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Opinions from a trained actuary: Stick to simple insurance

In my insurance blast these few weeks, we talked about a particular trained field of mathematicians who assist in valuing the risks of insurance products, how they don’t seem to buy whole life insurance and investment linked policies.

I managed to get into contact with a US investment professional David Merkel. David is a trained life actuary as well as a CFA. He current managed his own fund, Aleph Investments, and talks about investment mainly in the domain of bonds and insurance companies at The Aleph Blog.

So I pose this question to David:

When I know that you are trained as an actuary it got me curious. They say that actuary assess the risks of insurance products to find value for consumers, at the same time evaluate the probable risks of the product.

What kind of insurance does an actuary actually buy for his and his family? Insurance are often sold with economic bias so what better way to know then find out from people that use actual data and determined it through quantifiable methods.

I heard that actuaries often buy only term life insurance only and that investment linked and limited whole life policies do not make sense. At the same time, it would seem that the way you can claim critical illness is such that most of the time you can claim it, you are almost very disabled or near death. In such a scenario wouldnt [sic] a pure death and tpd [sic] term life be suffice?

David’s reply was as follows:

This is my opinion, given my dealings among actuaries.  I could be wrong.  Actuaries avoid complexity in insurance products.  Why?  In general, complex products hide high profit margins.  Products that are easy to analyze, like term life insurance, are competitive, and profit margins are low.

The same is true for savings products, like deferred annuities.  Actuaries tend to buy simple products that cover basic needs.

Also, they tend to use insurance as catastrophe cover, because they know that having insurance companies pay on a lot of small claims is expensive on average.

There is an exception to all of this.  If you are so rich as to need to stiff the taxman, buying cash value insurance policies can make a lot of sense.  In that case, wealthy actuaries with clever tax advisors buy cash value life insurance.  Death benefits do not pass through the estate.

Actuaries are generally conservative, and avoid insurance products that are not easily analyzed.  That should be true of most insurance buyers.

I think that’s why my AIA insurance agent kept selling to me that his well heeled clients buy a lot of endowments.

We wonder whether many of us are in the same situation.

Whatever it is, the common myth in a person not knowledgeable in insurance is cheap equals lesser benefits. This sort of debunks it since guys factor in multi factors in their computation. Then again I could be wrong since there may be some important factors that were assumed, which could be gravely wrong when put into practice.

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lewis

Wednesday 2nd of October 2013

Hi, endowments are easy to analyse but the returns are low right?

TS

Thursday 18th of October 2012

Haha exactly. You need the endowment because the agent needs you to buy!

Oh insurance is my sideline job. Many agents have their own businesses outside! I'm managing my own investments and they are still doing pretty fine, plus i've got my other money sources :) I might not last in the industry after all the new regulations from MAS kick in though. It's getting increasingly hard to maintain your contract as an agent if you don't hit the quota. But I still feel that more people should learn about making money the more efficient way as long as I'm still active in this line.

TS

Thursday 11th of October 2012

I'm a financial planner in Singapore, and I'd like to talk about the point highlighted by David. While it would make sense in USA, the tax benefits from insurance does not apply well in Singapore. Unless you are self-employed or a business owner who does not contribute to the CPF (similar to 401k in USA), buying whole-life or endowment insurance does not make much financial sense since your tax reliefs are limited to $5000 (higher of CPF or life insurance premiums or combination). Most people would easily achieve $5000 of tax relief based on CPF alone.

I don't sell any whole-life or endowments for a simple reason: they do not bring value to the client. It's a good way to make money (if you are SELLING it). Any actuary or decent financial planner who has done his calculations before can tell you that any person who buys a whole-life or endowment policy can make at least TWICE the final amount if he placed the same amount of money into another investment instrument with similar or even lower risk profile. The fees by the company are huge, and it makes almost no financial sense to buy such products. However, I would recommend such policies to one group of people: those with very poor saving habits who require a kind of a 'forced savings plan'. If you don't know how to control the flow of money to you, then perhaps an endowment policy can give you the discipline to contribute cash monthly.

Otherwise, stick to Term policies. Your AIA agent, Drizzt, must be doing very well financially. I only hope he/she is at the same standards ethically. Then again, almost all insurance agents (financial planners, consultants, whatever you call them), are motivated by money. That is why they joined the industry in the 1st place.

Drizzt

Thursday 18th of October 2012

hi TS,

thanks for highlighting this. still it becomes a very good justification for insurance agents why you NEED endowments.

I'm just curious, if you don't sell whole life or endowments, how do you make ends meet as an insurance agent?

David Merkel

Sunday 19th of August 2012

A note on the picture: my first boss wanted to hang a sign over our department that would have said "we make mistakes." The caricature of actuaries is that they are always right. We do make mistakes, and if common sense is violated by what we say, we should be questioned. I've made my fair share of mistakes, particularly early in my career.

Thanks for mentioning me.

David

PS -- Universal Life policies can be term policies if you don't fund them well, or whole life policies if you do fund them well.

Drizzt

Sunday 19th of August 2012

hi David, thanks for visiting and the clarification on universal life. The picture was a good grab from the web. We set out to go against the norm to seek the truth on insurance, that is not to say actuaries are right. In fact, group think can set in as well.

k

Wednesday 15th of August 2012

Hi, May I know what do you think of Universal Life policies? would that be cash value insurance policy?

thank you.

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