Cha-cha-cha Me a Tontine Please: Or, just throw me in the longevity pool

Nothing beats a dynamic duo when it’s time to tackle retirement income and risk sharing! We love our conversation with Richard Fullmer and Manuel Garcia-Huitron, co-founders of Nuovalo. Do you like retirement income? We do! But sorting it out is tricky. So what if you maximized your payout by pooling your longevity risk with other people and someone else figured out how much you should be paid every year? Enter Fullmer and Garcia. Their firm delivers mezzanine-level computational software and services to asset managers and funds who want to provide these services to their retirees. This is new. Let’s go a little deeper.

[Left, Richard Fullmer; Right, Manuel Garcia-Huitron]

Gentlemen – we love to start with bios. Tell us about yourselves!

Richard Fullmer: Prior to founding Nuovalo I focused on asset allocation and liability-driven investing as a portfolio strategist.  I will admit that I started my career reluctantly in the insurance industry. It's the first and only job I could get out of college in the early 1980s! It turns out I loved the work. I stayed in the insurance industry for 13 years doing actuarial work and then transitioned to the investment products arena.

Manuel Garcia: I was lucky to get my start when pension reform was happening in Mexico. In 1997 I was a student at ITAM -- Instituto Tecnológico Autónomo de México -- a well-known Mexican university.  My professor and mentor, Javier Beristain, was named CEO of the newly created pension fund, Afore XXI – which eventually became the largest pension fund asset manager in Mexico. He invited me to join him, and I fell in love with this pensions topic. After stints in the US, Netherlands, and back in Mexico, I am now working here in Chile.

PS these guys have the best bios and are deeply credentialled. We are embarrassed at what we’ve had to cut in the interest of space. Please see more on Richard here, and on Manuel here.

Richard and Manuel, you have an interesting new venture underway. Is this concept you are working related to the tontine idea we know and love?

RF: So you bring out the T-word!

Let's just toss that around.

RF: The answer is yes. We prefer the qualified term “tontine principle” to differentiate that we are talking about this principle of longevity risk-sharing, but in a modernized form compared to tontine products of the past. In practice, these arrangements go by a variety of names – we typically use “longevity pools” or “life pools,” but we also like “dynamic pension pools,” which was coined by researchers in Canada recently.  Most people think of such arrangements as a closed-end pool of investors, but an issue with this is that the size of the group declines over time as people die, meaning that the pool becomes less and less diversified over time.

Open-end pools are more interesting, we think, in that they can go forever as new people continually join the pool.

The idea here is that people want a steady lifetime income that starts at a reasonable level and can increase over time, with diversification that remains strong throughout. And by pooling your risk with others, you earn not only investment returns but also longevity credits that grow over time for as long as you live.

This isn’t very common in the US – what’s your role in this arena?

MG: You’re right – it’s here, but it’s not common yet. Think of us as an enabler. We are a B2B company providing financial technology to financial institutions, governments, and pension plans who want to provide better forms of retirement income. We provide a low cost risk pooling capability, and we manage the risk and the amount of payments that people should be getting.

Interesting – tell us more about how savers get to this capability.

RF: Say someone gets to retirement. They may think, I have two income options available to me today. I can do it on my own (or with the help of an advisor), or I can annuitize my money through an insurance company. The first option leaves me fully exposed to longevity risk, while the second transfers the risk to an insurer – but at a cost, of course.

We’re saying there's a third way – to pool your longevity risk directly with others.

For example, you take portion of your assets and purchase into a longevity pool. From the longevity pool you get a lifetime income. The income amount will vary with investment returns and the mortality experience of the pool, but it will last for your lifetime and would be available at a lower cost than a commercial annuity because no risk transfer guarantee costs are involved.

New things take time to adopt – where are you seeing movement?

MG: One place where we are seeing some exciting work is Latin America. In some places in Latin America, there are no annuity markets whatsoever. This is a massive problem for retirement security. It means that large segments of the population are not getting any inflation or longevity risk protection beyond any basic pension from the State.

The only country with a robust annuity market is Chile. Around half of current Chilean retirees have chosen an annuity. This may be the only example in the world where you have such a market penetration of annuities.

In Chile, the only other solution available is a product called programmed withdrawal, a type of drawdown that has an actuarial adjustment every year, which at a superficial level makes it interesting from a policy-making perspective because you are trying to make the payment last as much as possible. In fact, it has very unattractive properties for individuals because the payment amounts decline year by year. Programmed withdrawals offer no longevity risk protection whatsoever.

Risk pooling such as we are discussing will solve some of the political problems, and provide a better solution to some of the heated discussions around pensions here in Chile.

In Colombia, where a total market solution is probably not possible, we’ve been involved in a research program as part of a project with the Ministry of Finance, showing how a national collective program with this type of solution would improve welfare for Colombians.

Richard and I also worked with the Uruguayan Pension Reform Commission, which recently published a report with reform recommendations. A small team including the Central Bank and the Ministry of Finance produced computations under our guidance showing how a longevity risk pooling arrangement would improve the situation in Uruguay, where there are no private annuity providers whatsoever.

Are these sorts of ideas in place and working elsewhere – what do we need to know?

MG: Yes – In Sweden, a year 2000 reform introduced a totally redesigned first pillar, known as the notional DC. When people reach retirement, they become part of a collective national pool, which works very much in the same way as tontines or, as we call them, longevity income pools.

The Singaporean CPF, or Central Provident Fund, is also very much a tontine. Q Super in Australia recently launched a pooled lifetime income as well. There are other examples around the world that been working for many years such as the CREF product offered by TIAA in the United States as well as the faculty pension plan at the University of British Columbia in Canada.

So tell us, gentlemen, is the rest of the world going to have a good solution for longevity retirement income before we do in the US?

RF: Well, that remains to be seen. But I will go out on a limb and say I think that's what I'm seeing. There seems to be more reluctance in the US to innovate. Sometimes we see reluctance on the part of plan sponsors and product providers to try anything new until there is perfect clarity from regulators. That often makes things go slower in the US.

But it does seem to be catching on around the world. And as it does, we expect to see folks in the US start to start to take it more seriously. I think they will have to if they want to stay relevant because risk pooling is that powerful. Our job is to help institutions do it as efficiently and effectively as possible.

On that serious note, it’s time for a fun question. What are you each planning this winter?

MG: So it’s summer here! You know, Chile is a wonderful country. The geography is amazing. You can go and ski or to the beach, one hour from Santiago, which is where I live. We love traveling, my wife and I. Our daughter is nine and our son is eight. We get summer break in January, and we’re all planning to go to Guanajuato, Mexico, four hours away from Mexico City. It’s a World Heritage site -- a fantastic city if you want to visit Mexico and you don't want to go to the pyramids and the beaches you need to go to this city. We plan to visit my grandparents and other families there this year.

RG: We went to Lake Placid, New York, not long ago, where they held a couple of winter Olympics. Of course we’re looking at the bobsled runs and the ski jumps and all of this. I was thinking it'd be really nice to go back up there in the wintertime. Now I don't think I'm going to be going off the ski jumps. But apparently, you can do the bobsled runs. So that might be on the list.

Richard, it might be time for you to start your own risk-sharing pool and we'll get in there with you. We like the odds.

Richard Fullmer and Manuel Garcia, we appreciate your innovative thinking about lifetime income. Want more? You can connect directly with Richard and Manuel by email. You can follow Nuovalo’s work at www.nuovalo.com. You can also connect with Richard and Manuel on Twitter at https://twitter.com/nuovalo.

This piece was featured in the December 16, 2021 edition of Retirement Security Matters. For more fresh thinking on retirement savings innovation, check out the newsletter here.