More misery for with-profits investors
Prudential has become the latest insurer to slash with-profits bonus rates amid continuing stockmarket turmoil.
The “worst stockmarket conditions in 70 years” have led to with-profits funds losing between 6% and 10% of their value, says Prudential. It blames the sharp fall on the poor performance of the FTSE All-Share index, which plummeted by 29.9% during 2008.
With £2.8 billion added to policy values, Prudential says the ‘smoothing’ nature of with-profits funds has protected policyholders from feeling the full impact of the economic downturn.
With-profits funds use investors’ pooled money to invest in a mixture of equities, property and lower-risk investments such as gilts. By holding back some of the returns generated from ‘good years’, these funds are able to lessen the blow of ‘bad years’.
However, the chaos seen on the stockmarket has had a big impact on the value of with-profits funds. Legal & General, Norwich Union, Standard Life and Friends Provident have all announced falling with-profits fund value or reduced bonuses. Norwich Union has even backtracked on plans to redistribute to policyholders additional money built up in its funds.
Prudential says annual bonus rates will be 3% for most with-profit and personal pension policyholders, down from 3.5% last year. Prudential annuity customers will receive bonuses of 2%, down from 2.75% in 2008.
David Belsham, chief actuary at Prudential, says: “Investment markets have performed very poorly in 2008, [yet] our policyholders have been protected from the full impact of the market falls and will typically see a reduction of between 6% and 10% in their accumulating with-profits policy values.
“In such exceptional market conditions, this compares very well with many directly exposed investment options available to customers.”
Belsham adds that with-profits products are a medium to long-term investment.
Norwich Union: Last November, Norwich Union cut payouts to its 2.4 million with-profits customers with final bonus rates reduced by up to 10%. Regular bonus rates and market value reductions remained the same.
Legal & General: In October, Legal & General announced it was cutting final bonus rates by between 5% and 9%. No changes were made to regular bonus rates.
Standard Life: In January, Standard Life introduced market value reductions to its with-profits plans and raised existing ones by up to 30%.
Friends Provident: In January, Friends Provident slashed final bonuses on its with-profits funds by as much as 22.5%. It also reduced regular bonuses after the value of its with-profits fund fell by 10.5%. Market value reduction rates (MVRs) – the charge on people who leave the fund early – were increased to “reflect latest market conditions”.
Should you ditch your with-profits policy?
As more insurers announce falling values and slashed bonuses, many with-profits investors will be wondering whether to hang on to their investments or cut their losses and run.
Before deciding, you need to weigh up your options:
* “Check the surrender value and whether there are any penalties for leaving early,” advises Jason Witcombe, a director at Evolve Financial Planning.
* Some policies allow surrender without a penalty on the anniversary of their start date.
* Ian Lowes, director of Lowes Financial planning, recommends that you check the second-hand market to see if you can sell your policy. Someone may be willing to pay more than the insurer but, if they are, you need to ask yourself whether the policy is worth surrendering.
* Most with-profits policies are made up of a terminal bonus paid out when the policy matures, so if you have 10 years or more left to run, it could be worth hanging on, says Lowes.
* By surrendering your policy early, you instantly lose any life insurance that you’ve been paying. If you are in poor health, this could be a problem especially because the replacement cost could be substantial.
The amount of cash a policyholder receives from the life insurance company if they surrender (terminate) a life insurance policy before it becomes payable on death or maturity. Surrendering an investment-linked life assurance policy early is likely to be a poor deal as most policies load the majority of the policy’s fees and charges in the early years and so surrendering the policy back to the life company will result in a very low payout.
An additional bonus added to a with-profits policy when it comes to the end of the term specified at the outset and “matures”. The terminal bonus is paid as a percentage of the final payout and is at the discretion of the life company and are not guaranteed and the rate changes from year to year depending on the return from the with-profits fund. In some cases, the terminal bonus accounts for half the maturity value of the policy.
With-profits funds are administered by life assurance companies and access to them is through the life company’s products such as bonds, endowments and pensions. Your monthly contributions are pooled with other investors’ money and invested in a mixture of shares, bonds, property and cash. Each year, a “reversionary” bonus (a declared percentage) is added to your investment and a large part of the policy’s final value depends on these bonuses during the investment period. In years when the with-profits fund performs well, some of the return is held back and paid out in years when the fund does badly and this “smoothing” process makes with-profits investments unique. When the policy matures, the life company may pay a discretionary “terminal bonus”.
Generally thought of as being interchangeable with life assurance, but isn’t. Life insurance insures you for a specific period of time, at a premium fixed by your age, health and the amount the life is insured for. If you die while the policy is in force, the insurance company pays the claim. However, if you survive to the end of the term or cease paying the premiums, the policy is finished and has no remaining value whatsoever as it only has any value if you have a claim. For this reason, life insurance is much cheaper than life assurance (also called whole of life).
The familiar name given to securities issued by the British government and issued to raise money to bridge the gap between what the government spends and what it earns in tax revenue. Back in 1997, the entire stock of outstanding gilts was £275bn; by October 2010 it had surpassed £1,000bn. Gilts are issued throughout the year by the Debt Management Office and are essentially investment bonds backed by HM Treasury & Customs and considered a very safe investment because the British government has never defaulted on its debts and this security is reflected in the UK’s AAA-rating for its debt. Gilts work in a similar way to bonds and are another variant on fixed-income securities.
An interchangeable term for shares (UK) or stocks (US). Holders of equity shares in a company are entitled to the earnings and assets of a company after all the prior charges and demands on the company’s capital (chiefly its debts and liabilities) have been settled. To have equity in any asset is to own a piece of it, so holders of shares in a company effectively own a piece proportionate to the number of shares they hold. (See also Shares).
In exchange for any lump sum – usually your pension fund – an annuity is “bought” from an insurance company and provides an income for life. When you die, the income stops. Annuity rates fluctuate daily and depend on your sex (although from 21 December 2012 insurers will no longer be able to use gender as a factor when calculating annuities), age, health and a number of other factors, so you have to pick the right one and, once bought, its terms cannot be altered, so seek financial advice.