Q2 2020 Lincoln National Corp Earnings Call
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Good morning, and thank you for joining Lincoln financial group's second quarter 2020 earnings Conference call. At this time all lines are in listen only mode. Later.
Well announce the opportunity for questions and instructions will be given at that time.
If you need assistance at anytime during the call. Please press star zero.
And someone will assist you now I'd like to turn the conference over to the corporate Treasurer, Chris Giovanni. Please go ahead Sir.
Thank you operator, good morning, and welcome to Lincoln Financial second quarter earnings call before we begin I have an important reminder, any comments made during the call regarding future expectations trends in market conditions, including comments about sales in deposits expenses income from operations share repurchases and look.
Would it be in capital resources are forward looking statements under the private Securities Litigation Reform Act of 1995. These forward looking statements involve risks and uncertainties that could cause actual results to differ materially from current expectations. These risks and uncertainties include those described in the cautionary statement disclosures.
Our earnings release issued yesterday as well as those detailed in our 2019 annual report on form 10-K. Most recent quarterly reports on form 10-Q and from time to time in our other filings with the FCC. These forward looking statements are made only as of today and we undertake no obligation to update or revise.
As any of them to reflect events or circumstances that occur after the state.
We appreciate your participation today and invite you to visit Lincoln's website, Www Dot Lincoln financial Dot Com, we can find our press release and statistical supplement which include full reconciliations of the non-GAAP measures used on the call included adjusted return on equity and adjusted income from operations or.
Adjusted operating income to their most comparable GAAP measures a slide presentation containing supplemental second quarter 2020 earnings and investment portfolio information is also posted on our website in the Investor Relations section.
Presenting on today's call, our Dennis glass, President and Chief Executive Officer, and Randy Free CAG, Chief Financial Officer, and head of individual life. After their prepared remarks, we will move to the question and answer portion of the call I would now like to turn the call over to Dennis.
Thank you Chris good morning, everyone.
As we all know the Pandemics course, and economic consequences, including lower interest rates are both challenging and difficult to predict however, Lincoln is very effectively dealing with the immediate covert 19 operating issues such as working from home and virtual selling we're also grow.
Suddenly responding to the overall health economic and capital market environment.
Our near term focus continues to be on maintaining our already strong balance sheet.
Actively repricing products to achieve appropriate returns and delivering on expense savings targets.
Additionally over the medium to long term our emphasis is on improving the way we operate by capitalizing on the benefits of the accelerated chip in digital and virtual selling to increase wholesaler and employee productivity, adding new well priced products to complement our refreshed product portfolio.
Oil and drive growth and targeting additional expense saving programs. We expect all these actions will create long term competitive advantages I will cover each of these items later, but first I will touch on second quarter results.
Second quarter adjusted operating income was affected by elevated claims experience from cobot 19.
And negative returns within our alternative investment portfolio, both come system with our expectations.
Excluding these items adjusted operating loss per share would have been more consistent with the very strong prior year quarter.
Based on the current level of equity markets, we see a lift in third quarter earnings related to higher fees on assets under management and a recovery in returns on the alternative investment portfolio.
We also expect lower cobot related claims in aggregate prior to any impacts from or any assumption review, we expect adjusted EPS more in line with results from the first quarter of 2020.
As I just mentioned, we're responding aggressively to the current environment.
And the individual life and annuity businesses. This includes active product crude pricing related to lower interest rates and some products higher reserve requirements.
Also as we noted on our first quarter earnings call, we're reducing the amount of capital deployed towards new sales by approximately $400 million. This year to help maintain our strong capital position.
The overall product strategy is to continue to reprice products, one necessary to achieve our targeted returns shift our selling emphasis to products achieving good returns and providing a powerful consumer value and add new products in short, our reprice shift and add new ERP.
Product strategy.
With this backdrop I will go into more detail on each business focusing a little more on product sales and net flows in the individual lines starting with the life insurance business. We have one of the broadest portfolios of life products in the industry and the strongest distribution platform.
This has enabled us to target several products that do not require significant repricing, including term an index universal life, where sales are up 7% year to date and executive benefits.
Which while lumpy quarter to quarter have consistently contributed to annual sales.
Life products most affected by price increases include Universal life, Moneyguard and variable UL.
Where we expect sales to be down materially in 2020.
With changes to these products and as new products developments kick in we are confident we will rebuild sales levels, achieving strong returns on capital and contribute to future earnings growth.
And you knew these business, we achieved positive net flows driven by lower surrender rates and strong growth in variable annuity sales without guaranteed living benefits, which represented more than half of our total annuity sales.
Index variable annuities, a great example of the product achieving good returns and providing a powerful consumer value were up 68% over the prior year quarter, surpassing $1 billion in sales this quarter.
Total annuity sales were down as we reduced benefits on behaves with living benefits.
And de emphasized fixed annuity sales due to lower interest rates.
However.
We are capturing the asset protection value propositions through our indexed variable annuity, which is more capital efficient and provides better new business returns.
So our collective pricing actions are damping near term sales. They are protecting the strong returns we have long had in our duty business.
Beyond our repricing the shift in AD components of our strategy will create additional opportunities as we look to 2021.
Shifting to our employer focused businesses, where repricing isn't as significant.
In retirement plan services strong growth in first year sales generated double digit increase in total deposits.
Net flows were affected by two large case terminations. However, we expect to have positive net flows in the second half of the year.
At the plan sponsor level recurring deposits are facing some headwinds from employees, reducing or eliminating matching contributions and workforce reductions.
At the participant level, we have not seen meaningful outflows related to the cares Act and our high Tech high touch bottle coupled with our.
Innovative products customers better navigate these uncertain times and drive our future growth.
Lastly on group protection.
Premiums increased mid single digits as we benefited from improved persistency renewal rate increases and saw sales.
We believe the pandemic has only increased national awareness of needs for life insurance and disability and lead management products as evidenced by our premium growth.
So we may see some disruption in new business sales due to the pandemic.
We expect the benefits of our well diversified customer base. We will continue to result, and strong premium growth well focus on pricing actions and expense efficiency will improve our margins.
Bottom line.
Across all businesses, we're in a good position of having created the broadest product portfolio in the industry, the best distribution and a proven ability to combine these differentiators to shift sales products with strong value propositions for the customer and good returns for Lincoln.
Now shifting to other strategic areas of focus in current environment.
First on the balance sheet.
Where remain in a very strong position.
Our RBC ratio ended the quarter at 444% and positions us well to manage through this period of uncertainty.
During the quarter, we also expanded our highly reliable and committed sources of liquidity within our insurance subsidiaries to approximately $9 billion up from $7 billion in the first quarter.
Well, we certainly do not expect any liquidity issues. These programs can be used to manage any cash flow stress that might develop.
At the holding company, we have $774 million cash.
Our next maturity is not due for three years. In addition, we have our 2.25 billion dollar credit facility.
Within the invested portfolio, we continue to manage credit risk more defensively by adjusting our new money allocation to higher rated investments as well as proactively de risking.
As we've mentioned in the past, we began de risking our investment portfolio a number of years ago, leveraging our multi manager investment model to analyze a variety of adverse scenarios to an identified those securities that have the potential for significant credit deterioration in an echo.
I'm excited.
We continued with the execution of our program in the quarter de risking the portfolio by another $1 billion, we remain focused on high quality, new money purchases and when combined with our de risking actions. The overall quality of the portfolio continues to improve.
With our exposure to triple B minus and blow securities decreasing 60 basis points on a sequential basis.
Year to date negative RBC impacts from the investment portfolio are running better than our expectations supported by our de risking program and the benefits of various government support programs, including the Feds action on credit markets.
While we remain confident with our balance sheet and capital position.
We expect to say pause on share buybacks for the third quarter, a prudent approach given that economic outcomes remain unpredictable.
Expense management also remains a key focus in the near term with Liberty synergies of $125 million nearly achieved.
Digital savings on track for $40 million to $50 million this year and progressing towards our $90 million to $150 million target and we have also made significant progress on our third savings initiative and additional $100 million this year to help offset your.
Term pressures.
We expect to maintain this $100 million going forward by leveraging virtual sales capabilities sustained increased workforce productivity and capitalizing on the recent acceleration in digital adoptions by both advisers and customers all of which enable us to conduct business.
It's more efficiently.
We have a track record of responding with expense programs to help maintain margins and are optimistic about our ability to deliver on these targets.
And we'll provide more details as we progress in closing.
Second quarter results.
Were impacted by the pandemic and equity markets, but as I noted, we expect earnings to recover to more normal levels in the third quarter.
Our balance sheet is in a strong position.
We are making pricing changes where necessary and still selling a significant amount of new business as good returns and adding new products to drive future growth opportunities and we are executing on existing and new cost saving initiatives to strengthen earnings.
Yes.
All of these position Lincoln.
For long term success and deepen our competitive advantages in order to drive long term shareholder value.
I will now turn the call over to Randy.
Thank you Dennis.
Last night, we reported second quarter, adjusted operating income of $187 million or 97 cents per share.
A difficult quarter, but consistent with our expectations.
There were no.
It's heavily impacted by cobot 19 related claims and performance and the alternative investment portfolio.
First in coal but.
We estimate that covert related claims reduced earnings by approximately $125 million to $145 million or 65 to 75 cents per share.
We provide an estimated range for cobot impact because there is undoubtedly a level of per se in precision in estimating claims due to timing and reporting of deaths.
This is slightly above the mortality sensitivity we provided previously.
Looking forward, we now estimate every 10000.
Colette 19 deaths in the United States to impacted earnings by approximately $10 million.
With $8 million still hitting the life business the $2 million eager.
In addition, we anticipate morbidity headwinds in group related to the economic environment.
Next on alternatives.
Returns were negative which reduced earnings by 62 cents per share relative to our targeted annual return of 10%.
This represented a negative 7% pre tax return and the second quarter.
We reported a net loss of $94 billion.
Importantly, the majority of the difference between adjusted operating income and our net loss was the result of $150 million in items, we consider to be non economic.
Related to accounting associated with our 2018 sale of annuity business to a theme.
And the variable annuity GL be nonperformance risk.
Specific to the feed transaction.
As we have noted in the past changes in fair value for many of the assets run through the balance sheet.
Well the offsetting change runs through the income statement.
This non economic impact will fluctuate, but overtime Wilson side and reverse.
Additionally, this years, new accounting standard for expected credit losses or Cecil.
Reduced net income by $79 million.
Lastly, variable annuity hedge program performed very well with 99% hedge effectiveness.
In another volatile quarter for the capital markets.
Now turning to segment results starting with annuities.
Reported operating income of $237 million.
Compared to $266 million in the prior year.
With the decrease primarily driven by negative returns within our alternative investment portfolio.
Average account values decreased 3% on a sequential basis, but end of period account values increased 10% over the same period.
Given the increase in end of period account values net amount at risk decreased to less than 2% of account values for living benefit.
And less than 1% for death benefits.
This compares favorably to nearly 4% for both as of the end of the first quarter.
Hey spreads excluding variable investment income increased one basis point on a sequential basis.
DNA expenses net almost capitalize decreased 12% year over year is the entire organization focuses on healthy offset pressures from the economic environment.
Kurt by negative investment results ROI. It came in at 71 basis points and are are we at 19%.
Looking ahead, we expect tailwinds from the equity markets and variable investment income to grab a recovery in earnings and returns more normal levels in the third quarter.
Good it any impact from our annual assumption review.
Retirement plan services reported operating income of $30 million compared to $42 million in the prior year.
With the decrease driven largely by alternative investment performance.
Deposits totaled $2.3 billion and included growth in both first year sales and recurring deposits.
Average account values decreased 3% compared to the first quarter. So end of period values increased 10%.
Based spreads excluding variable investment income comprise 24 basis points versus the prior year, which was above normal.
Primarily due to lower yield on floating rate securities, where the crediting rate on the match liability adjust less quickly.
Combined with the impact of significant deposit for each quarter end.
DNA expenses net of amounts capitalized decreased 11% year over year, which led to a 110 basis point improvement in expense ratio.
Similar to the annuity business, we expect Tailwinds from equity markets and variable investment income to drive earnings higher in the third quarter.
Turning to our life insurance segment.
We reported an operating loss of $37 million compared to operating income of $168 million in the prior year.
With the decrease driven by mortality related to cope with 19 and alternative investment performance.
Covert 19 related mortality was consistent with our previously stated expectations within the life.
Underlying earnings drivers continue to show growth with average account values up 2%.
An average life insurance in force up 10%.
Gee any expenses net of amounts capitalized decreased 11% year over year, which led to a 20 basis point improvement in the expense ratio.
Base spreads were consistent with the first quarter.
As a reminder, the year over year decline is above or five to 10 basis point expectation due to a non economic change to our crediting rate methodology.
Looking forward based on what we know today, we expect the third quarter to see less of an impact on mortality from over 19, and a strong recovery in variable investment income.
Group Protection reported operating income of $39 million compared to $68 million in the prior year quarter.
With the decrease primarily driven by cobot related mortality.
The loss ratio with 77.8%.
70 basis point improvement on a sequential basis.
About four percentage points compared to the prior year period.
Group life loss experience was impacted by Koeppen 19, with the majority of the increase attributable to the pandemic.
Our disability loss ratio is consistent with recent quarters, an elevated compared to the prior year quoted.
Well, we saw some improvement in ltd incidents rates on a sequential basis claims resolutions were lower.
We attribute in part the indirect impacts of Cobot 19.
Crude in the resulting economic conditions.
Offsetting disability was favorable dental experience, which we largely attribute to covert 19.
We expect to see this normalized in the third quarter is access to dental care resumes.
Results were negatively impacted by alternatives performance with that negative being offset by Jean expenses net of amongst capitalize that declined 8% over the prior year quarter.
In a 170 basis point improvement in the expense ratio.
Well this appointed by this quarter's elevated loss ratios our results were affected by several direct and indirect impacts.
Of the pandemic.
However, we.
We are encouraged by our premium growth and expense management.
Before shifting to capital.
Make a few comments on third quarter expectations.
As Denis noted based on what we know today, we expect earnings to recover to more normal levels in the third quarter, excluding potential impact from our annual assumption review.
This is driven by some of my earlier comments about tailwinds from equity markets.
Strong expected returns from the alternatives portfolio and lower expected mortality related impacts from cobot 19 compared to second quarter.
As you know we will also complete our annual assumption review in the third quarter.
As a reminder, steers review included a charge related to interest rates.
Okay, and the impact of the drop in rate on the starting point.
A lower long term ultimate interest rate assumption and extending our great in period.
Interest rates are much lower today than they were last year, which could impact the interest rate component of our assumption again this year.
That said I do not want to front run. The process is there are lots of people working on the review and it's ultimately about what all the impacts add up to.
Turning to capital.
We ended the quarter in a strong capital position with statutory capital of $9.7 billion and an RBC ratio of 444%.
Five percentage points since our 2019 annual filing.
At the holding company, we have $774 million cash in during the second quarter. We further improved our liquidity position by paying off our 2021 debt.
And the pre funding our 300 million dollar debt maturity due in 2022.
The result, being our next maturity is not due until September 2023.
So to conclude.
As expected earnings results were impacted by Coven 19 related claims and performance of the alternative investment portfolio.
Excluding the impact of these items operating ROI, we would've been approximately 13%.
Expense management was excellent at all four businesses reduced DNA expenses, resulting in a 7% decrease in consolidated Gionee.
Lastly.
Our capital and liquidity positions are strong and have in fact grown stronger during this current period of uncertainty as a result of management actions.
With that.
Let me turn the call back over to Chris.
Thank you Dennis and Randy we will now begin the question and answer portion of the call. As a reminder, we ask that you. Please limit yourself to one question and only one follow up and then re queue. If you have additional questions with that let me turn the call back to the operator.
Thank you as a reminder to ask a question you will need to press star one on your telephone to withdraw your question press the pound cake.
Optimal sound quality. Please do not use the speakerphone. Please speak directly into your receiver or use the word headset with a microphone.
And our first question.
Comes from Erik bass with Autonomous Research your line is open.
Good morning, Thank you.
First can you just help us think about the sensitivity to any changes if you were to make any tier long term interest rate assumption or the grading period.
And should we look at on what happened last year and expect that the impact would be similar.
Eric It's Randy Thanks for the question.
So you know as I said in my script. If you go back to last year the interest rate component.
Was a negative in the overall unlocking it was in total.
291 million was impacted by three different areas first the.
The starting point and.
And changes to the ultimate rate integrating period, the starting point component of that was $139 million at negative last year.
When you think about our assumption.
Think about the starting point is a mark to market right. So our starting point, where we invest the money today what is the market.
And then you have the ultimate rate, which is more or less objective view of where could rates go to overtime and then what connects them.
Is the grading period.
Last year at 139 million dollar impact from that objective view of where rates, where it was driven by the fact that that rates for lower and again. This year rates are lower so it wouldn't be surprised if that one component.
Was was negative again this year.
In terms of the worse objective view of where rates could go overtime I think thats part of the process of reaching hotel or managers collectively coming up with a reasonably reasonable view of what that a future could be.
That will be part of what we're doing right now and what we'll do over the remainder.
Of the corridor, so I think that and hopefully that gives you. Some insights I also said in my script I just want to remind everybody at the end the day interest rates are one piece.
Of what is a broad set of assumptions and so we'll review all of those assumptions and while the negative the interest rate piece of that may have a negative.
Went to a right now at the end today, it's going to be about what all the assumption unpack that occur.
Got it. Thank you that's helpful. And then the bigger picture question for the life business does the pandemic experience change your view at all on risk retention limits and the amount of reinsurance you may look to utilize especially since you don't have any material exposure to longevity businesses that act as an offset to mortality.
Yeah, No I don't think so the pandemic itself I think the use of reinsurance that may not a reinsurance reuse is more aligned with.
Things like.
Is the cost of reinsurance at that moment in time attractive.
What is our risk appetite of the company and as we talked about more mortality and morbidity based earnings are something we were very comfortable with me are very comfortable with our ability.
To underwrite life insurance and so our current retention program and it just as a reminder, we keep up to the first two and half million after that we.
We reinsure, though the majority of the risk we keep though a small percentage of it. So we're very comfortable with that and I don't think the pandemic.
Changes our view of the appropriate risk retention.
Got it thank you.
Thank you. Our next question comes from Ryan Krueger with KBW. Your line is open.
Hi, Thanks, Good morning, Tom on the capital position in the 400 million of expected free cash flow benefit this year from from lower sales activity I guess.
As has that come through.
The first half of the year.
No at around half of that pace, I guess, but the reason im asking the RBC ratios kind of steady in the quarter I thought it made it increased more given the lower sales activity for a.
They review some of the moving parts of the RBC ratio in the quarter and expect to build the second half Didier.
Thanks, Ryan Thanks for the question I think a little more than half came through in the first quarter and it's really driven by.
In that first year.
What our expectations are around fixed annuity sales is fixed annuity sales have a pretty big.
First year drag on their own them in for a lot of valid reasons.
We have trimmed back our sales the pure fixed annuities in terms of what you saw in the second quarter why didn't the RBC ratio grow I just to remind you that the two big items, we talked about in gap.
Over 19 claims and alternative performance, but was also occur in statutory so it actually there are a little bigger in statutory because you don't ever.
Back offset some of you think about those two items, providing roughly $300 million of headwinds to statutory results in the quarter. When you think about.
Some other items and some other small negatives that we put up so you're talking about $350 million to $400 million networks that we saw under statutory basis I'm very happy actually that the overall.
Capital state level for the quarter, just means that underlying all but there were there were some good strong statutory entities. So very happy with the results in the quarter and have actually seen.
Fair amount above the benefit driven by lower fixed annuity sales on the denominator.
Thanks, and then on buybacks I know it still positive for the third quarter, but as you've seen credit experience I mean quite a bit better so far.
I guess is it would it be potentially contemplated to bring the buyback.
Back before the end of the year at this point.
Right it's Dennis.
I think we'll just stay with the.
A couple of cabins bought it's very unpredictable. These days I mean, as we all know.
There's so many drivers of what might happen.
Over the next several quarters, which could affect.
Earnings which could affect.
Our investments so I think right now.
The focus is on maintaining our.
Hi quality.
Strengthened in the balance sheet and.
At this point, we'll just.
Okay.
Comment that the.
The.
We are pausing for the third quarter.
Got it understood. Thank you.
Thank you. Our next question comes from a lease Green staffed with Wells Fargo. Your line is open.
Hi, Thanks, Good morning, I guess my question following up on the capital question. Mr. Integrys you guys obviously.
Well it a while ago did that blocking reinsurance deal with the theme that was helpful. If you're free up capital for buyback, obviously, given where interest rates are you hearing right. There's a greater baby bid ask spread on some deals in the market right now, but you know you guys have view line.
The more or less willing to listen to transact in other deals and then would you consider.
Transaction similar to that too.
Capital potentially I'm, just trying to buying back shares sooner than you might otherwise.
At least it's Dennis.
Thank you you first point, which is the low interest rates.
I have an effect on.
What you can get for selling blocks of business.
Thats, what I think right now, it's probably there maybe some deals done but.
It's hard to clear the table for buyer and seller.
On blocks of business, we've seen some very strategic.
Activity in the marketplace.
Which go beyond.
Sort of just pure return.
From the sale of a block.
But absent the strategic deals.
It's been pretty quiet, we continue to be in the flow.
Of opportunities and we'll continue to.
See what makes sense.
And so we're open minded.
Focused.
And if something comes along.
That makes sense for both buyer and seller. So we would do it.
But again I think of.
What would be sort of again I'm going to keep coming back to the unpredictable circumstances that we're in.
Thanks.
Chose.
That marketplace a little bit.
Okay. That's helpful. And then you guys provided.
He did sensitivity on Cody thats, a little bit higher.
Well you guys.
Hello.
I guess when thinking about that mortality impact in the third quarter is it just a simple as you know we should just kind of I guess pay attention to the death that weight on number of lies in kind of you the sensitivity there or what weighed on you know given the mix of your stock in the third quarter Lucky positive Barry.
No within group, where things could potentially trending a little bit better than expected.
Hey leases so Randy in.
Thanks for the question do you think about.
Overnight team, we spent a fair amount of time last quarter coming up with our estimates included our doctors. We included our data experts in terms of analyzing the different studies that have that were out there, including our actuaries in term of understanding our own makes business. So we spent a lot of time I think.
It shows than the overall.
The fact that our estimate came very close.
To our actual experience I've actually been a little surprised by.
Some of the company's I see out there who missed by upwards of 75% I'm not really sure.
Why we've seen those sorts of gaps, but we spent a lot of time and so we were very.
Nobody's happy claims, but we think we did a really good job of estimating the potential impact as we mentioned.
In the life business, we had $8 million and final number came in right in line with that so that number six but in the group business, we did see a little pick up.
From a 1 million, which was yes, we provided.
Last quarter.
Two now what we're now updating the 2 million I don't think there's anything a truly impactful in there.
I think it just reflects a growing understanding of exactly how.
The pin that pandemic is going to hit.
Different different areas of the economy. So.
We felt good about the nine with it came in pretty close we'll update at the town and we feel that provides you could estimate as we move into the third quarter.
Okay. Thank you for the color.
You bet.
Thank you.
As a reminder to ask a question you'll need to press star one on your telephone again to ask a question that star one.
Our next question comes from.
John Barnidge with Piper Sandler Your line is open.
Thank you as as we look forward in the group Protection segment can you talk about how you square favorable claim trends trends in dental and the likelihood that segment of the population is just not going to use your benefits. This year in square that with renewal pricing and the prospect of cap catch up claims or emergency.
More severe claims in 2021.
John Thank you for the question so I think it's.
A very broad question both group.
Our results dental itself is a relatively small component of our group business we have.
A little almost a little short of a 1 billion won a premiums in the quarter end group premiums represent only about 6% to 7% of that about $65 million. So on a relative basis were less impacted by what's going on.
In the dental world than some of our of some of our peer companies now in terms of what we.
Expect as we move into the third quarter, we are.
We expect the and then we started to experience that people are going back to identify.
So we're expecting him at the group loss ratio will move back more in line.
With its longer term trend, which is right around 70% we had roughly 40%.
This quarter.
In terms of the.
Other businesses.
Disability and life starting with.
With life.
We saw our loss ratio on a year over year basis tick up about 11 points. We think the majority of that are the primary driver of that was was cold. It if you on loan to that 11% increase from loss ratio it translates into about 35 million.
Oh after tax claims.
The reality is we have about two thirds of votes actually reported on the desert.
As a as Colin but there are a couple of factors one we don't have all of the.
Dust certifications, yet so that number will probably go up more and then we believe based upon.
Our analysis that there's a fair amount of under reporting.
Specially in April in terms of cause of death.
Associated with coal that so we believe that coal that was the primary driver this quarter and as we move into the third quarter.
Well, we have increased our sensitivity from $1 million to $2 million.
We do believe that overall.
The impact of Cowen related claims will fall.
Because we believed that the number of deaths will come in below the 125000.
The U.S. experienced in the second quarter in terms of visibility, it's a little more difficult to predict.
Predict exactly how disability going to be impacted by overhead and the overall.
Impacts that are that is having on the economy as I mentioned.
In my script incidents for the quarter.
While improving a little bit from the first quarter is still up a little bit.
You every year now that incidents really is associated with stuff that was going on in the fourth quarter. So we're happy that the incident started the trend down.
But it is still a little bit up year over year, and then in terms of termination experience as I mentioned, we did see little kicked down.
In our termination experience and we think thats, most likely an indirect impact.
Of the pandemic as it's more difficult to get people in to see the doctors et cetera et cetera. So it's a little that's what we are difficult to predict exactly how disability experience will move forward, but that said my script, we wouldn't be surprised if there's a little bit of headwind.
In in the disability business associated with pandemic and more resulting impact on the economy.
Okay Thats helpful.
Thank you very much.
Our next question comes from Tom Gallagher with Evercore. Your line is open.
Good morning, and as you guys look to pivot to and de risking approach into 2021.
I think it makes sense that it's going to free up more capital and improved cash flow, but it will likely put more pressure on GAAP earnings growth I'm, assuming whether that's on the yield side as you think about risk for the the weaker sales this year translating into lower revenue growth next.
Sure.
Is that a fair way to think about or Randy and if so how much.
I would point to GAAP EPS pressure do you think that strategy all have assuming that that last for the next several quarters.
Hi, Tom let me take a.
Quick.
Let me take the first.
Response for that.
We're not pivoting to de risk approach 2021.
So much is.
Watching the developments.
And right now, we're being a little bit more cautious about deploying capital.
Ah if things improve which I hope they do for America.
All right reasons that could change your view on how we deploy capital.
So that's one one point the second point is that we've been emphasizing this loss is expense management activities.
That are underway.
Can improve earnings.
And to some extent.
Offset the.
To your point.
The growth in earnings in 2021, that's lost a little bit too.
The lower level of sales that were sitting in 2020.
So we'll continue to put all the levers to focus on earnings growth.
At the same time.
We're watching on protecting our capital base.
Because again.
Peters said this a couple of times.
It's very we're in very unpredictable times, and so I think being cautious on capital deployment.
Is the right answer.
But not stopping there and taking other actions such as expense management.
Offset some of the.
GAAP earnings issues associated with that.
Gotcha and.
We do you guys be able to offer up any.
Anyway, you could think about the impact.
If we isolate put the expense initiatives on the side.
Is this maybe a couple of points of growth being sacrificed or is it potentially more meaningful but Matt.
Hi.
Thomas if it's kind of difficult to answer that question. If you look at some of the components of our 8% to 10% growth targets over time.
Thank you get about 4% from new business.
That'll come down a little bit I don't know how much.
If we get 1% from expense efficiencies that will come up a little bit.
Whether or not they completely offset each other b.
Hard to predict right. Now then you got the impact of capital markets spread compression than you have share buybacks. So all of those things contribute to the long term.
Outcome.
A little bit unpredictable in the short term.
Got you and then my follow up is.
There that 55% free cash flow conversion.
Ratio that you'd given out how how should we be thinking about that now I presume.
And may actually get better or just given the level of.
Capital that gets freed up from lower sales.
Is out at that is at a fair way to think about it and can you shed any light into how you're thinking about that 55% ratio.
And is it are we gonna have I guess my question is are we is there enough potential.
Adverse impacts from a credit and low rates that it's still not going to trend.
About 65, or do you think it might might actually move above that.
Hey, Tom its or Andy Thanks for the question I think you.
You highlighted most of the relevant point, so I'll add one.
So what you mentioned now.
On its own lower sales is supportive of.
Statutory earnings so that's a positive.
Matt regard.
What's the other side the statutory earnings is what is your required capital right. So what at the end today are your distributor Larry that's that steps to earnings less you're changing record capital and that's driven by a lot of factors.
Including level sales in the sales come down that's that's supported but.
Dish into that is really the big driver of the changes required capital will be what goes on in the credit markets and that's really where a lot of the uncertainty.
In the current environment lies and Thats.
Dennis mentioned, if we look into third quarter, we still think it's uncertain enough.
Were the best action is to not do buybacks will reassess that in the fourth quarter and as we get around the planning for next year and looking at the results will make our best estimate what we think as we look into 2021 beyond but ultimately what happens to free cash flow I think is going to be determined to buy what we.
We believe will be the.
Impact on the credit markets of everything Thats going on whether that's a pandemic are resulting impact on the overall economy.
Makes sense thanks Randy.
Yep.
Thank you. Our next question comes from Humphrey Lee with Dowling <unk> partners. Your line is open.
Good morning, and think it will taking my questions I'm, just a couple of clarification questions.
So you mentioned about for alternative returns you expect better results in the third quarter do you anticipate either return to be better than kind of your normal run rate so providing.
Did you can tell went in third quarter.
Oh Humphrey it's Dennis.
The.
Again, I don't think we're going to predict exactly what could happen in the alternative.
Portfolio in the third quarter or let me just say this as we seen the effects of capital markets and energy prices on our returns in the second quarter.
Both of those are.
Trending up.
And so we therefore, thank our alternative returns will be trending up.
We are for the last six or seven years, we have.
About a 10% return on our olds portfolio.
Our office portfolio today consist about 80% private equity.
And the balance and hedge funds private equity returns generally have a higher.
Long term outcome and return.
So.
We're comfortable and the long term with our 10%.
And.
Our experience supports that.
And.
Again quarter to quarter, it sort of difficult to predict.
But I will say that what we saw in the.
Second quarter had to do with.
Equity markets large part.
Energy prices again those.
Indicators trended up.
In the.
Third quarter second quarter affecting the third quarter colt business returns.
That's helpful ending Dennis in your prepared remarks, you talked about kind of sales outlook for different channel. The thing for life insurance, you expect to be decline can be down substantially fall 2020, but one of the full annuities do you expect somebody the pressure to two to two continue into balance Amir.
And if so do you still anticipate the segments to see net inflows for the full year basis.
It will have to see how that flows develop.
Oh, pre though I would come back to.
The aggregate sales.
As we look forward are shifting more toward our index variable annuities.
And our.
Which is getting a good return.
We continue to get additional shelf space, we continue to.
Provide additional sort of value propositions within that product.
So we see.
That continuing to grow as Randy and I, both pointed out.
Fixed annuities.
Our just simply not an emphasis of hours today in our business model.
We would be investing.
So in the new money range of 2%, there's just not enough juice in a 2% investment return.
To provide both a good value proposition for the consumer.
Good return on capital for Lincoln So in aggregate.
I would expect.
Total annuity sales to be down driven mostly by.
Pretty.
Significant decline in fixed annuities.
That's helpful. Thank you.
Thank you as a reminder, if he would like to ask a question press star one on your telephone.
Our next question comes from Suneet Kamath with Citi. Your line is open.
Thanks, a quick just another question on capital one of things we've been talking about on a second quarter calls it's been the any ideas review of the reversion to the mean assumption for interest rates in VA capital in a couple of companies have come out and said if DNA I see where to change that that wouldn't have.
The big impact on their positions and I think one company even came out instead, they're very much in support of it just wondering what your view of that is if there was a change would it have a significant impact on either your hedging strategy or your me a capital position.
Actually it's Randy Yeah, we're very supportive of the enhance these efforts I think you think about the FDIC in the work they did.
On what just referred to as the Oliver Wyman, where they were very prudent.
In hiring outside expert they were very prudent in working with industry and I think they ended up at a very good spot a spot that's good from the regulator. It's good for industry and I think it'll be the same with it. So we're supporting the effort we will support it I don't think it'll likely.
Come in the effect until probably 2022, but we do not see it having though.
A big Big impact these as a reminder, our hedge program is very focused.
On the economics, and essentially they're talking about making the interest rate generator, a little more reflective of the economics and I don't think that's a bad thing.
Got it and then my follow up is just on the life sales again, so moneyguard has historically been a really big differentiator for for you guys and I know that you talked about repricing.
Your life products, but in this interest rate environment, it with credit spreads as tight as they are.
Can you make that product work in terms of repricing or is it just sort of the a difficult one for you guys to sell to achieve your returns, but also provide value to the customer.
She needs Randy.
You just look at the results right sales are down.
36% over the prior year, I think though fall even further as they look into the back half the or I mean, the short answer your question is.
Moneyguard early any general account type product is a tough sell it's tough to create.
Compelling value proposition for the consumer.
<unk> return for the company when you're investing money.
In the.
Low too so.
I think that we would expect that in the current environment that Moneyguard sales will continue to fall I think there is a significant opportunity because moneyguard is an example of a product that speaks directly to a huge you need for if the American consumer and I think there's an opportunity to create a compelling value prop.
Positioning Moneyguard something we're working on right now you know we created.
That's that's Lincoln's innovation Moneyguard and we're actively working.
Working on creating what we believe is the next version of Moneyguard, which dramatically is going to be very similar to things. We've talked about for instance, with idea right lower guarantees.
Different way to generate.
And investment returns shifting risks to the consumers.
Probably moving to more of a variable type chassis. So I think theres, a huge opportunity for a product like moneyguard, but yeah.
When you are investing at rates when resting at today the existing version of that product isn't tough cell and I'd expect sales to be down over the remainder there.
If you need if I could jump in.
In a period, where we're preserving capital our focus is on any capital that we're deploying to be absolutely certain we're getting appropriate returns so yep.
Aggregate sales to be down on the last after the year.
The thing from the first half of the year on the individual lines, but those products by line of business are getting in the aggregate appropriate returns so even though we're husband in capital little bit.
The capital that we're deploying is getting good returns on it and then as I've mentioned in Randy just discussed.
A.
Lots of activity in product development.
So that we can begin to rebuild sales.
And and continue.
To grow earnings from new business overtime, and I'd also come back to.
Most of the pressure from interest rates on the repricing activity is going on in the individual lines.
And we're seeing good returns.
And higher levels of sales.
In both Rps and group.
Okay. Thanks.
Thank you and I'm showing no other questions in the queue I'd like to turn the call back to Mr., Chris Giovanni for any closing remarks.
Catherine I don't think he's off mute.
Mr. Giovanni Your line is open.
Thank you and thank you all for joining us this morning.
As always we are happy to take your questions on the Investor Relations line.
Or you can email us at Investor Relations at Ella Ji Dot com.
Thank you and have a good day.
Ladies and gentlemen. This concludes today's conference call. Thank you for participating you may now disconnect everyone have a great day speakers. Please standby.
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