Life's prospects as our name continues to get out there and our reputation continues to get out there.
So the $135 million took us to 328%, and an additional $100 million is what we have capacity if we took the full capacity under ---+ keeping our adjusted debt-to-leverage ratio at 20% below.
A $100 million is probably about 10 to 11 points in RBC.
And when you think about how much capital is needed for products that we put on, you should estimate somewhere between 6% and 7% is the amount of capital needed.
And remember that the RBC estimates that we put out are based upon a rolling 12 months of production, so that RBC estimate that we quoted as of the end of the quarter includes the first half of this year of sales and then the last half of last year, so that's a pretty robust level of sales.
And so, going back to one of the prior questions is, if sales would retract and be lower in the second half of this year compared to where they were last year, that will be a pick-up in RBC, because it'll be a lower [C4] charge.
Well, kind of two different issues, if the re-pricing is on the in-force block of business, the re-pricing on the new money rates is going to affect production, which of course then is going to affect how much capital we do or don't need.
As we go into next year, obviously, if we have looked at taking on additional debt and maxed out our capacity there, that takes that alternative away.
And so, going forward we would need to manage production based upon what organic capital growth would support.
And then beyond that, if we had production that would go beyond that we would need to manage capital through reinsurance transactions ---+ low reinsurance transactions.
