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MJW missed their chance

Michael Naylor, of Massey University, unpicks the Melville Jessup Weaver report into life insurance distribution.

Tuesday, November 24th 2015, 6:00AM 14 Comments

The Melville Jessup Weaver Life Insurance Report has some worthwhile ideas, which the dispute over commission has overlooked.

MJW recommends that "insurance market conduct" be regulated, preferably by the FMA. 

MJW recommends that an ICNZ-style Fair Insurance Code be established, again under the FMA.

This could include areas like requirement to offer a "worthwhile product" and to meet claims within a "reasonable period".

MJW also recommends that rules around replacement business be established, so that reasonable replacement can be distinguished from churn.

MJW also recommends that the associations be professionalised and made compulsory.

The issue of commissions did need to be talked about by NZ insurers.

The FMA is examining this and for industry to ignore the issue would be stupidity. A move to ban soft dollar and change the upfront-trail mix are obvious recommendations.

However the bad parts of the report are extensive. The worst part of the report is not the recommendations but the low level of analytical quality and the clear mistakes. There are many unsupported assumptions made, based on minimal proof and faulty data.

1) MJW cite the higher commission advisers receive and then correlate this to higher rates of policy lapse by independent advisers than bank policies and then act as if fact A caused fact B, without any attempt to examine the markets. They say "our analysis" but then state no analysis. A few moments  thinking about the issue raises questions like; bank-originated polices are tied to mortgages so won’t be cancelled; or behavioural issues like bank clients are younger, know little about how other policies may be superior, and  have received no advice about this.

2) MJW says the differential in lapse rates is caused by a poor culture, without any analysis of exactly what this cultural issues is. Actually the differential in churn rate may be linked to quality issues - advisers may be replacing badly-sold bank-originated policies because the sums and conditions are inappropriate, whereas bank staff will just accept good quality adviser-originated policies because these suit the customer. Research is available on these behavioural issues but MJW seem unaware of it.

3) MJW don’t understand the extent or the reasons for under-insurance. MJW haven’t even read the FSC underinsurance report! If they had they may have understood that NZ doesn’t have a quantity issue, instead there are quality issues – inappropriate sums insured, and little income/ trauma/TPD insurance. Their proof for under-insurance is a table comparing annual life premium per capita across countries, without understanding that table includes investment-linked life policies, which are actually investment, and compulsory, often inappropriate, group-life,  so are meaningless.

4) MJW give no reasons for the recommended maximum levels of upfront and trail commission. Instead they just take them from Trowbridge. This ignores the quite different cost structures between Australia and NZ, especially the larger scale in Australia and that life insurance comes with superannuation. The MJW comparison looks at gross commission rather than adviser profit levels. Any useful analysis would include costs for totally new customer policy origination, costs for replacement customer policy origination, costs for policy maintenance, lapse rates, time discounting, etc. I am staggered that MJW, being actuaries, include no modelling of the issues, and offer no online excel spreadsheets of the impact of their recommendations on adviser income.  They could have asked me – I’d have directed them to my spreadsheet for free!

My spreadsheet shows that using MJW’s figure of a 10% lapse rate p/a, 3% discounting, $1500 premium, and seven-year trail, 30 polices sold per year, no fees, with reasonable cost figures of $1200 policy set-up, and $150 p/a maintenance cost, then moving from a 210%/7.5% mix to MJW’s 70%/20% mix drops adviser profit from $66,781 to $6,626. Business valuation based on a three-times multiple drops from $200,342 to $19,878. The financial impact on new entrants is even worse.

5) MJW do not offer any analysis of the cost differences between bank staff and advisers in terms of policy origination. This is not hard to do.

6) MJW concentrate on sales issues affecting advisers – soft dollar and commissions - and imply that since bank staff don’t have these, then bank-originated product are better. Yet the FMA has only ever commented on issues relating to poor-selling by bank staff, and have found no issues with advisers. Banks use tactics like "naming and shaming" to ensure staff meet quotas, which MJW seems unaware of.

7) MJW advocate inclusion of insurance within Kiwisaver. This is useful at a casual glance, but any analysis of Australian reality reveals that while coverage rates are high, sums are inappropriate as cover increases with income, and other personal insurances have lower cover than NZ. MJW are again mistaking quantity for quality.

8) MJW also assume that all NZ insurers use the 210%/7.5% spilt. Yet NZ insurers use a variety of models, with Fidelity having used a lower upfront/ higher trail for years.

9) MJW are inconsistent. They say that under-insurance is an issue, that insurance needs to be sold and that more advisers are needed, yet they recommend drastically reduced adviser income, and therefore a sole reliance on bank staff.

Summary

The good parts of the report are common industry knowledge and most of the recommendations are cut-and-paste from other reports.

MJW offer no new data or modelling, and did not even request the correct data. The policy analysis is weak, and would be failed any university examiner.

I’m not sure what the FSC paid for this report but I could have mocked it up in a weekend for a tenth of what it cost, and put in far more interesting insights. Put out an open call next time, FSC.

Commentators have attacked the report for coming to a pre-set answer. That is irrelevant - normally these reports are produced to justify an already-agreed solution. I’m surprised that FSC members didn’t understand that process. They shouldn’t resign because they disagree with the results, but should be bitter that their money had been wasted on a cut-and-paste job. Commissions are not the biggest issue in industry, but it is vital that industry comes to some agreed alternative to the current unsustainable levels.

The biggest issue with this report is the missed opportunity to do that properly. MBIE are now free to impose whatever solution they think fit.

Tags: Life insurance MJW Report

« MJW report scores a DFocus on what's important in 2016 »

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Comments from our readers

On 24 November 2015 at 8:12 am Backstage said:
It's not often that i agree with you but I do today. A poorly written and constructed report that would have any under graduate struggling to remain in class.

Full of assumptions and then twists assumptions into facts without any supporting evidence... in fact if you follow their thinking you could imagine as advisers are so conflicted and stupid that any insurer that offers the best trip and commission would now be getting all new business income... this is not supported by industry data.

Seriously, shame on MJW and if I was Rob I would not pay for that report and demand money back. But... i would like to know what the exact brief was...!!
On 24 November 2015 at 9:47 am rosconz said:
Thanks Michael, that's an excellent summary of the report and the issues which were not addressed. What a shame MJW missed the opportunity to create some meaningful discussion and workable solutions. Cheers!
On 24 November 2015 at 9:52 am Interested AFA said:
Very impressive analysis, Michael - thank you.
I agree the opportunity has been missed, however the optimist in me would like to think that the MBIE will not 'impose whatever solution they think fit'.
One 'solution' that I could live with though would be a ban on taking upfront commission on replacement business - if replacement business could only be written on spread commission terms then I feel that over time this would change behaviors and be good for the industry. Comments?
On 24 November 2015 at 10:41 am Mike Naylor said:
Commissions will be regulated sometime as NZ is well out of line here - just take a moment to think about the current comments in the non-industry media about the MJW report - its all outrage.
My feedback from MBIE and FMA officials is that they don't understand adviser costs or issues. They admit that and would welcome a well-researched cross-industry proposal. Failing that they are likely to impose the Aust rules. Since the FSC have failed us, does the IFA/PAA have the research capacity and funding to do the job properly?
A ban on upfront commission for replacement business is not that simple. Look at the discussion in "the MJW report scores a D" story. Any adviser would claim their policy change is not churn, and that there are costs in a full review of needs. The MJW divides cost into 'new non-insured client' vs 'previously insured client' and claims the costs are different as the first client needs to be sold on the idea of insurance. Are they different? There does need to be cross-industry agreement on a definition of 'replacement'. How to do this if the FSC is now dead?
Insurers are also banned by competition law coming to a compulsory agreement so a 'conduct code' suggested by industry and enforced by the FMA would be useful - most countries have that.
On 24 November 2015 at 11:33 am RiskAdviser said:
While there's plenty of up in arms over commission and commentary about commissions without understanding the industry. There is a simple point being missed. The insurers pay everyone, banks, advisers, tied sales forces etc, for acquiring new clients. Yes the focus has been on commissions for advisers, but if this is to change, the commissions for banks also needs to change. They don't do it for free either.

If we focus on the client, because this is what the review is all about we can effect some positive change. My own engagement with the FMA suggests they don't want to play with commissions, it creates too many unwanted distortions that don't play to the desired goal of improving the public's access to financial services.

If we focus on the core issue providing financial advice and on-going service to clients, the commission issue becomes a very simple one to manage.

By ensuring, once a client has a product, they are continued to be looked after then the rest will follow suit. Regulate the servicing, if the service commission is set at something reasonable and this follows the servicing adviser, rather than the originating adviser, for all products. The insurers will naturally reduce the upfronts, they do already with the commission structures available now and advisers who want to service their clients will do so.

Don't be naive in assuming lower commissions mean lower premiums. Reducing upfronts won't pass on any savings to policyholders, it will all go to to other areas of the insurer's business or the shareholders.

(Read, reduce upfronts and insurers will start doing things like paying for offices and doing lead generation and advertising for advisers, like the bad old days of tied advisers, is this what the FMA and MBIE really want?)

With the approach of directing servicing we'll end up with two distinct types of advisers, hunters and farmers. The hunters will find clients and put cover in place and get paid for this with the incentive of upfront commissions and the farmers will look after them. In between you'll have the game hunter, who finds and writes new business but generally works an existing larger client base.

This will also reflect in the value of good adviser businesses being worth more and sales organisations not so much, when it comes to succession and resale.
On 24 November 2015 at 11:44 am perold12 said:
Are the authors of this report not missing the point here and starting by focusing on the wrong area?

The report is littered with comments about "sales" and how they may inappropriately influence the process, and yet should the real focus not
be about educating all parties as to the importance and value of quality financial advice.

The product structure by default would then need to support advice and a sale if any is an outcome of the advice process is not just another "sale."
On 24 November 2015 at 11:57 am Dirty Harry said:
Thankyou Mike. This one piece of work could be among the most important contributions you have ever made to the industry. And I say that knowing about the work you and Claire et al have done!

The answer, for understanding lies with the fact of Mr Chamberlain's former employment as head of Insurance at KiwiBank. Knowing this, re-read your 6th point about bank staff, behaviour. Hmmm.

Much is made about the revolving door between FMA and QFEs, this thought may also apply here.

And if you were paid 1/10th for mocking up a similar policy you would be paid around $5000 per hour for the five hours it took.
On 24 November 2015 at 12:00 pm Backstage said:
On some of the above I now disagree with you Mike.. just saying NZ is out of line is no reason to change... i have not has 1 client call me to say i make to much based on the silly report and or have never had a client care.

How are they disadvantaged currently?

I could probably jump up and down about a bottle of Penfolds Grange and the possible margin and be totally outraged and say they are way out of line and attempt to compare their wine with another country of similar quality... dumb reasoning. Half these guys a running around with a solution looking for a problem.
On 24 November 2015 at 2:52 pm Mike Naylor said:
@Backstage - Note that I'm not saying that NZ has to change the commission structure from an industry viewpoint, though higher trail would be good. I am saying that in terms of politics, it is an inevitable trend - it will happen. Better that it happens on industry terms than on media terms.
On 24 November 2015 at 3:33 pm Referee said:
Have you considered this? What about a fresh modelling solution to churning that is in the public's best interest? At claim time, the new insurer is legally bound to pay the best policy wording between the old policy replaced with their new one.
Insurers would be then less likely to pay "lip service" to Policy Replacement Forms submitted by its Advisers. They may then think twice about replacing another company's policy BUT also be motivated to monitor/investigate the conduct of its Advisers.
On 24 November 2015 at 4:02 pm innocent bystander said:
On a day we are talking about commission being capped at a pittance, another market offering enhancing their remuneration offer drops into my email box. Maybe someone needs to ask the insurer's if their continued strategy increase remuneration is costing them important profitability.

I have not heard one of them complain about the cost of commission as part of their distribution strategy, it is the theorists, the so called academics and commentators in our industry that seem to assume commission is to high.

It is the short term nature of an insurance contract that is costing profitability so a review in this area may well be required.

Our Industry should manage this process without government interference and so called experts that have never actually practiced professionally, given advice or built a business from nothing but commission.


On 25 November 2015 at 12:28 pm Dirty Harry said:
Innocent, some do complain. Some have seen the growth in, and somewhat lower cost of, their "tied" (contracts) and captive (bank) advisers who are not quoting competitor product, and complained - bitterly- at the cost of commission. Big upfronts are a quick way to burn cash, hence the development of generous trails, the 'as earned' model and other initiatives.

Some of those complainypants individuals have hopped from their NZ boardroom to higher roles in Australia, but don't doubt for a moment that they do look at commission levels.

The thing is, in the good (bad) old days the commission rates were lower, the sales were smaller, and the advisers were all agents, had offices, phones, cars and support structures provided. When that stuff was taken away it was exchanged for higher commissions - a fact those complainers conveniently forget.

The market set the rates, and it has ever since, and it always will. Your comments about govt interference comes after the Minister had already signalled he would not.
On 25 November 2015 at 6:34 pm Tony Vidler said:
Excellent comments Michael Naylor. I often agree with your insights and analysis, although do hold different views occasionally on the practical application.

On this issue you are 100% "on the money". By the time I had reached page 6 the "report" was revealing itself as the blatant lobbying submission for a pre-conceived conclusion that it was. Half-truths, wild guesses lack of substantiating research or fact suggests that this was an agenda which began with a conclusion then went looking for arguments to support it. Having said that, the reality for the industry is that some significant noise has been created which will inevitably lead to some structural change (e.g. greater transparency, or perhaps limitation of, soft dollar compensation), and there will be a higher need for advisers to be able to articulate the value they deliver to clients.
On 26 November 2015 at 10:44 am b p said:
Let me summarise the argument:

MJW (and banks): Commission paid to non-tied advisors is too high.

Advisors: If MJW approach followed, our income drops and our businesses are worth nothing.

Here's a solution. Get rid of upfront commissions - that distasteful number is why the public has a really negative view of insurance advisors - and replace with a level commission for the life of the product. Disclose this on the policy you sell.

Guess what. That's how AFA's in the investment space tend to work. And, get rid of the minority of ratbag advisors in the industry who exploit the silly business model of the insurers.

Unless the advisory industry can seize control of the moral high ground you will lose this argument. The banks have the ear of the politicians (hence the regulators) and will win this war eventually if you don't adapt now.

From a strategic point of view the disintegration of the FSC is a beautiful opportunity for the big end of town. They have a united voice and can point to (cosmetically) better sales practices while the AFA industry fights and loses the last war.

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