Navigating the Money Game

Thoughts on the ever-changing life settlement industry

Many tales have been told about this misunderstood industry. The one I Iike best is, “the life settlement industry is dead.” If this were a text message, I would reply in all caps: LOL.

While the industry has changed significantly since its inception — and most definitely since the capital market shift in 2008, due partly to the life expectancy changes that followed — the players left standing are among the best of the breed.

The life settlement business began on a note of market exuberance. This was followed by complicated transactions, large fees and questionable players who took advantage of unknowing clients. And yet, if you consider the overall size of this market compared to its small, insignificant litigation, it’s fairly obvious that life settlements have become a mainstream obligatory and fiduciary responsibility that any quality agent should  be able to utilize for a senior client.

What was once believed to be a dirty “death bond” product has gained acceptance as just another tool in the work belt of a financial advisor. But what has changed? And why have so many left this industry?

The buying frenzy

Like many industries, life settlements initially created a buying frenzy, with many buyers looking to jump in feet first without looking at the bottom of the pool. Deep buying, large fees (without disclosure) and a misunderstood product almost pushed the industry over the edge. Goldman Sachs, JP Morgan, Credit Suisse and other large institutions have left the market. They would like you to believe that they’ve made this move because the industry has a bad reputation.

The truth, however, is far more complex: It’s difficult to make money in such an intensely regulated, niche industry without significant volume. Even the industry association, of which this writer is an active member, continues to get the numbers wrong. Only a few billion dollars of product gets traded annually, and while there may be billion of billions of senior policies expiring each year, most cannot demonstrate the positive internal rate of return required by the funds that are left buying in the space.

Many policies, few providers

The state of Florida is a perfect example. Many seniors purchased policies from 2007–2009, hoping that they could at least have the option of selling these policies at a profit in the future. Statewide, there are 16 approved life settlement providers. A few of these providers work predominantly with large brokers. They do this because, to process these policies, it costs an average of $1,500 per review, in hard dollars, with medical records, paperwork and outside life expectancy underwriting. So, while there are 16 providers that have the ability to purchase polices in the state, only four or five actually have the capital to make a purchase. This alone keeps offers low. It also keeps clients wondering why they do not receive the great offers they were promised, and can even create the feeling that someone is getting rich off the sale.

Fortunately, the advent of full disclosure of compensation by almost all of the providers in the marketplace has put most of these issues to rest. (The original idea behind the compensation structure of the life settlement industry was built upon the mortgage or home sale commission structure, with three to six points of the face amount being paid to the broker and agent, or a maximum of 20 percent of the client payout.)

This past week, our firm closed a case on a $5 million policy, with the insured receiving a gross offer of $500,000 on a three-year-old policy in the state of Florida. The client had already paid $450,000 in premiums and could see no way of walking away without a profit. So, what about the model? Three points of $5 million, or even 10 percent of what the client received, would have been $50,000. At the end of the day, the broker and the agent split $10,000. Does this mean that there are still no quality transactions where a client and agent can both take advantage of this market? Absolutely not.In many states, New York included, there are over 42 providers buying policies. The right broker — someone who knows which providers are buying which policies and why — needs to be the one navigating the money game. The buying parameters of each provider are different, and even with 42 approved providers, generally only 10–12 can compete on a case due to various restrictions of their fund or their true capital structure.

A real opportunity

The life settlement value proposition is still a great opportunity for the senior who meets the basic criteria of the market: an aged policy, a face amount in excess of $250,000 and a change in health since inception of the policy. These continue to be the key components of a successful sale. The bottom line is that life settlements are a good market for the right prospect, a great way to initiate a conversation with an existing senior client and a phenomenal opportunity for the scores of individuals who have decided, for whatever the reason, that they no longer want or need their policy.  «

Robert Finfer is president and CEO of Bethesda, Md.-based Integrity Capital Partners, LLC,  a leading life settlement broker.

 

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