October 2007

Third Way Products

Getting the message out there

It's been almost a year since Aegon launched the first so-called third way product on the UK retirement market. With its guarantees and capacity for investment growth the launch of 5 for Life heralded the beginning of a new way for people to take retirement income. Before this would-be retirees only really had the option of annuities or drawdown when planning how to take their income. Third way products seemed to offer the best of both worlds by incorporating the guarantees of an annuity with the possible investment upside of drawdown. Over the next few months other participants entered the market and there are indications that more will follow in the coming months. Just how much of an impact will these products have and will the reality match up to the hype?

"I believe that the potential growth prospects for third way products will be exponential," says Mark Mason, independent financial adviser at Buckles. "They fill the huge hole between the extremes of the guaranteed annuity for life and the risk potential of drawdown."

Slow burning

However, despite their potential as yet there has been no big explosion in demand for third way products. According to many advisers the concept will be a slow burner.

"There has been real momentum in the third way marketplace over the past year and it is certainly becoming more popular to have this kind of product available," says Sean McCabe, financial planner at Chartwell. "However, it is still early days and I think it will still take some time before people become fully aware that these options are available. For the moment most people are still considering annuities and drawdown."

Derek Winsland, certified financial planner at Premier Wealth Management agrees that the third way concept will be popular but says that advisers need to understand more about how the products work before recommending them to their clients.

"When they first came out I thought I would leave them a while before I recommended them to clients," he says. "Most IFAs are quite cautious and we need to familiarise ourselves with how the products work and ask whether there could be any potential issues in the future before we recommend them."

However, according to McCabe this caution is as a result of a lack of information coming from the providers themselves.

"At the moment I think there is little or no awareness of these products either among advisers or their clients," he says. "I believe the reason for this is a lack of activity from the product providers and industry as a whole. Providers need to get out there and tell people about their products and the benefits they can bring but instead they are relying on the advisers to do it for them. We simply don't have the marketing budgets to do this on a wide scale. I genuinely believe that third way products are a great concept but they need to be talked about more. If people are continuing to go down the fixed annuity route when there are other options available to them then that's wrong. Even those people who take the open market option are only told about the best annuity rates. There's nothing to say that there may be better options available to that person elsewhere. Maybe the FSA needs to take a look at the open market option a bit more carefully and see how this can be improved."

More education from providers

Increased education would seem to be a key element in boosting awareness and understanding of third way products. While Simon O'Connor, retirement income head of product and marketing at Lincoln admits that providers are willing to "engage with advisers in any way we can," misconceptions are still being formed about third way products.

"The biggest misconception many advisers hold is that the same results can be achieved by using active management of current asset classes," says Mark Locke, Aegon spokesperson. "There is no other cocktail of products that can give an income guaranteed for life, full upside potential on income and capital, death benefits and cash in value. No matter how actively people manage their assets they can never have the foresight to predict major events that have an adverse effect on equity markets. If an adviser tries to allocate a portfolio to different investment classes to achieve the same thing then all they will do is achieve a dilution of benefits."

This is an important issue for advisers and one that will need to be more fully addressed by providers in the future. McCabe agrees that many advisers are still in the dark as to whether the third way is really a different way at all.

"There are a lot of questions as to how these products are going to hold this middle ground," he says. "The adviser wants to look at what makes these products so different from what is already on the market. So far we are seeing that these products are unique and that they do offer things that other products don't. However, we have to see more of what the costs are to the client and see if we can't manage the same thing by mixing other offerings already available on the market."

Lincoln's O'Connor agrees with the need for more education and admits advisers will need more assistance in getting up to speed with the concept.

"While the third way has been well received we have been talking with advisers and are looking at launching seminars as a way of getting more product information across," he says. "The challenge is to ensure advisers know what the product is and how it works."

A growing market

One of the major problems affecting advisers looking to recommend third way products has been the lack of providers currently operating in the market. Up until now only a handful of largely US based players currently offer third way products though it is thought that a number of the larger UK players will look to enter the marketplace soon. What effect will this have on the third way marketing space? Quite a lot as it happens.

"There definitely needs to be more choice as with more providers advisers will start to see small differences between the products," says Winsland. "After a while you can see the strengths and weaknesses of each contract and be able to work out which product is best for your client."

Mason agrees saying: "The more competitors there are then the more activity this market is likely to see. This in turn spurs advisers and their clients to think more about third way products when considering their at-retirement options."

So it would seem that in theory many advisers are in favour of the extra choice third way products can bring. However, the main barriers to growth are a lack of education and provider visibility which allows misconceptions to develop. It also leads to a cautious approach to what could be an important product choice going forward. If these issues can be addressed the expected influx of new product providers could make this area a genuinely exciting market going forward and one which brings extra flexibility to the client. There is a real sense of optimism behind these products that providers need to tap into if the third way is really going to take off.

"I genuinely hope that these third way products have a huge impact on the UK retirement market but at the moment it's more of a wish than anything," says Winsland. "People are getting more savvy about what their money is worth and what the potential pitfalls of each option may be. The more we can offer people then the more likely it is that they will be satisfied with their choices. As far as I am concerned third way products can only be a good thing for the market."

Helen Morrissey
Editor - Retirement Planner
Incisive Media