Critical illness (CI) has finally succumbed to the slump that has been blighting the protection market. But resurrecting the product may be an issue of reinvention as Peter Madigan discovers Click here to download pdf
In a protection market that has looked pretty bleak in the last few years, critical illness (CI) insurance has been one of the few success stories. In the 20 years since its creation, the product has established itself as a market leader that had seemed impervious to the slump that has struck its stable mate, income protection (IP). It now appears however, that its good run is over and following a drop in sales in 2003, it appears the product is now in full-blown decline.
Perhaps the most worrying fact about the situation is the speed with which CI's fortunes have turned. With the same swiftness that characterised its assent to the peak of the protection market, in just two short years the product has performed an about turn with a staggering 30.9% drop in sales in 2004, according to Swiss Re's Term and Health Watch 2005. This drop is particularly significant because of its size; while IP has been declining for several years, never has it seen such a sharp drop in just 12 months.
It would not be an exaggeration to claim that the individual CI market is in crisis on the strength of these latest figures. But what can advisers and providers do to rally the market in the coming year and what is behind this huge drop?
Pricing factors
"More than half of all critical illness policies are sold alongside mortgages and therefore sales have suffered as the housing market has slumped," says Roger Edwards, products director at Bright Grey. While the housing market is certainly a contributory factor it should not be taken in isolation. Something else is stifling the market, the same thing that is slowing the housing market - price.
"The price of critical illness products has been going up, especially for guaranteed rates. We are now in a situation where a client taking out term assurance is not prepared to pay the extra for critical illness. Their life cover may cost £20 a month, but including critical illness will increase the cost to £70," says Edwards.
This situation is also exacerbated by differing age profiles. "For a 15-year term assurance policy with critical illness for a 30-year old male, they would have paid £9 a month in 2003. Today they will pay £12 a month," says Stuart Bayliss, managing director at Annuity Direct. "If we write an identical contract for a 50-year old male, in 2003 his premium would have been £44. Today it is £62. With this kind of price increase it is hardly surprising older people are questioning the value of critical illness," he adds.
Such complaints about price rises may seem odd considering the highly publicised 'rate war' currently being waged in the CI market. "Barely a week goes by without a rate cut from a provider. Rates are the lowest they have been for some time but they are still higher than they were four years ago when we began to see the real acceleration in cost," says Steve Casey, individual protection product manager at BUPA.
So how do we breathe new life into this market? The first step would seem to be by cutting the cost of cover, but some providers claim that the current inflated prices are here to stay.
"It is the claims experience that is driving the rise in price because we underestimated the number of claims we would receive for critical illness," says Mark Anders, head of sales at Liverpool Victoria. "We were all selling critical illness too cheaply in the past and it would appear that current prices represent a long-term correction," he adds.
If price is no longer negotiable then a reassessment of the cover on offer may provide another means of managing costs. Middle to late 2005 will see the Association of British Insurers (ABI) critical illness working party re-examine existing definitions of CI contracts and tighten those definitions in an effort to both future proof the product against the latest medical developments and ensure that cover remains affordable. Could this meeting provide a solution to rocketing costs and plummeting sales?
Fresh thinking
"The ABI is going to consult on whether we should introduce a second tier cancer definition that will only cover cancer that has spread throughout the body," reveals Edwards. "If a product only covered this more restricted cancer, then it would be cheaper than the current definition." While such moves to make definitions more robust may well result in cheaper cover in the short-term, some advisers are frustrated with providers' unwillingness to commit to more radical changes.
"I hope that they stop tinkering around with definitions and start making the changes needed. The ABI working party should be about innovative solutions not anal-retentive definitions," says Richard Verdin, sales and marketing director at Direct Life and Pensions. The kind of solution that Verdin refers to has been mooted for some time, but as yet, regarded only as a great concept that is impossible to put into practice.
"The problem with the ABI working party is that they fear being too radical and do not want to take the risk of coming up with a new product that IFAs will reject," says Andy Milburn, IFA marketing manager at Royal Liver.
"They have a grave fear of failure. The kind of solution that we are talking about would be impact-based critical illness, where the policy pays out not on diagnosis but at a stage where it has progressed to a level that it is now a truly 'critical' illness. That is a great idea, but how would it be assessed?" Milburn adds.
A development of this kind would presumably slash CI rates as 'windfall' payments for non-critical conditions, such as mild heart attacks, would be eliminated, and although there are undeniable logistical problems to work through, some providers think that impact-based CI deserves a more thorough assessment. "We run away from this idea since we cannot do it cost effectively, but why are we just brushing it aside? If we set aside all of the good ideas because they had problems that no one could be bothered to work through, then we would never achieve anything," says Casey.
The idea has been given much discussion but talk is pointless if providers are unwilling to take a risk and launch a product of this kind. "I just cannot see a company launching something so different into an advisory market that is so used to the current product and would feel vulnerable recommending anything totally different," says Edwards.
Gloomy outlook
The market looks set to see similarly dismal times in the year to come. The housing market is expected to remain cool, growing at a fraction of the speed it has done in the last few years. The debate over whether total and permanent disability (TPD) cover should be withdrawn because of its high declinature rates will rage on and pension simplification legislation will probably detract adviser attention from CI.
One offshoot of pensions regulation that will profoundly influence the protection market is the birth of pension term assurance (PTA). Under the new rules, term assurance contracts can be written in a pension trust and qualify for tax relief. This could potentially mean unprecedented re-broking opportunities for intermediaries as existing term assurance contracts could be rewritten to secure the tax break for clients. But this news is far from all good.
"The first problem is that advisers have to be regulated to advise on pensions to sell this product and we do not even know if critical illness will be available as a rider benefit on a pension term assurance scheme," says Casey. "There is no clarity at the moment. Everyone is looking to the final statement on the subject from the FSA in September."
Indeed the lack of clarity seems to be so severe that some providers appear to be hearing entirely different things. "My understanding was that pension term assurance is just an option for life cover and that critical illness as a rider benefit would not be included," says Mark Anders, head of sales at Liverpool Victoria.
Although CI will still be available with traditional term assurance plans post A-Day, why would a customer buy this when they can secure cheaper premiums through PTA? This would be a huge blow to the already beleaguered CI market. On top of this, even if accelerated CI can be written with PTA, intermediaries who are not regulated to write pensions business would be unable to advise on these schemes in any event.
If the past year was tough in the CI market, the coming 12 months may lay down the template for the eventual fate of the product. A flat housing market, large numbers of claims and high premiums have conspired to make life very difficult for CI providers and advisers. The product model that has proved the star of the protection industry in recent times is now looking increasingly obsolete and out of touch.
It would seem that unless providers dare to unleash the much debated impact-based CI products they have been discussing for years, CI in its current form may find itself in serious trouble.
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