ALTHOUGH THE FINANCIAL Services Authority (FSA) has publicly stated that there has not been an endow...
ALTHOUGH THE FINANCIAL Services Authority (FSA) has publicly stated that there has not been an endowment mis-selling scandal many policyholders receiving red or amber letters from their provider would beg to differ.
Angry policyholders claim the risks were not explained to them and the large commissions paid to advisers has fuelled a belief that it was greed that led to the recommendation, rather than a thorough assessment of their personal circumstances.
The national press has leapt on providers. Whether it has portrayed an accurate picture is debatable but their campaign has had impact and policyholders are voting with their feet. The number of providers leaving the market has done little to help restore confidence, in what can only be described as a flagging market.
Losing faith
According to the Association of British Insurers (ABI), sales of endowments are falling. In 1998, 637,000 mortgage-related endowments were sold and this fell to 597,000 during 1999. With sales only just reaching 203,000 in the first three-quarters of 2000, the future does not look bright for this once trusted repayment vehicle.
Despite the FSA's statement regarding mis-selling, the bodies that govern and regulate life offices are keeping a close watch on the market. Just recently Royal Scottish Assurance was fined £2m for miscalculating projections and the ABI has since confirmed the launch of a new endowment code for providers.
Included in this will be the obligation for providers to write to policyholders every two years with reprojection letters. Until now, reprojection letters have been sent out on an ad hoc basis - the norm was once every five to 10 years, but there was no regulation in place to stipulate this.
So, the market is in a state of turmoil, but how did it get into this mess in the first place?
Changing times
Concerned about the changes in the economy, the FSA forced providers to revise downwards their reprojection rates to 4%, 6% and 8% in July 1999.
Peter Timberlake, PR manager housing at Legal & General, says: "This reflected the general change in economic circumstances. Interest rates are much lower and similarly inflation is lower and the consequence of this is that expected investment returns are likely to be lower over the long term. The FSA felt that it was right to err on the side of caution, rather than take a risk with an investment that is designed to repay borrower's homes.
"Because they are now using lower projection rates it is likely that projections will seem lower and the effect of this is that some policies will show a projected shortfall."
Latest ABI figures show that 48.5% of these letters were green indicating that the policy is set to reach its target. Just over 37% were amber meaning that it is not certain the target will be reached, while a little over 13% were red, warning policyholders that they do have a potential shortfall.
Every pundit has their own view on the future of investment returns but only time will tell whether these endowments reach their targets.
Mike Boles, director at Savills Private Finance, says: "Looking over the next five years, a 6% investment return does appear to be on the cautious side, but looking ahead over the next 25 years who can tell?"
However, Standard Life says its policyholders have no need for concern. Graham Storey, assistant general marketing manager for the insurer says: "Investment analysts looking forward are saying interest rates will be lower, but we think 6% is a reasonable and cautious projection rate and we hope to achieve more than that. If you look at a 25 year policy maturing with us today, it will have achieved annualised growth in excess of 13% which has been the case over the last few years."
Confusing calculations
Carl Woodward, partner at Woodward Insurance Services' says the way in which these projections are applied could lead to mass confusion among policyholders. He says: "All this is purely speculation. There is some concern that investment returns will reduce but they should not make these blanket reprojections across the board."
This is because the impact of falling investment returns will effect policies differently, depending on the type of policy and the length of time it has left to run. "On new policies it is fair to say investment returns will fall and so 6% is a reasonable projection. However, most existing policies are traditional with-profits plans and to apply 6% to this is unfair as the biggest element of bonus on this type of plan is the terminal bonus which is only added at maturity. The bonus can easily be 100% and so we need the terminal bonus to be considered in the reprojection," says Woodward.
While there are some endowment providers with exceptionally poor performance and terms there are many players with good products that are still performing well and, as a result, continue to have a valid role in the market.
Woodward adds: "There should be more onus on companies' individual performance as well as consideration to the industry norm."
Irrespective of investment returns, Boles says endowments are now only suited to a small number of borrowers. He says: "There is no doubt that endowments were oversold. If you look at the properties of endowments there is no way that they were suited to 50% of borrowers. They are too inflexible, initial charges are too high and that is without even looking at investment returns.
"Investment returns could not be foreseen and market conditions have changed - most of the problems have actually stemmed from these products being sold to people who did not realise there was a risk associated with them. The downside of endowments was not emphasised enough and the reason behind their sale was often commission."
He adds: "Take a 25 year endowment with a £200 a month premium - this will typically earn the adviser £2,000. If they were selling a £200 per month ISA or PEP mortgage they would earn about £50. For less money on alternative products I cannot believe the commission did not feature in the advisers' thinking."
The demise of the endowment may hit advisers' pockets, but does it represent any real loss to the borrower?
Loss of cover
One important consequence is the loss of protection that accompanies it. This is not just in the form of life assurance but a growing number of policies were being sold with critical illness alongside.
Roger Edwards, product marketing manager at Scottish Provident, says: "If people are no longer buying endowments they are no longer getting the protection that automatically came with it. It meant people were buying protection without even thinking about it - but the importance of it does not change."
As a result the onus will be placed on IFAs to increase awareness among their clients of the need for mortgage protection. Jane Hewin, senior external affairs consultant at ZIFA, says: "For endowment policyholders the cost of protection was contained within the product - the life cover was perceived as an added bonus. However, with repayment mortgages the additional cost of protection creates a real challenge for IFAs who will actively need to sell protection."
Fortunately advisers are picking up on this opportunity. Latest ABI figures show that in the first quarter of 1999, 137,000 endowments were sold, compared with 99,000 mortgage-related term products. However, as the endowment's popularity declined the balance shifted and by the third quarter of 2000 endowment sales had plummeted to 55,000 while mortgage-related term sales reached 194,000.
Ron Wheatcroft, technical manager at Swiss Re, says: "The mortgage market is growing and we are seeing a healthy replacement of endowments with more term sales."
But the job of increasing awareness of mortgage protection is far from over - as a nation we are still underinsured and our mortgages are no exception.
According to research from Scottish Provident, around one in three homeowners do not have any life assurance. It is quite likely that the decline of the endowment in recent decades, not just in the last year, is in part responsible for this.
This situation continues to provide IFAs with many opportunities to up their mortgage protection sales - especially as providers such as Scottish Provident and Zurich Life enter the market with a comprehensive and flexible menu of benefits products.
Edwards says: "Mortgage protection may no longer be an automatic sale but IFAs can now offer the clients a range of cover including, life, critical illness, income protection and unemployment benefits in one plan."
As products such as these show, product development in the mortgage protection market has come a long way in recent years. No longer confined to basic term products and mortgage payment protection insurance, IFAs now have a greater range of products to choose from that can offer clients cover that is better suited to their personal circumstances.
Nick Homer, product marketing manager income protection at Norwich Union Healthcare (NUH), says: "There has often just been a process of selling straight life assurance, perhaps with a critical illness rider benefit as this was an easy additional sale. But now IFAs can look at what their clients actually need and ask whether they just need a lump sum to cover a major debt or, with practically everyone paid on a monthly basis and with all their outgoings supported by that, should they be looking at monthly benefits?"
The need to protect the mortgage is not new. But, as the demise of the endowment threatens advisers' incomes and reduces the proportion of homeowners with mortgage protection, there is no better time to take advantage of what the market has to offer.
Rachel Williams is deputy editor
