Well, good afternoon. Welcome to the CNO Financial Group 2012 Investor Day Conference. I'm Erik Helding, Senior Vice President of Investor Relations. On behalf of the entire management team, I'd like to thank you for participating in today's event and for your interest in the company. Today's presentation will cover several topics that we hope will further enhance your understanding of CNO. First, Edward J. Bonach, our Chief Executive Officer, will talk about CNO's overall strategy for addressing the needs of our fast-growing and underserved target market, how CNO differentiates itself from its competitors, and lastly, some of the strategic initiatives and milestones that the company plans on executing on over the next several years. Next, Scott Perry, Chief Business Officer and President of Bankers Life, will speak about CNO's overall distribution and go-to-market strategy and discuss specific areas of growth for each of the business units.
Scott will ask Michael Buckley, Senior Vice President of Sales at Bankers Life, Steve Stecker, President of Washington National, and Gerardo Monroy, President of Colonial Penn, to join him up on the stage to talk about some of the initiatives and key value drivers of each of those businesses. After a short break, Eric R. Johnson, our Chief Investment Officer and President of 40|86 Advisors, will discuss CNO's investment portfolio and strategy. Eric will turn it over to Frederick J. Crawford, our Chief Financial Officer, who will cover some key financial topics. Ed will make a few closing remarks. At the end of each section, there will be a question and answer period. If any member of the audience would like to ask a question, please raise your hand and we will provide a microphone so that those listening to the webcast will be able to hear.
We have a full agenda. Time is limited, we will limit questions to two per person. At the conclusion of the conference, Ed, Scott, Eric, and Fred will come back up to the front for a final Q&A session. The company greatly values the input and feedback of all of its key stakeholders, we'll also conduct a brief online survey of today's event. Additional information will be sent via email in the next couple of days. This morning, the company issued a press release that provided an update on its stock repurchase program and provided 2013 guidance for dividends to the holding company and securities repurchases. Ed and Fred will cover these items in greater detail during the presentation. You can obtain this release by visiting the media section of our website at www.cnoinc.com.
This afternoon's presentation is also available in the investors section of our website and was filed in a Form 8-K this morning. Let me remind you that any forward-looking statements we make today are subject to a number of factors which may cause actual results to be materially different than those contemplated by the forward-looking statements. Today's presentation contains a number of non-GAAP measures, which should not be considered as substitutes for the most directly comparable GAAP measures. You'll find a reconciliation of the non-GAAP measures to the corresponding GAAP measures in the appendix. Now let me turn it over to Edward J. Bonach, our Chief Executive Officer. Ed?
Thanks, Eric, and welcome everyone. It looks like I did win the bet with the management team that if we sprung for sponsoring a concert last night at MSG, we'd get a better turnout today. Thank you for your attendance and coming. This is CNO's first ever investor day. We think it is another important demarcation in our continued growth and development. With today, we have spoken to many of you prior to this and did obtain input. We are seeking to advance the ball of knowledge on several fronts. Specifically on that is, okay, why is CNO a good value proposition? What about our growth? What about our continued capital deployment, even beyond our press release today? How are we going to achieve our ROE goals and learn more about our unique market position and business model?
As part of that, we also think there are some key questions that you've got on your mind or most of you have on your mind that we'll try to also answer and advance the ball there, too. Low for long interest rates. Certainly with the recent Fed comments that continues to be on everyone's mind. What about long-term care? What about healthcare reform? What are we going to do and what are we doing with our OCB runoff segment? As Eric mentioned, we'll hopefully continue to listen to you and come back to you after for an online survey in the next few days. With CNO, we have been focused on execution and first of all, to really reset our business mix. Get focused on the middle income market that's underserved and fast-growing. We also did a lot of work on setting a firm financial foundation.
We've got strong capital, strong liquidity, strong earnings, strong cash flow and excess capital generation. We are returning from that or with that moving forward and in the past to invest in growth. We have been growing faster than the marketplace. You're going to hear about investing even more in that and increasing our sales as we move forward. With that also, we have been returning capital and value to the shareholders. We continue to have that as a priority going forward. I would like to propose that we're no longer CNO the project, but we're now CNO a compelling value proposition. What does differentiate us? We think it starts with the fact that we're defined by the market that we serve. We have a market focus. Very different than a lot of companies in the industry that are product focused.
We're focused on that middle income market and largely with exclusive and direct distribution. With that, we think that it brings a lot of ability to do things that other companies using independent distribution, brokers, cannot do, and you'll hear hopefully more about that too. Alignment is a key. Alignment first with having distribution to go and reach that underserved target market. Secondly, having a breadth of products to go and serve the needs of that middle income market. Having then on top of that, a home office, back office that supports the distribution and our customers, and wrapped all in a culture that is dedicated to serving the underserved middle market and advancing the ball for shareholders and all of our other stakeholders. Heard a lot about the aging of the baby boomers. Heard a lot about demographics. Well, the market's growing.
It is underserved. Over half the people that we end up having as customers through agents, through direct, have not been called on by any type of agent or financial advisor in the last year. If you look even past that, the number is not much different if you said two years or three years. Most people are unprepared for retirement. We know in America we are a nation of spenders, not so much savers. The advice, the products, the service we bring is pretty important to them. We do have, again, through largely exclusive distribution and direct, a way to reach that market. Let me level set a little bit on what that means, and especially I am going to focus on Bankers Life career agents. It is very different.
The agents, how they work is quite different than insurance agents or brokers that you might be familiar with. First of all, these agents do mirror, and they are from a socioeconomic status, the market they serve. They're middle income, largely. They also live near the customers they serve. They are set up in offices that are largely leased Class B office space. They have rows of small cubicles with a telephone and a file drawer where they're using that to make appointments, follow up on different requirements if necessary for completing an application, and then going out, and they actually do meet face-to-face in the people's homes across the kitchen table to listen to their needs and try to propose solutions to meet those needs. The other thing you won't see in these offices, you're not going to see mahogany and marble.
Again, Class B leased office space, more of a factory to be able to serve the customers and get out there and serve them. With that, let me turn here to our three core businesses. We are, and have been growing in all three segments. We have been investing in those segments, but we're stepping up that investment. We expect to invest in organic growth initiatives in these three segments over the next three years, between $80 million-$85 million. We've also invested in people. Had Fred Crawford obviously join us less than a year ago. Middle of the year, added Bruce Baude to head IT and operations. Why? Because that helps to move the lever and continue to move us along the track to meet our objectives of growth, earnings, and ROE.
With operational efficiency, cost efficiencies, that is one of the four levers that we've been speaking about to move us to our ultimate ROE goals. There are various things that are guiding our principles here and Bruce and his team in working with the businesses. How are we going to approach and serve the market? That's on the left-hand side here. These are what we're being guided by and how we define success in providing good service. Along the right-hand side are the areas of opportunity. We do see a distinct correlation with improved customer service, driving higher sales, higher persistency, more business growth, and earnings. It also helps with the agents. If we serve the customer, we're helping to serve the agent at the same time. This is a way to think of and look at our value proposition. We have this unique business model.
It provides us with steady earnings, excess capital to invest and deploy, and we do have opportunities, like I said, even beyond what we announced today on capital deployment and capital management. Unlocking value in OCB is a part of our opportunity landscape here, and that'll also be a potential to stairstep our returns even more. Again, Fred will touch on that later. Make no mistake about it, investing in organic growth is a priority. At the same time, returning value to the shareholders is also a top priority. Let me be a little more specific about what are these milestones or what does that mean. Mentioned investing $80 million to $85 million in strategic business initiatives over the next three years. These investments, we think, will expand our reach, increase agent counts, increase locations, help with productivity, as well as product offerings to our target market.
We expect that these will drive our sales growth from the current 6%-8% annual sales growth to 8%-10%, and then ultimately 10%-12%. Capital deployment is certainly a part of this in helping the shareholders, and we expect to do more in the way of returning capital to shareholders. I'll touch on that in a little more detail here in a minute. What do we mean by accelerating the run on and the run off? Talked already about investing in growth. That's part of the run on. On the run off, that's OCB engineering, and we do see that as being a key part of continuing to deliver shareholder value. One might ask, what about M&A? Is that in your landscape and scope? It could be, but let me set expectations on that.
First of all, it's going to be a strategic fit if we do anything. Certainly the management team has heard, many of you have heard, we're not going to go out and buy hot dog stands. We don't know anything about running a hot dog stand. We know about life and health insurance and annuities serving the middle market. It's going to be a strategic fit. At the same time, it's going to be of a size that makes sense, meaning self-financed. With our stock trading below intrinsic value, we don't think it's a smart idea to go and issue stock to make an acquisition. We think our recapitalization puts a great debt structure in place for us. Don't see going and levering up to go and do an acquisition. In many ways, we don't have to. You know about the cash generation story.
Again, Fred will give you more details on that. We generate a considerable amount of excess cash and capital every year that way. Talked about the customer experience and how that is going to help us, and that direct correlation between customer satisfaction, sales growth, persistency, and earnings. We do have as our objective by 2015 to have at least a 9% ROE. Again, we'll give you a little more color on how we get there. We do believe that by 2015 we'll be investment grade. Now, the beauty is for us, we don't need that to conduct our business. As you know, we're not in a rating sensitive part of the market, and that is not why we need it.
We want it for capital markets purposes, give us additional flexibility. We think that improves the shareholder base too, for those who question, why would I want to own a below investment grade financial company? We're looking to increase our dividend and target a 20% payout ratio by 2015. When we initiated our dividend earlier this year, that was at around a 1% return, very modest payout ratio, but very much in line with where companies initiate dividends. We continued to pay close attention to what the peer group does with dividends, what levels they are, and we realize this 20% is at least currently somewhat at the low end of the medium range. We think that's important. Again, going back to my earlier comments, with the stock trading below intrinsic value, we would expect that we'll continue to deploy most of our excess capital with securities buyback.
Again, you'll be hearing a lot more about these in the coming couple of hours. With that, I will open it up for a few questions here if anyone has them. We've got, again, mics, so raise your hand if you do have a question.
Say your name and company before your question. Thanks.
Joe Dona, ING. Maybe you can, or if you're going to do this later on, that's fine, but if you can outline the path to IG for us, what measures you're targeting, and how you're thinking about that.
Yeah, I do believe we will be covering that. I know asking for questions right up front here when we've got a couple of hours of my colleagues coming up is potentially going to be the answer to a lot of questions. It hopefully is telling you that we are thinking of what's on your mind and trying to address them. One over here.
Hi, Seth Levine from Guardian. Looking at slide eight, when you look at sort of your opportunities, how do you guys view the various bullets there in terms of order them, in terms of priorities?
With them, we first view them as opportunistic in that we can't necessarily predict. Slide eight, is that it? Okay.
The one with the circle.
The circle?
Yeah, that. There you go.
There. Yeah. On one hand, it's opportunistic. Capital management, we believe we've been focused on that for some time and continue to be focused on that. Now, how much goes into securities buybacks, et cetera, in part is dependent on where is our share price and where is that relative to what we believe intrinsic value is. Obviously, at today's levels and historic levels over the last couple of years, it is, in our opinion, below intrinsic value. We're putting a lot of our capital management towards that. Fred will touch on this later, but prior to this year, we spent a lot of time building up capital levels in the insurance companies, building up liquidity at the holding company.
Good news is we got levels there that we feel are appropriate to run the business, to support higher ratings, and to move forward so that we actually have more capital to deploy. The runoff engineering, that's really something we'll also touch on, but we needed to do some things that we have been doing in OCB to stabilize that business, maximize cash flows, and reduce volatility in order to have that now come on. I'd like to say on operational efficiencies, we've been working on various aspects of that all along, but we're stepping it up. Investing in Bruce coming on, looking at having more money invested in organic growth, which also helps to drive certain efficiencies. They're all maybe a long way to get to.
They're all equally important, but they're going to be in different degrees of timing and dollars just because of either where we're at, where our stock's at, or where the market's at. One more over here.
Sam Profit, Stone Harbor. Ed, I don't want to seize upon a distinction without a difference, but I do note that you're careful to say intrinsic value. You're not saying book value. Is there a difference between the two? Are you making a nod in the direction of the difficulty that spread businesses will have in a compressed yield environment? Is there more meaning there?
To me, it's almost a rhetorical question of what's intrinsic value? Is book value the best representation? I would say that one of the main reasons we use intrinsic value is the DAC accounting change that we had not too long ago. Well, that changed book values. Did intrinsic value change? No. We're using a term that hopefully transcends whatever accounting regime scheme we're under there, and that's why we choose that to be economic value.
Thanks. Chris Giovanni, Goldman Sachs. When you have the dividend payout ratio target of 20%, is that 20% of the capital that you generate, or is that going to be based off of operating earnings?
From earnings.
Okay. If we go back in June, you were at an event, stock was at $6, $7, you said it's a screaming buy. We're sitting here today, the stock's up, how would you categorize the value proposition?
I won't scream, but I'll talk real loudly. We think it is a compelling value proposition. We really do with the market position we have. The ability to grow. I go way back into my college business days. If you have a business that, first of all, still has strong cash flow generation, is in a market where there's not a lot of competition you've got a sustainable competitive advantage, you're earning reasonable returns, that is a value proposition. We think, again, going back to intrinsic value, is not yet reflected in our stock. We think we have a long way to go yet to have the two paths to meet here, we're dedicated to continuing to unlock that have the markets recognize it.
We'll move on here now, but again, as Erik said, we'll have more time for Q&A after every session then at the end. Thank you.
Great. Thanks, Ed. Next up, Scott Perry, Chief Business Officer and President of Bankers Life, will talk about the segment growth strategy and then lead a pseudo panel discussion with his direct reports to talk about their market and distribution. Scott? If we can go back.
Thanks, Erik. Good afternoon, everybody. It's truly a pleasure to be here to talk to you about the CNO businesses. For a long time, we spent a lot more time talking about our balance sheets than the business. It's nice to see the interest shifting in the marketplace. As Ed mentioned, at CNO, our strategy is not about products. It's about the market that we serve, and that market is the growing middle market. We have three businesses that are focused on serving this underserved market. Each is uniquely positioned, focusing on different sub-segments of that market, whether that's working Americans, people in their pre-retirement years, or people already into retirement. Each is uniquely positioned as well to distribute and reach that market through controlled distribution that targets a sub-segment of that demographic with straightforward, simple, protection-based life and health products, and the right go-to-market approach.
What I mean by go-to-market approach, whether that is a face-to-face visit at somebody's home, a face-to-face interaction at the work site, or direct to the consumer at the workplace. The combination of those three elements, the focus, the right products, the right approach, positions our businesses well to profitably grow and serve their market. Now, over the next 30 years, this market is going to see tremendous growth, especially the 50-plus demographic of the market that's going to be fueled by the aging of the baby boomers. Each one of our businesses has strategies in place to capitalize on this tremendous market opportunity and grow sales at two to three times the traditional rate that we've seen the industry grow.
What I'd like to do now is just walk through each one of our business segments, talk at a high level about some of the strategies and growth levers that are in place, and the areas that we are focusing on. Let's begin by talking about Bankers Life. Bankers is our career segment that focuses on the pre and post-retiree segment of Middle America. At Bankers, we focus on and have identified three primary growth levers. The first is expanding our agent reach. That's essentially another way of saying growing our agency force. The second is improving our product offerings, making sure that we have the right products to meet the needs of the marketplace, and that we provide those products to our agents, so they can serve those needs of the customers and build their practice successfully.
Finally, we focus on building our customer relationships, essentially deepening those relationships, giving the company an opportunity to cross-sell multiple products into a household. Increases our customer loyalty and results in improved product persistency down the road as well. As you can see on the slide, we have a number of initiatives that are in flight to support these growth levers. As we think about incremental investments into the business, we tend to think more around those things that are at the core of our competencies, those things where we have experience or we've been able to successfully demonstrate competency in execution, which raises the likelihood of success as we implement those initiatives. For instance, as we think about growing our agents force or expanding our agency force, we know that there are two key elements. The first is more locations.
More locations gives us an opportunity to establish a foothold in a local market that gives us that base to recruit, train, and develop agents. Another key to growing and expanding our agency force is improved productivity of our agents. We know that improved productivity leads to improved agent retention. Improved retention, along with consistent recruiting, leads to agency force growth. To support these key elements, we've recently invested in two major initiatives. The first is the Management Trainee Program, or MTP. The Management Trainee Program is all about identifying high-caliber candidates from the outside to enter and join the company as management trainees. They come in and learn the business from the ground floor up. They enter as agents, and they rapidly move through the process of being an agent into a managerial ranks, and they rapidly move through the managerial ranks.
We provide them with the support and training and guidance to make that happen in about two and a half to three and a half years. That's about half the time that it takes us organically to produce a management candidate within our system. What this is going to result in is it's going to result in a pool of management candidates that are going to emerge beginning in 2015 that'll be able to staff kind of an accelerated location expansion. We'll continue to develop management candidates organically, but we're going to add to it with this accelerated addition of management trainee candidates through the Management Trainee Program. One of the other initiatives that we're investing in is Top Gun. Top Gun is all about improving agent productivity, especially agent productivity of our second-year agents.
One of the things that we experience, much like the rest of the industry, is as agents enter their second year, we tend to see a high attrition rate. A lot of agents discover that the business is a lot tougher, and they have trouble of being productive, and therefore they drop out. The Top Gun program targets agents that have demonstrated a high propensity to be successful in this business, and we provide them with additional tools, support, and training to improve their productivity so we can pull them through that second year into their third year. We know if we get them into the third and fourth year, we're going to see retention rates go up. Over the next three years, we're going to be running about 700 to 900 agents through the Top Gun program, improving their productivity, which will also lead to improved retention.
Again, that combined with consistent recruiting will allow us to grow our agency force. Those are just a couple of the initiatives that I wanted to highlight within the Bankers segment. Let's move to Washington National. Washington National is our agent-driven business that sells supplemental benefit plans to working families. They do that both face-to-face in people's homes as well as face-to-face at the worksite. The key growth levers at Washington National are similar in some ways to Bankers. One is to expand our distribution. Slightly different at Washington National than at Bankers, at Washington National, this is all about expanding PMA. PMA is our wholly owned career agent subsidiary. The opportunity at PMA is to expand geographically, like at Bankers, but it's different in many ways. At Bankers, we're already nationwide.
At PMA, we're only effectively in about 15 or 20 markets, 15 or 20 states. The opportunity there is to redeploy existing talent to open up new geographies and new states, that will give us a chance and opportunity to replicate that model in multiple markets. Key to being able to support that redeployment and expansion is making sure they have the right product, that leads us to our second key growth lever. We're introducing a new, unique, and innovative product. We're going to be introducing this in January, just around the corner. It's called Active Care, and this unique product combines the benefits of a critical illness product with a hospital product and even offers the opportunity to purchase accidental coverage.
It's unique, innovative, it fills a significant gap, and early indications as we review this with our agency force has given it extremely high marks, and we've done some consumer focus groups as well. We think this product will stand to significantly benefit from some of the changes that we're going to see in health care reform as it truly is a supplemental gap filler. One of the other levers that we believe will benefit our growth plans at Washington National and improve our customer satisfaction and our customer experience is the expansion of electronic application. The electronic application allows our worksite customers, employers, and our agents to submit business seamlessly, electronically, and that business gets straight through processed. That obviously improves the satisfaction level of our customers, allows our agents to get their business issued, and allows them to get paid faster. That leads to higher agent satisfaction.
More importantly, it improves our back office efficiency, which leads to lower costs on the acquisition side and allows us to be more competitive in the marketplace. I'd like to touch on Colonial Penn. Colonial Penn is our highly predictable direct-to-consumer marketing engine. At Colonial Penn, first and foremost, it's critical that we tightly manage our base business model. That base business model is what's been driving most of our double-digit growth over the last three years. That base model is our guarantee acceptance final expense policy that's sold. The key to managing that model is ensuring that we're driving strong marketing yields from the marketing spend. That's all about managing our lead costs, making sure we're getting optimal lead generation for the programs that we're implementing, and ensuring that our inside sales force is successfully converting those leads to sales at a high rate.
We'll continue to tightly manage that base model. We'll continue to offer our guarantee acceptance product, and we think it's going to help contribute to our growth. To sustain double-digit growth, which is what our expectations are at Colonial Penn, we're going to have to do more. We're going to have to expand into new markets, and we're going to have to expand our product offerings. One of the things that we'll be launching in 2013 and 2014 is to expand into the Hispanic market. Obviously, a significant, fast-growing subsegment of the middle market. We think this market is ideal for the Colonial Penn offerings. We'll be taking our base model, the guarantee acceptance model.
We'll be making modifications to our marketing messaging, our collateral, some of the targeting that we do, the direct mail targeting that we do, and we believe we will be able to seize a larger share of the Hispanic market. The other opportunity is to expand to slightly younger ages. Today, our guarantee acceptance product offers a maximum benefit of $25,000. The two new products that we'll be launching this year and into next, one is a term life product, the other is a whole life product. Both offer benefits up to $50,000, so two times our current benefit offering. We believe these products, which combined make up our Patriot Program, will appeal to a slightly younger age than our current product and our current strategy is appealing to.
These two things combined, the entrance and focus on the Hispanic market, the addition of two new products that will bring us down in age slightly, and in addition to continuing to tightly manage our base model, will allow us to continue to deliver high double-digit growth at Colonial Penn. Before we go into our panel portion of our discussion, there's just a couple of topics I'd like to pause and address for you. I'm sure they're probably on your list of questions or things that you'd like us to discuss. The first is our long-term care strategy. I'm not going to go into the financial dynamics of long-term care. Fred will cover that later in his remarks, but I did want to discuss kind of the strategic positioning and the strategic feeling that we have about this product within our market.
First and foremost, long-term care is important to our business segment at Bankers Life, obviously. It's important to our segment because it's important to our market. We believe that we are comfortable with being able to manage some of the complexities and the changing aspects of this line, largely because we see our long-term care business considerably unique and different than the rest of the industry. How is it different? How is it unique? First of all, it's unique because of the market that we serve. Because we serve the middle market, we tend to sell to a lower price point. That means we're selling a lower risk profile product. We tend to sell two to three-year benefit periods when the rest of the industry is selling four, five, eight, 10, or lifetime benefit options.
Because we tend to sell to a slightly older market, we also see an older average issue age. Our average issue age is approximately 67 years old versus an industry rate in somewhere between 58 and 59. What does that mean? Well, that means the average duration of our business is in the 12-14 range versus an industry average that's closer to 18-20. This gives us better ability to match our assets and liabilities. How else are we different? Well, 100% of our business has been and is being sold through controlled distribution. This means that we don't get selected against either at the point of sale or at the time of re-rates. Another way we're different is we're not in the group business at all. 100% of our business is individually underwritten.
Also, since 2009, over 50% of our sales have actually been short-term care. We lump it into one category and call it long-term care. Short-term care actually makes up over 50% of our business, and that policy has a maximum benefit period of one year, again, significantly lowering our product risk profile. We've also been aggressively managing our business over the years, both our in-force business as well as our new business. We began re-rating in-force business in 2006 as it was necessary. We've been able to implement multiple rounds of re-rates as appropriate in some blocks of business are at our third round of rate increases. One of the reasons we've been able to do that is back to our controlled distribution. We weren't held hostage by our distribution, and we weren't competing for distribution.
We were able to go to our distribution and work together to understand the importance of the long-term value of putting in these re-rates. We've also actively been managing our new business, our product for new sales. Matter of fact, beginning in the middle of 2013, we'll be introducing a new product with new pricing to reflect the low for long view that we have on the interest rate and our ability to generate yields. We've actively managed in-force and new business pricing as well as making underwriting modifications when necessary. We'll also be introducing some underwriting modifications at the beginning of the year that'll affect our existing product as well as our new product. That will essentially lower some of the benefit offerings and lower the maximum issue age. What do all these things mean? These are the things that make us different.
These are the reason why we think our business will perform differently and outperform the rest of the marketplace. Moving on to the next topic that may be on your list, and that's healthcare reform. I'm not going to provide a tutorial, an exhaustive explanation about healthcare reform or the Affordable Care Act, but I did want to discuss how healthcare reform affects or, in fact, doesn't affect the CNO companies. First of all, because the majority of our products, or all of our products, fall under the accepted benefit definition of the Affordable Care Act, we are not directly affected. However, because we do travel around the peripheral of healthcare and healthcare reform, we may see side effects, indirect effects. For instance, Medicare Advantage will see changes. We expect Medicare Advantage to be in and out of favor over the years.
Well, that's why we participate in both markets. We are a distributor of Medicare Advantage for some of the leading providers and have been for over 4 years. We're one of Humana's top distributors. We also have relationships with United and Aetna. We are also obviously a manufacturer of Medicare Supplements. As that business goes in and out of favor, we think we stand to take advantage. Another change that we think will occur as a result of healthcare reform is gaps will be highlighted and exposed in coverage. Our policies are well-positioned to fill those gaps. We think supplemental benefits absolutely will stand to benefit from healthcare reform. Lastly, as we've seen in the past, reform creates confusion.
Confusion in the marketplace is an opportunity for our career agents to go out and meet with people face-to-face, whether that's our PMA folks or our agents at Bankers, to meet with our customers, to help them navigate through the decisions they have to make, to answer their questions. That activity leads to sales activity, and sales activity usually leads to sales. We think overall, we're well-positioned to stand to benefit. We'll obviously monitor healthcare reform as it unfolds. We think at this point, we're well-positioned and see it as an opportunity. Okay, now let's move to the panel portion of our discussion. Before I bring our panelists up, I'd like to just make a few remarks again about our franchises overall. Each one of our franchises has a unique value proposition and a unique distribution model, but they do share the attributes I mentioned.
We focus on the middle market. We offer straightforward, simple protection products through controlled distribution methodologies. The goal of today's panel is to give you a little deeper understanding of the approach that each business takes to their market and some of their differentiators in the marketplace, as well as what are the key elements or key value drivers that they look at in managing their business and ultimately to grow their business. Why don't we get started? Let me first bring our first panelist up, and that's Mike Buckley. Mike is Senior Vice President of Sales at Bankers. Mike's been in the industry for over 35 years. He's served in senior sales roles with leading organizations including Prudential and American General. Mike joined Bankers in 2004 as a Territory Vice President, moved into his current role in 2009. Next on our panel is Steve Stecker.
Steve is President of Washington National. Steve has over 25 years in the business in both marketing and operational roles. He joined CNO in 2004 and moved into his current position in 2008. Finally, Gerardo Monroy. Gerardo has been in the industry since 2001. He's held various positions, including Head of Marketing at Bankers, and most recently, he led the Bankers long-term care operations team. Gerardo moved into his current position as President of Colonial Penn in August of this year. To get started, Mike, why don't you tell us about the Bankers' value proposition, a little bit about our market, and about our model?
I'll be happy to. Good afternoon, all. I'm going to talk a little bit about, as Scott mentioned, the target market, our distribution model, and the metrics that we manage to. First of all, our customer base. Pre- and post-retirees, middle-income folks that are close to retirement, getting close to Medicare decisions, and folks that are in retirement. They have a modest amount of assets. These are folks that really aren't looking for wealth management services or to pay a fee for doing that. Their assets aren't strong enough. They do require professional advice. They enjoy having trust in a representative that they can talk to face to face. The issues that are important to them are retirement planning, certainly Medicare planning and understanding their choices, final expenses, even a modest amount of legacy giving.
Again, they prefer this kind of counsel on their own terms in their own homes, and we're willing to do that. The products we offer are very straightforward. They're traditional life insurance, fixed annuities, as Scott mentioned, long-term care, moving even more to short-term care, Medicare Supplement, and Medicare Advantage plans. I want to talk just a minute or two about our distribution model that Ed referenced as really a differentiator, and I believe so, too. Having been in the career agent industry for over 35 years, been a part of GAMA International organizations and committees and LIMRA organizations, you really don't have an appreciation for how different and how personalized Bankers distribution model really is unless you totally visit and understand. Some of the unique qualities, number one, we have management employees. Now, that's not entirely different, but it gives us control over processes.
It gives us standardized procedures. It allows us to share best practices and to really execute to those practices. From the agent's perspective, we have independent contractors, but they're captive. They're exclusive to Bankers. They either write Bankers products or partnerships that we've engaged with. We're not competing with non-proprietary product. We have control there. They offer face-to-face counsel and with strong management oversight, and we are especially gifted and trained to establish strong service relationships with our customer base and to develop new relationships. They're very good at that. We have various customer access points. We use direct mail. We certainly train to referrals. We have agent participation in understanding and executing to different prospecting techniques that come up. We are especially focused on engaging our 1.4 million customers in cross-selling and showing those customers the opportunities they have to solve other needs.
Especially unique and coming from a different perspective is the understanding of the culture in our organization. It is very, very special, and I really think you need to be involved to have an appreciation for how different it is. The culture is one of complete sharing. Our management team, the fabric of loyalty that exists between them and each other and the organization is exceptionally strong. They participate in all committees and give all kinds of feedback on any process initiatives we have, any best practice sharing. We have a Bankers University that's run by our management team, where 250 or so management folks gather on an annual basis in Chicago to share their ideas. They're competitive, like all salespeople are, and they want to be at the top of the ranking in Bankers.
They also understand that giving back to Bankers Life is extremely important, and that's a culture that I think we all in the organization CNO appreciate. To profile a branch to build on what Ed had mentioned. Our typical branch is about 2,500-3,500 sq ft. It's in Class B space. If we have a satellite off of that branch, that satellite typically is a 1,500-foot satellite to begin with. We have a lease of as early as a year and as late as three years. We limit our potential cost liability if it doesn't work the way we think it should work. We have a branch sales manager in charge of a branch. We have 143 of those. We have 275 locations, meaning the balance are smaller satellite locations, and they're run by second-line management that report to the branch.
Where we target those locations is important. We do a market analysis on senior population and Medicare opportunities, as well as recruiting opportunities. We know that our agency force, wherever they live, they write within 30 some miles of where they live. To reach out and cover territory where we don't have facilities requires a facility. We are strong on focusing on management development and even stronger now with the Management Trainee Program that Scott mentioned that we're developing to continue to fuel our satellite locations. Talking about the key value drivers. First, it was mentioned, we're laser-like focused on agency growth. If you look at the top two graphs, you can see that there is some correlation, a strong correlation between the selling locations we've been able to establish along with the agent count.
We're continuing to focus on expanding locations where we have market and recruiting opportunity. We also are focused on retention, and that's agent productivity. You can see that our recruits through the years have been pretty flat, yet our agent growth has continued. That, in large part, is due to our focus on new agents in terms of training them to attain certain standards early on. We have 16 centralized schools nationally where we can standardize our processes for execution and prospecting. We now have the Top Gun program to help us continue to improve retention for our second-year agents. We feel with all of that and a keen focus on prospecting, and you can see the cross-selling efforts that that one graph shows very clearly, in utilizing our customer base to familiarize them with new products that could meet their needs.
We feel that combination of value drivers, if we stay focused on, will continue our growth.
Am I on? One thought I had as you were talking that I thought might be worth mentioning is the connection between the management training program and the location. We've been able to increase our location count, back to what I was talking about, through the organic method. We hope to maintain the ability to develop organic managers, also accelerate that over the next 3-5 years which will accelerate our growth rate because it will accelerate our ability to expand our agency force. One other point that I think is worth noting that neither Mike nor I mentioned, controlled distribution also tends to provide some pricing power. All of this growth that we've experienced over, we've been growing at a CAGR of about 6%-7% if we go back to 2007, has been with growing profitably through correct pricing.
We make pricing changes when we need to, we can put that pricing in place without worrying about disrupting our distribution channel. Now I'll turn it over to Steve to provide us an overview of the Washington National model.
Thanks, Scott, good afternoon, everybody. Washington National focuses on providing supplemental health and life products to middle-income working Americans. We distribute our products face-to-face in farm and rural communities, a market that is estimated to have annual sales to be approximately $500 million. We also target the voluntary worksite market, which is where most middle-income Americans purchase their supplemental health coverage. According to Eastbridge Consulting Group, the market generated approximately $5.4 billion in new business premium in 2011. Washington National has a strong presence in school districts, government entities, and small businesses with employees of 250 or less. Our key advantages are, first, our long-term experience in the worksite market, servicing over 25,000 groups, with some of them being billed for over 35 years. Second, we primarily offer individually underwritten products, which have a higher profit margin than carriers that focus on group products.
Individual products also offer the consumer better portability. Third, unlike many other carriers, we offer our products with return of premium and cash value options riders. Finally, we offer high quality, high touch service for our agents and our employers. Our product line includes critical illness, cancer, heart and stroke, accident, short-term disability, and life insurance. Our products fill the gap that individuals have in their employment coverage, we cover non-medical related expenses such as lost wages and trips to treatment facilities. We market our products through our wholly owned distribution company, Performance Matters Associates, which is mentioned several times today. They sell exclusively for Washington National. We also market through long-term partners, independent partners, and worksite agencies that use us as their primary carrier.
Before I move on to the value drivers, I wanted to share a bit of data on the results Washington National has been able to achieve. Washington National has averaged double-digit growth over the past five quarters, averaging 15% growth per quarter over the prior year. That performance has been driven by additional product availability, by the growth in our worksite business, the development of additional sales talent and leadership at PMA, and finally, an increase in recruiting capacity. Our two key measures that we monitor to ensure that Washington National continues to grow profitably are distribution growth and back office efficiency. As has been mentioned several times today, growing our producing agent count is a key driver to our success. Our new producing independent partners grew by 29% over the past 12 months, and the PMA producing agent count has grown by 6%.
The other essential element to our organization is back office efficiency. It's obviously a key component to being a low-cost provider. What we've done is we've made investments in technology such as electronic app, straight-through processing, automated group billing, and an award-winning website. With that, our worksite electronic application submission has increased from 61% in the third quarter of 2011 to 88% in the third quarter of 2012. We intend to roll this technology out to PMA's individual business over the course of 2013, and we're targeting an overall utilization rate of over 75%. A high utilization rate is key to enabling Washington National continue the strong sales growth while minimizing any additional back-office expense. We believe that we have the product portfolio, the quality back-office services, and the strong sales leadership talent that will enable Washington National continue its double-digit growth. Scott?
Great. Thanks, Steve. Similar to how Bankers will benefit from the boomers, I think it's pretty clear that Washington National stands to benefit in the supplemental business from healthcare reform and just the increase in the propensity and the interest in gap coverage. Extremely well-positioned both direct to the consumer at home as well as at the worksite. I think also just the growth in small business. The focus at Washington National around worksite is really targeted at small employers. We're dealing with mostly groups under 250 with offering voluntary benefits, and obviously, that's a growing segment within as well, and those employers are going to look for continued ways to offer additional benefits to their employees. Why don't we move now to Colonial Penn? Gerardo, can you tell us a little bit about the Colonial Penn model?
Thank you, Scott. It is my pleasure to share today Colonial Penn's target market and the uniqueness of our distribution model. The Colonial Penn target market are middle to low, mid-income seniors with an average issue age of 65 years. All customers mostly live in urban areas. Close to 50% live in the top 25 MSAs. Two-thirds of our customers are female. One-third of our customers are diverse customers. Colonial Penn customers' needs are to receive personalized advice over the phone, or customers need help with final expense and funeral planning. They want simple and easy-to-understand products, which make them ideal for our direct response model. Our customers need basic money management support, and for some, premium collections need to be tied to the time where Social Security deposits are made. Due to very tight money constraints, their beneficiaries require quick claims processing at time of death.
Colonial Penn's products are final expense, term life, and whole life insurance. We're headquartered in downtown Philadelphia. We represent the market that we serve, and as you can see from these pictures, which actually are Colonial Penn associates. We use an integrated sales and marketing approach that relies heavily on direct response TV ads that are complemented by direct mail and web, which help offset some of the challenges of the direct response seasonality. We're very good at market segmentation and very efficient at reaching our target market. Through these campaigns, we generate leads that become the prospects that our telesales representatives call on to explain our product features, to define coverage amount and correspondent premium that fit our customer budgets and needs. All Colonial Penn associates fully understand and can relate to our customer needs.
This provides us a competitive advantage in effectively reaching them and in engaging in phone conversations like if we were at the kitchen table through our sales process and service process. We generate approximately 60% of our new sales through new prospect identification and the other 40% through prospect and customer reactivation, through teleservice, and lastly, through a combination of test markets and through a hybrid program where TV lead non-buyers are made available to Bankers' agents. At Colonial Penn, there are several key metrics that we carefully use to monitor our performance, and they are lead generation. Colonial Penn continues to invest in lead generation with a heavy emphasis on TV or direct response TV. Sales conversion rates are substantially higher with telesales representative involvement. Thus, our heavy emphasis on phone contact rates.
Despite the very large increase that we have achieved in lead generation, we have been able to maintain this close to 80% contact rate throughout these years. We connect with almost 60% of prospects within three days of their initial contact and with 80% within seven days. After those seven days of 15 phone attempts, we send them a fulfillment package via mail. The acquisition NAP ratio tends to increase when we are investing in growth, when we're investing in new products or in new markets. As you can see, in 2012, we are achieving improvements in sales growth and improved direct marketing efficiencies. These are mainly driven by higher response rates and higher sales conversions. In summary, Colonial Penn has achieved double-digit growth in the last few years, and we are well-positioned to continue this trend in the coming years.
Scott, I'm going to turn it back to you.
Thank you, Gerardo. I think it's worth pointing out, and we've talked to some of you about this in the past, that the current accounting treatment tends to blur some of the value that's created by the investment that we're making at Colonial Penn. Know, be certain that the products are priced for a 12% after-tax unlevered return. We know if we're adding that business to the enforce, that we're adding long-term value, and it's going to ultimately result in increased earnings. Just a couple of comments before we go to question and answer to summarize the group. I think what we attempted to convey to you is that we think, progress the slide, that we have three well-positioned franchises that are poised to take advantage of a growing market in the middle market. All three of them have very strong execution capabilities.
We're also making investments in the businesses, and these investments will lead to growth in the range of 8%-10%, as we've mentioned. That level of growth we think is sustainable, and we think it will allow us to establish ourselves as a true market leader in serving the underserved middle market. With that, I'll open it up for questions.
Hi, Erik Bass with Citigroup. I guess for Scott or Mike, if you have any productivity metrics you could share for Bankers agents, kind of how those have evolved over the past few years? Maybe how much is improving productivity, are you looking for that to drive and help you get to the double digits?
Thanks, Erik. Good question. I'll let Mike comment, too. We have a number of productivity measures at various stages of an agent's development. As early as 90 days after they contract, we have a measurement called SNA, and that stands for Successful New Agent. It's measured based upon their productivity. As a matter of fact, to your point of have we seen improvements, absolutely. Mike and his team have done a great job in driving our SNA conversion rate up six or eight percentage points over the last couple of years. We know that if an agent makes it to SNA, they have a much more likely chance of making it to another metric that we have, a performance metric called SNA 2, which is taken after the ninth month in the business.
We then measure retention after the end of their first year, we have a productive agent metric that we monitor. We are seeing improvements across all of those productivity measures. I think the ultimate measure is we're seeing improved retention of our agents. Agents leave this business because they're not productive. They're not making money. That's why we lose agents. If we are improving our retention, we know that their productivity is getting better. I think as Mike pointed out, even though our recruiting has been relatively flat, we've managed to grow our agency force, and we feel that that's a direct result of improved productivity.
I would just add that the training focuses that we have actually complement the metrics for the periods of time that Scott mentioned. The successful new agent metric is how many hit a certain threshold of productivity at the end of nine months. We have at the end of three months, we have our centralized schools targeted to not only provide product knowledge, compliance understanding, but also training skills for sales skills and relationship building. Moving from there, the Top Gun program that Scott referenced is now targeted to make sure that second-year agent becomes a productive agent. A productive agent is one who actually not submits but pays for four policies per month. We measure that very closely. Our productive agent percentage has continued to increase over the last four years, which has again fueled retention.
We could try to out-recruit so that we could grow our agency force there. If we don't focus on retaining them after 90 days, the percentage that hits that threshold and then the percentage of productive agents will just be kind of treading water. Our training programs absolutely complement the timing for the metrics.
One other thing I didn't mention, we did discuss the headwinds that we're seeing in the annuity marketplace. Including annuities, sales are essentially flat. If you back out annuities, we're seeing an increase in all the other lines. We're also seeing a significant increase in the policies per agents that are sold. What we've seen is our agency force shift away from the fixed annuity line as that market has become tougher and to the other product lines. They've been able to offset some of the impacts of the annuity headwinds.
Thanks. Randy Binner from FBR Capital Markets. I want to talk a little about the Active Care product and understand a little bit better how that differs from the existing coverages. It's still an indemnity product. Is it focused more on filling gaps from healthcare reform? Is that what the target is?
Yeah. I'll just make a quick comment, and I'll toss it over to Steve. The uniqueness of that is that it's a combination of those three elements, the critical illness, the hospital indemnity, and the accident benefits. It is an indemnity policy, and it is absolutely designed to fill the gaps and well-suited for filling the gaps developed or created by healthcare reform. Steve, do you want to?
Yeah. It was designed specifically to be, if you will, kind of a cafeteria approach. In essence, at the core, there is a minimum of $5,000 critical illness component, and it can go up to $100,000. What you allow someone to do, especially in the situation where they have no healthcare coverage in their employer, is they can add hospital indemnity component to it and if need be, an accident component. It also has wellness benefits. One of the other things that's very attractive is there is a re-earn, and what I mean by that is most policies that offer a lump sum in terms of critical illness, which this does, it's once and done. What we do is you re-earn back a portion of that over the course of five years.
You could actually be recovered if you obviously are cancer-free or your heart situation has improved. That's really a unique additional benefit that brings some attractiveness. What we're seeing is we will sell it in the individual market and the worksite market. When you're going into an employer that's not offering very good benefits, they have high deductibles and they have an HSA. Well, most middle-income workers do not have enough in their HSA account to cover anything. If they unfortunately early in the year happen to have a severe illness, we've got the hospital indemnity component that can help them out as well as, depending on what the critical illness is, a lump sum benefit. They're finding it very attractive to be able to do a cafeteria approach with one product.
It tends to be a little easier to explain than trying to bolt on a heart and stroke and bolt on other things. We think it's going to be based on the study groups we've had and the work we've done with our distribution channels, they're very excited about it.
All right. Just one more kind of revolving around the healthcare reform, and that's the commentary on Medicare Advantage. You said that there'd be changes in Medicare Advantage. Do you mean just kind of how much CMS is funding it?
Right. I was really referring to funding levels.
Okay.
That is funding levels move, the benefit structures of the plans will change, making them more or less attractive in the marketplace.
You can just pivot back and forth between the two.
Absolutely.
There's not a structural change to how.
No. I don't. Well.
Medicare is the same, the supplement's the same. You can just sell whatever wrapper people want at the time.
Absolutely.
Okay. Thanks.
Yeah.
Thanks. Paul Ceran at Evercore. I'm hoping to ask two questions, if I could. First, you talk about sales growth targets. If you hit those targets, what does it mean for overall revenue growth over the next couple of years? Maybe for each business.
I'm sorry, what is the?
If you hit your sales targets-
What's the overall revenue growth?
What does that mean for overall revenue growth? Yeah.
Yeah, I think Fred can comment on that in his section overall, but it's going to be more than what we've experienced. A little bit of that depends upon mix shift, right? Some of our sales growth is being generated by lower policy per premium business, like short-term care. We've also seen a shift away from annuities. Annuities is a high premium per policy. As we saw shifts in Medicare Supplement market, a shift away from the higher premium Plan F or J into Plan N, that becomes more appealing to the middle market. You have to take into account mix shift. As we see these 8%-10% top-line growth rates in NAP, they will translate to increases in revenue, but you have to take into account the product's mix shift as well.
Okay.
I think Fred will comment on that later in his discussion as well.
Okay, I'll wait for that. My other question is, we've seen more insurance companies looking at ways to move back towards the middle market, new product, new distributions. Have you seen or do you think that down the line this could present any sort of challenge to any of your businesses?
Well, I'll answer that in general, and if anybody wants to add, they certainly can. I would say we welcome the competition. We'll monitor it closely. This is not an easy market to enter, and it's certainly not an easy market to enter if you've been focused on other markets. The advantage that we believe we have is this has been a market that we're built for. We've been building for this market, meaning that we have the infrastructure, the back office, the products, and it's taken us a long time to get there. We're certainly monitoring what some of the players are doing. We certainly see the health plans as a realistic threat.
We also feel that we have a nice head start and our strategy, we certainly are monitoring them, but we're doing less about looking over our shoulder and more about our focus is on more towards putting our foot on the accelerator and putting as much distance between us and the competition as possible.
Sure. One point. What we see is Washington National has been spending the last few years at really trying to become a very low-cost manufacturer and focused on a very small segment of the market, and that being 250 or less, and in some cases, 500 or less. You don't have a lot of the bigger players wanting to compete in that market. They stay in 1,000 above. They work with employee benefits brokers, and of course, those markets tend to be a little more upscale as well. They're struggling with how do we cost effectively get to the lower end of the market when we're competing with an organization like PMA's worksite marketing division or our long-term partners, which are almost exclusive to us and have been for 15 to 20 years.
We have, I think, a cost advantage in terms of the way we go to the market, and we have a unique breadth and depth of products in terms of having both group and individual chassis products. One of the things that a lot of these companies try to do when they go into this market, going after the middle market, is they come out with a lot of group products, and that doesn't necessarily work for all employers. We've had more success with the individual product set, which actually offers us a higher margin. I think there's somewhat of a barrier to entry because you ultimately have to build tools like electronic app and group billing systems and a number of things that allow you to compete, at least in the worksite market.
On the individual market for supplemental health, there are very few carriers that know how to go after this smaller rural market because it's very hard to go market in a large urban environment and try to pick out the middle-income Americans. It's not cost effective. The way we've been doing this for over 25 years is going into population sizes of 5,000 or less, and we might grow that to 10,000. It's just something that they just don't have the distribution force to do, and we do. I think it's somewhat of a barrier of entry.
I want to add, career agent perspective, I think it's important to reflect on Ed's point about who Bankers recruits are and where we come from. It's the middle market. It's the market we serve. If you take, for example, our life sales, our average life premium per sale this year is $784. In terms of career agents and brokerage agents, they put the same effort into obtaining a sale as we do. They're not looking for a $380 commission. They're looking to maximize commission. That means that they have to go to a larger size sale, that means to an upscale market. From my perspective, for them to convert from where they are as a career agency organization to where we are, would be an extremely difficult task to execute.
If I may just say briefly on the Colonial Penn side. As I mentioned, the Colonial Penn associates actually are a reflection of the market that we are serving. Remember, we have this engine that generates leads, a response, and then it's a telesales representative engaging in a 10-minute conversation with somebody. This is the first time that that somebody has been advised on product features. That connection, that empathy, that really understanding of the need, only happens if you really understand the market and you're part of that market. I think that really creates a very unique competitive advantage for Colonial Penn.
Great.
Thanks. Chris Giovanni, Goldman Sachs. A question maybe for Mike. You guys have commented around the pressures in the fixed annuity space because you guys aren't willing to just sell the business. You're focused on margin improvement. With that, I think there has been some frustration with the distribution in terms of one of their tools maybe not being where they'd want it to be in terms of a productivity standpoint. Can you talk a little bit about how they're shifting, someone that had primarily sold fixed annuities, how they're shifting to your new product focus?
Sure. Thanks, Chris. I'll let Mike answer that.
Yeah. First of all, we are somewhat retooling. We're down about 34% in our annuity business this year, but our life has taken off like crazy. Our life premium is more than half of what our total premium is. That's been a big shift for us. We focused on a couple of issues in terms of the training. Number 1, we've executed to taking advantage of our culture. We'vbe had people who've been very successful in marketing life products do webinars for us and put on sales presentations and demonstrations so that we can hopefully train the folks who have moved away from the annuity market to exploit the life opportunity we have. The second thing we've done is introduce better fact-finding
tools for our agency force to uncover a broader need to move them just from a focus on retirement and annuities, but into potential legacy giving and final expenses. Lastly, we've introduced a customer-oriented concept of premium commitment, trying to determine after the fact finder what it is that people can afford. First, what they want, what they think they need, and then move to affordability. Trying to ask them and solve for a life insurance product that would do what they want it to do, but tailor it to what they can afford to pay. Those kind of efforts are what we've done. We've really been very fortunate in that our management team and our agency force has been willing to contribute practices and then be videoed, and go out and demonstrate and do webinars that have spread their skills to other places.
Yeah, a couple of things just to add to that, and Mike's absolutely right. A lot of training, and we got that training out there early because we saw this coming. We began to kind of drive home the need to shift. We saw a little bit of agent attrition real early on. Then things have then stabilized quickly as some of our agents, especially our veteran agents that may have been big annuity producers, shifted. Again, back to Ed's point, because our agents view their business as a market as well, they're not wedded to one product. We have very few agents that only sell MedSup or only sell annuities. Generally, all of our agents offer some element of our entire portfolio.
It was a little bit easier for them to shift compared to an independent producer who is just the annuity producer or just a MedSup producer. Something's disruptive in that market, they have to do something else. They have to find another outlet. We don't have that phenomenon. We help them migrate. We also introduced other products. Timing worked out well for the introduction of the critical illness product within the Bankers channel, and that product has exceeded our expectations and have taken off, and we've seen some level of shift to that product as well.
Richard Szpachnik from Hovde Capital. In kind of the worst-case scenario where the entitlement reform leads to the Medicare Supplement product being kind of completely uneconomic to offer, but having existing customers grandfathered in, what's kind of the tail of earnings for that business for you?
That's an excellent question to end on because it'll be a good one for Fred to answer during his section. I think from a market perspective, though, you're asking about earnings, so I'll address it from a market perspective. We feel if that happens, one of the things that we are pursuing beyond the fee-only fee relationships that we have with our partners, our MA partners, we are pursuing a quota share arrangement. That obviously, a quota share arrangement would improve the economics of the Medicare Advantage sales, and we don't have one yet, but certainly, all three of our partners are interested, and we're in discussions.
Thank you very much to our panel. Appreciate those insights. We'll take a short 10-minute break right now and then regather. I'll make sure you guys get in here on time. Second half of the portion is going to be the financial portion. We'll cover investments and the financials.
Okay, if we could have everybody take their seats, we'll get started back up again. Next on the agenda is the investment overview section. I'd like to bring up Eric Johnson, the Chief Investment Officer and President of 40|86. Eric?
Well, hello everybody, glad to be here with you this afternoon. We're here to talk about pretty serious business, which is $24 billion. Which in today's world doesn't sound like a lot, but when you have to invest to the kind of earnings targets that we have, it's quite a lot. Let me give you a few key takeaways for what I'm going to tell you today. If you just remember these few key things from what I say, I will have been a success. The first one is that investing is a core competency at CNO, and I think it contributes a lot to the CNO value proposition. It's really built on a culture of active management and very strong risk disciplines that have been in place for a long time and have served the company well.
We have been able to deliver and will continue to deliver the returns built into corporate overall strategy. Our group is not just one guy standing on stage. There are 85 people with a lot of experience, a lot of broad product capabilities. We use technology very efficiently, and as I said earlier, we are woven right into the mix of the tapestry of the company that I showed you earlier today. Now, I realize that really what you want to hear about is low yields. Pretty much everything else I say is just wah, wah. I'm going to say a few other things, and then we'll get to the low yields. I'll begin by telling you in a broad brush, here's how I see the markets today. Obviously, in the foreseeable future, the Fed and the ECB are going to dictate low short rates.
I'm less sure that they are really as in control of the long run of the curve as they'd like to be. Although, let's say if they keep buying the entire short end of the agency supply and increasingly Treasuries, that'll force folks out the curve, and that will exert a very strong technical pull and maybe flatten the curve a little bit. For the foreseeable future, obviously, the short rates are going to stay low, and we're not naive about that. In the world we see today then, relative value for our company is really going to equal credit compression and probably a barbell. That would be a good image to remember in terms of our investment strategy for 2013. Obviously, in the long run, we're actively preparing for and understand the day will come where there'll be a different rate environment.
When I first started working in 1983, long bond was 18%. I'm very familiar with a very different world than the one we're in today, and I know it's going to come. Again, perhaps not that extreme, but certainly we are going to see a different rate environment at some point out there. Housing is obviously very strong. Banks are going to, at some point, be forced to lend money, which will stimulate the economy. Sooner or later, we will see a different world. We as an enterprise are not just wallowing in low rates, we're also preparing for that future. In terms of where are we right now and what are we doing, boiling it all down and trying to make it neat and simple, kind of five basic things. We are within extremely well-structured boundaries.
We do understand that credit compression is kind of the trade of the day, and we have modestly increased the amount of risk we're taking, but very much within limits. That's the compression trade. Very strong emphasis on the U.S., and as I'll show you later on, we're born in the U.S.A., and that's where our money is. It's a world that I think is transitioning from a highly correlated kind of beta market to a single name market. We're built to analyze things from the ground up. We're built for that kind of market. That's what we do, both in structured securities, also in corporate mortgages, everything else we do, we analyze everything from the bottom up. Yes, the housing market is probably almost certainly bottomed, although my wife still has a house for sale in Cincinnati.
If anybody wants to move to Cincinnati, we have a cheap offer on a nice house in Pleasant Ridge. We'll probably even rent it. I may call Blackstone. They're buying houses, aren't they? I keep reading. Anyway. We're big on energy. Our analyst there, who's also our director of research is just as bullish as you can be. More on our outlook. Supply and demand is a real big deal right now both obviously in structured securities which have been a shrinking universe by and large and will continue to be so, pay downs exceeding new issuance. Also in the corporate space. We read a lot and hear a lot about the huge volume of corporate new issue. I'm not sure that the flow of new issue is actually keeping up with retirements, coupon, et cetera, and new money flowing into the market.
Listen, it's a food fight to get good investments out there. You've got to work hard to stay in front of people and get their best ideas. You all, I think, know that already. That kind of relationship management is an important part of our job because demand is pretty high out there. Next point I want to make. Corporate credit has a pretty heady aroma right now, I would say. What I mean by that is that I think corporate credit quality is almost certainly peaked, and it's going to go the other way. Fundamental earnings, except at our company. Credit rating trends, except at our company. Margins except at our company are probably going to be poorer rather than better looking out a year.
It's very hard although corporates are an important asset for us, it's very hard to really see value there today. We understand shots have to be taken selectively there and with great care. Yes, we have to have yield, but no, we're not going to do anything stupid or crazy. It's important for you to hear that because we don't serve the policyholder or the shareholder well if we run out and do stupid stuff to get yield today that we have to pay a high price for tomorrow. We're not going to do that. Where is our money today, kind of shifting gear. I would say it has three key qualities. High quality, great liquidity, and a lot of earnings power in terms of book yield.
I think as I get further into it in the next couple of slides, this will help tell you something about how we do business at our shop. The first thing I'll talk about is kind of the ratings profile. As you can see we're not addicted to high-risk assets. We have pretty good constraints and controls over the level of risk that we take in the portfolio and where we put it. Yes, we've been building and earning a lot of book yield the last couple of years and pretty good new money rates, but we haven't been pumping yield to do that-- pumping risk to do that. Quality has been sustainable. We're 90% in high-grade assets. We don't have a lot of equity on the book, don't have a lot of private equity on the book, don't have owned real estate at all.
As you can see, we have protected the balance sheet as well as the income. Corporates, as I said earlier, is a big asset class for us. One of the things, we are very active managers, as I said earlier, and we very deliberately will have overweights and underweights as we see the fundamentals and relative value. Just to give you a little bit of a depiction today, there are some of our overweights that are listed. Energy, as I mentioned earlier, REITs, insurance. We are an insurance company, and we like insurance right now. I know the stocks aren't making people a lot of money, but we think the bonds will. The market has got those a little bit wrong. REITs, we've done very well in REITs. Munis should be up there. We've done great in particularly BABs.
We have a big allocation there relative to other insurance companies. The book yield is fabulous. The quality is fabulous. The earning there is huge gains. We like that very much. We hope it comes back. Call your congressman if you really like our company. We have some underweights. I won't get too much into those. I did mention Europe, not something we're big heavy on right now. Let me talk about structured securities a little bit. We have a very strong competency here based on really capable people and adept use of technology. We actively manage this allocation to reflect where we see value. As you'll see the gray and blue bars there on this table on the left-hand or your right-hand side there.
You can see we are light agency today as those ratcheted in. We added substantially in non-agencies over the last two, three years. Particularly we added in below investment grade non-agency during that time, which has done great for us. As you know now, you can hardly buy them. They've come in tremendously, it's a real wrestling match. We were adding them when people didn't want them. It's done well. You can see on this next slide, the change or the growth in our allocations of below investment grade RMBS. As you can see, it's been a steady climb since 2008 when people were selling them. We were taking them in, it's done well. These bonds are very from a capital perspective, they don't take up a whole lot of capital. It's 98% in NAIC-1 capital rating, which is great.
Yet they have very substantial book yields relative to what an NAIC-1 typically would have. As the housing market has stabilized, the collateral performance has also become quite much more stable, much less volatile. The cash flows have become much more predictable, much less volatile. We like this a lot. We're going to stay with it. Probably do more. CMBS is a little bit of a different story for us, that for us is an asset class where we've always had a decent sized allocation at the high end of the capital stack looking for duration stability of performance, we've got that. We've got 100% investment grade, 87% AA or better, 98% in NAIC-1, long-term buy and hold strategy based on property fundamentals. That's what we do there, we've done it very well.
Our collateral tends to have relatively low delinquencies compared to the market. It cash flows very well. This is an area like everything else in structured securities where we subject our investments to pretty severe stress testing. We'll use market consistent values and then stress them using extreme assumptions so that we can feel comfortable and our auditors can feel comfortable and you can feel comfortable that there aren't air balls here. We tend to play at the top of the stack. We don't like to sell leverage in structured securities. We tend to benefit from other people selling us leverage, i.e. implied credit support. This is an area we understand well. We think we know what we're doing. Up to now, the cycle has proven us correct. CLO is a very similar story.
This is a significant commitment for us and one so far that's been very satisfactory. It really comes in two parts. The first part we have about $400 million of what we call owned assets that are tranches of CLOs of other people's deals. Largely, we're going to be in the AA part of the stack, some small amount of AAAs. Small amount mezzanine paper. It's been a fairly stable performer for us. Strong credit support. If you look at the OC calculations, NAVs or CCC balances, or default balances in the deals, we've got a lot of protection from EOD in our deals. They're all cash flowing. We're not PIKing anything, feel very good about that. We'll probably continue to add to that allocation. There is some value there. Also, we manage CLOs.
We use the same people and the same skills to manage CLOs, and we sponsor them, and we give them names that reflect who we are. Eagle Creek, Mill Creek, Cedar Creek. Well, Cedar Creek's on the come, but that'll be our next deal. This is an area where we leverage our competency, we make some money, and we invest in our deals. We own the equity in them, or at least chunks of it. Great book yields, 10%, 12%. We like it very much. We're going to do more. Commercial mortgage loans, very intense focus on the high-quality, A-quality properties. If you think about it, Freddie Mac has been doing a lot of business in here in the 3%, 3.5% range. Big multi-family buyer squeezing the market. We want to be right above Freddie Mac in that qualitative tier. Also, high-quality properties, maybe a little longer duration than they want.
Maybe it will get us a little more yield than they get. If you think about what we're doing, that's a good model. If you come see our campus, there are a couple of new resi developments right around campus, 116th and College. We're the lender on that building. It's a great deal. The developer is very experienced, and we'll make good money on that. Our portfolio has very limited near-term maturities, good loan-to-value, good DSCR on an average basis, very low delinquencies. We really high-graded it over the last three years. The allocation is smaller than it used to be. It's also higher quality. It earns great book yields, well north of 6%. As I mentioned, Europe has not been a big commitment for us. It's still not. At some point, it'll be an opportunity. Not yet.
This is all reflected in a very low level of impairment in the last three, particularly last two years. I would imagine that I probably shouldn't be giving any forward-looking guidance on that. I imagine I'll shut up. Thank you, Fred. Now, here's what you all want to really talk about. I see my yellow light's on, I'm going to have to get it in a little tight here. Dealing with low interest rates, which is the order of the day. We've been successful, right? That bar chart is the new money rate trend. Yeah, it's kind of sloped down a little bit, but even now it says 471, and we can do that. We've shown we can do that. Remember, we were earning that when treasuries were tighter than they are today.
I mean, treasuries were 130, 140, 150, not 170 for a 10-year. We know how to do this. How do we do it? Well, we do it with credit at the short end of the curve, and quality at the long end of the curve by really slowing down our portfolio turnover a lot. As I said earlier, we're a very active manager. There are years when it makes sense for us where we'll turn the portfolio over 50%, 60%. It's a lot. For an insurance company, that's really a lot, as you all who follow insurance know that. I would venture to say that it will be a lot lower next year. It's been a lot lower this year. That adds value this year. There are years when turning a portfolio helps the company. That's what we'll do.
There are years when sitting on our hands helps the company. That's what we'll do. We'll just do what the company needs, not what we want. We'll maintain our asset liability management discipline. We have a strong group of people who look after that, kind of a shared commitment with the actuarial department and the investment area. That's an area that we've very deliberately muscled up over the last three years, and we have very good discipline. We do have a modest amount of investment leverage that comes into play to help us build income as well, which involves borrowing from the Federal Home Loan Bank, involves CLOs, and these are areas that we'll continue to sustain in the next year as well. Overall, though, we'll try very hard to avoid doing anything stupid, chasing fictitious yields.
I think if we do all that, as well as we've done it this year, we'll continue to fund at levels that support the company's business plan. I should lastly mention that we also have money at the holding company that we invest, leveraging our skills on behalf of the company. That is really invested in support of the company's corporate capital strategy. It has a lot of liquidity with a little bit of leverage and a targeted amount of alternatives, as well as some of our CLO equity. If you put that all together, it's a pretty competitive yield for the company, but in a way that also has good liquidity and transparency if there are other needs for the money. On that note, if there are any questions. Eric said two. I'll let you have three because I'm a nice guy.
We'll go from there. No one from the company can ask questions. Fire away.
Thank you. Over here. Sean Dargan from Macquarie. I have a question about the whole co-investment strategy. A little while back, it was posited as a way to utilize NOLs. I'm just wondering, how big can co-investment go? What are you thinking, and what's your strategy there in terms.
Sure. Let me say this. I'll defer to Fred on some of the corporate finance implications of your question. I'll just tackle it as an investment person, which our box is much more. Did you notice earlier when Ed was talking about all the investments in the company, he talked about Fred and Bruce? They must make a lot of money. He didn't say anything about us. I noticed that. You know what? That's okay. That's fine. Your new money rate's going down next year, Ed. Basically, in the big picture the amount of liquidity you should expect to see at the holding company at any point in time is $100 million or more. Okay?
Sometimes it's a good deal more in between periods as dividends come up and reimbursements for services come up and payouts are made on stock buybacks or dividends or debt repayment or whatever else. It's a very volatile cash balance. At a snapshot in time, you'd expect to see at least $100 million in actually fairly liquid securities. Now, how would I define liquid for that conversation? Could be money markets, could be agencies, could be very high-quality corporates, maybe any of those with a little bit of leverage on them, probably in repo form. A short-term repo, maybe 30 days, maybe seven days, something like that. Whatever makes sense for the trade. In addition to that $100 million, you might see, as you would see now, roughly $50 million in what we'll call alternatives. That might be CLO equity.
It might be a large cap mezz fund. It might be something else. That box is going to be smaller. It's not a box that we, for the sake of it, look to grow per se because that's not why the holding company liquidity is there. That's not why the money's there. However, in circumstances where you have a compelling investment opportunity, our own CLO equity, for example. That's often a good place to put it because you don't have the RBC requirement up there. It produces less drag on the enterprise's capital requirement and creates more flexibility for the company. I know that's a little bit of a long-winded answer, no, we're not trying to build an investment empire at the holding company. No, we're not trying to stock up all the liquidity at the holding company.
At the same time, we are trying to make sure that on money that is there, we produce a satisfactory to better than satisfactory return. It's a balancing act.
I don't think the question deserves all of that weighting. The question's not good enough. You described a credit barbell, and I'm sure that the trading on the long end is pretty subdued, just as you said. I'm wondering if you could indicate what the trading is like on the short end.
I'm sorry. Could I ask you just to amp it up a little bit?
Yeah. Sorry. You were describing a credit barbell?
Yes.
I'm sure the trading is subdued on the long end. I'm wondering what the trading turnover is like on the short end. Have you had much need to move outside traditional, conventional street bid-ask, get your trades done with liquidity diminished?
Yeah. I'm not sure my answer's going to be even as good as your question. If you don't belittle my answer, I won't belittle your question. Let me give you an answer, though. There certainly is less liquidity out there today than there was three or four or five years ago. God, do I look back to the '80s which I'm old enough to do, and you remember what the street was like then. Yeah, now it's harder to get business done. No kidding. You got to work a lot harder sometimes to find an offering or find a bid against what you're doing. The electronic world hasn't really taken complete root yet, except in very commoditized products. The street wants to carry less inventory so that you have to work harder to get trades done. Particularly when you get off the run.
You better be real sure what you're doing because it's very expensive right off the run. I think your question's a good one, and I think facts support the idea behind your question. At the short end, it's funny. That is not a part of the portfolio that we're aggressively whipping around. We're just buying in that area. Basically, let's give you an example. You're buying structured securities. You're buying for us, you're buying CLOs, could be ABS or something else, and you're just seasoning that out and rolling it down. A lot of what we're buying at the short end will be of an amortizing nature anyway. It'd be factoring down. Those will tend to be Buy and hold transactions to a greater extent.
Probably if you took a kind of a key rate duration chart and put our portfolio against it and then put our turnover up against it would be kind of in the middle of the barbell, be in the seven to 10-year range. Not the real long stuff and probably not the real short stuff either. Now, if you really just got very specific about it, we got a lot of commercial paper that runs through as well because we have overnight money to invest, and I don't even know if that would be fair to count in this calculation because that's just going to come in and roll off.
Humphrey Lee from UBS. You mentioned about the asset turnover rate earlier. What are you planning to do that will be different than what you did in the past to drive that ratio down? Specifically, is there any target that you are aiming at?
Sure. Let me say first that in past years, at any time, we're trying to do transactions that add value to the company. Pretty much anytime we're pulling the trigger on something, we're making sure that it has positive reinvestment characteristics. i.e. we're picking up book yield or we're picking up quality or hopefully picking up both, although that's kind of a dream, right? It's harder for those calculations to make sense today. It's that simple. In a sense, the calculation is the stop sign because you can't reinvest at decent breakeven yields given what rates have done over the last 3 years. We have a pretty good discipline around that decision process, and that discipline tells us no right now. That sitting on our hands is kind of this is a better trade to make very often today and protect your book yield.
Don't turn it over. There will become times again in the future where that calculation will drive us the other way, the disciplined approach kind of gives us the answer. In some ways, it's just arithmetic, and we just do the answer that the arithmetic gives. All right. Thank you very much.
Thanks, Eric. Sorry to cut it off. Eric will be back up after Fred's remarks, if you had another question for him, you can ask it at that time. Without further ado, Fred Crawford, Chief Financial Officer.
Thank you, Eric. Good afternoon. It's good to see you all again. This is an absolute true story. I think I told a couple of you this during lunch, but it's a true story. I'm getting a Starbucks coffee this morning just right across the street, up across Vanderbilt, and I ran into an old colleague of mine that I worked with back at my previous employer, and she was one of the members of the financial team at Lincoln and helped me in countless numbers of annual investor conferences. Many of you in this room attended them, whether they be in Philadelphia or more recently in New York. She said, "Fred," and I won't use her name. I said, "Well, what are you doing here?" She said, "Well, I work for ING now, and I'm in town just working just a couple blocks away.
What are you doing?" I said, "Well, I'm here for our annual investor conference." Her immediate response was, "Oh, God, you're back doing that again?" With a tone of, when are you going to make something of your life and do something productive? Let me just assure you that I couldn't be more excited to, obviously, having joined CNO. It's interesting. I'm still in this period of time. I've been here now coming on 11 months, a little north of 10 months. That officially means I need to have a grip, a full fundamental grip on the financials of the company, so there's no excuses. I'm also in still that mode of being able to make observations. Look, this is my read. This is what I see going on as I look at the condition of the company.
The tone I want to take on these slides is very consistent with CFO slides at investor conferences. We have them packed full of data. It's good data. It's helpful. I think it does advance the ball in a number of areas, hopefully, it advances the ball in areas that you have been most interested in, we've been on the road with you. We just got done doing a recap, from a creditor's perspective from an investor's perspective, we should fundamentally have a handle of what's on your mind. What we tried to do is create information that advances that ball for you. Brings a little more transparency as to what we think. Having said that, I do not want to go drilling down into every number that appears on every slide. We have them printed. We have them webcast.
We have them for you so you can look at them and follow up with us. What I do want to do is make some observations and really answer the question, what's the point? Let's go through these slides, what I want to start with is what's our strategy financially? What are we oriented around? Well, we have an absolute desire to build organic ROE. Importantly, I'll touch on this later, there are opportunities for stairsteps. There are leverage points where we can kick that organic ROE into another gear. You just witnessed that notion of a stairstep in the recap we did in the third quarter. That's the type of transaction, the type of step I'm talking about when I say kicking up organic ROE.
The second thing is stability is as important as growth for this company when it comes to things like better utilizing our tax assets. Creating a lower cost of capital for the company and therefore a better stock price movement. Improving the ratings of the company and a quest for investment grade. Stability, reliability, okay? Less in the way of surprises or vulnerability in our business model is as important as pure earnings growth. We are focused on making decisions that also address beta and stability in the company. We have an economic value orientation. What do I mean by that? We are oriented around capital generation, free cash flow, economic value. That's what motivates us. When we make decisions, it's around that universe.
We have a measure called value of new business or VNB, which is effectively an embedded value measure on the new business we put on our books. That's a great example. By the way, that is also tied to our compensation. It's not just a neat sort of exercise that we have in the company. That puts an exclamation point on the notion of being tied to economic value driving. We have a balanced approach to redeploying our capital. I have an audience here of creditors and equity investors, okay? I am not shading the story the direction of a creditor or shading the story the direction of an equity owner. We have one story, and the story is balanced. It just so happens that that same strategy and financial story does as good for our spreads and our ratings as it does for our stock price.
Then I would say we have a very good orientation around risk management. Just now, observation. We have a CEO who is an actuary and grew up through the actuarial and reinsurance ranks. Including him, we have four actuaries on our board, one of whom was the former chief actuary and CFO of Unum, who chairs our audit and risk committee. When we use words like risk-return tradeoff, value of new business, stress testing, cash flow testing, this is not French to our board, okay? This is understood. This is in a very detailed, real way. Our risk management is not only comprehensive, but it's quite sophisticated, I assure you. Now, let's first level set with what the condition of the earnings are at the company. We've got some tailwinds and headwinds, not surprisingly.
From a tailwind perspective, benefit ratios across the company, across our underwriting businesses have been generally favorable. Favorable in the sense of also having some redundancies from time to time that have helped to boost earnings quarter to quarter. We have seen annuity margins do very well. We have been quite proactive in not only retaining a good amount of spread business on our books but also working the crediting rates to drive as much net investment income as we can despite the low interest rate environment. Interestingly, Eric just talked to you about it, we have an emerging earnings stream at the corporate level where with the use of excess capital and also leveraging 40|86's skills, we're driving a little bit of an earnings engine at the corporate segment level.
Many of you watching our corporate segment reporting are seeing very slowly but surely that what is normally understood to be an expense category at virtually every company in our peer group, we are working to mitigate that to some degree through a real good legitimate stream of earnings coming out of corporate investment activity. Headwinds are what you really understand. That is obviously the low interest rate environment is a headwind. We have a natural runoff nature to our business. I think that's a good kind of a headwind in that what's running off the books is generally lower return, also tends to be characterized by volatility. While we may be running off and lowering the earnings growth rate with that runoff, we're also running off beta as well. Don't lose sight of that.
Obviously a natural headwind, but a good kind of a headwind is we're investing more proactively in the business. The point or one of the points of the first half of this session this afternoon was we are back investing in our platform. We have the capital, cash flow, and opportunity to invest back in it. That's naturally under new GAAP accounting in particular, going to weigh a little bit in the short run, but with CBAs and benefits that play out as we go through the 3 years planning cycle. Don't forget, we are a per share story, right? We've brought the end of period share count down by 20% since 2010. We're an earnings per share story. We're a cash flow per share story.
We're an embedded value, if one takes a sum of the parts point of view to Colonial Penn and tax assets, embedded value per share story. As Ed mentioned earlier, we're about ready to start down the road of being a dividend per share story. Let's now talk about the earnings drivers. We don't give earnings guidance, but we do give guidance on what the key earnings drivers are. Let's start with Bankers Life Med Sup and Washington National Supplemental Health. The punchline here is this is about $1.2 billion of collected premium a year. The general read on these businesses is that we expect them to be stable, modestly growing, and contributing to an earnings growth rate as we go forward. Bankers Life Med Sup has enjoyed a more recent history of redundant reserve releases.
When you look at the benefit ratios of Bankers Life Med Sup, be careful to understand that you need to adjust or normalize those for what we call out in our press release as being reserve redundancies that pumped up the earnings. The normalized benefit ratio in Med Sup is really between 70%-73%, and our outlook for this business is around 71% benefit ratios, persistency improving. I will try to. I think about 4 times already this morning, you've deferred questions to the CFO's Dialogue. I'll try to hit them as I get to them. The question was, hey, how do I think about Med Sup runoff if you were not to be selling it? Our persistency in this business tends to be around 85%. The notion of how fast or slow something would run off would be very difficult to judge.
Know a couple of things. The captive nature of our distribution platform typically results in, and in fact, has proven out to result in better persistency than you see elsewhere. In fact, many of the healthcare providers that sell through us Medicare Advantage do so because of that favorable persistency and dynamics. Also note, of course, if you are grandfathering a block of business and no longer being offered, you would expect that persistency to be particularly good. Nevertheless, that's the persistency of the business and a way to think about it. Washington National supplemental health is simply going to be driven by what Steve talked about earlier. We're expanding geographies. We're introducing new product. Worksite is growing, and we expect the collected premium to follow accordingly.
We have seen benefit ratios calm down in this business, would expect them to fall right into the normalized range, about 50% or so interest-adjusted benefit ratios. Long-term care. Scott spent some time with you earlier on the strategy of long-term care. I'm going to take a slightly different and obviously more financial approach. Let's just first level set for a second. That's the top half of this slide. The level setting is we think about our long-term care financial stability story as being essentially in four buckets. Bucket 1 is don't lose sight of the fact that we divested of, in 2008, roughly $3 billion of particularly highly volatile long-term care business. It was not for free that we did that.
We took the related GAAP financial charges associated with walling that business off, it has in fact reduced substantially what otherwise would normally have been built up in a traditional long-term care block of business, a player that had been in the long-term care business for years and years. We've gotten that behind us, it fundamentally changes the makeup of the long-term care business we have on our books. The second bucket is we have a small, about a half a billion dollars worth of reserves, about $500 million of reserves, small block in OCB, that where a future loss reserve has been put up at the time we put it in runoff to reflect the potential for ongoing poor performance in that book.
Think of it as having recognized the poor performance in the runoff and established a future loss reserve on that business. That creates a more stable go-forward outcome as you release those reserves to reflect the performance of the business. That leaves us then with Bankers Long-Term Care, there's really two categories, two buckets to think about there. That is, first, roughly 70% or so of the reserves relate to business from 2002 and prior, where interestingly, about 80% of the economic benefits we have driven from the re-rating process are more or less attacking that portion of the business. This is where we've done, in some cases, two and even three rounds of rate increases on those particular reserves. The newer business we have on our books is characterized by having been freshly priced and much shorter in duration, as Scott mentioned.
What's the point? The point is that the result of the divestiture of the business, the establishment of a future loss reserve on the runoff block, the four rounds of rate actions since 2006 concentrated on business that is older and therefore much more susceptible to volatility, the shorter duration new business all puts us in a position where you naturally have a more stable dynamic going forward than you might normally see in the marketplace among most long-term care players. What's our outlook? Our outlook is that we would expect premiums to start to come down. Why? We are, in fact, selling shorter-term product that is at a lesser premium. That shouldn't be confused with having given up economic value that's driven by selling the product. A question earlier was, how should I think about revenue?
Revenue will be weighed down by this shift in business. Remember, that is lower premium on lesser benefits. What you lose in the way of a premium dollar, you gain in the way of a claim expense. Right? The economics remains somewhat similar to what we're looking at. We do expect benefit ratios to decline modestly, but only because it's the natural aging of the long-term care block of business. Having completed many rounds of rate increases and that now slowing down, you would expect persistency and really more lapse rates, voluntary lapse rates to find a new level. That's what's happening in the benefit ratio. Turning to spreads, let's first start with net investment income. Once again, remember the history.
We reinsured a $3 billion annuity block of business that was outside a surrender charge, had high crediting rates and minimum crediting rates back in 2007. I just got done talking to you about another $3 billion long-term care transaction. Realize that we entered into two substantial derivatives to protect our balance sheet back in 2007 and 2008 that lowered the reserves that are sensitive to low interest rates by $6 billion. That was a positioning move by the company, recognizing we could have concentrated interest rate risk among other risks. We have very tight ALM standards. We have disclosed on our ALM, but we routinely run within a couple of tenths of a year across all our blocks of business, including long-term care, where the duration is shorter, more in the 13-14 year, and we run tight durations there as well within a half a year.
We've slowed the turnover rates down into the answer to the turnover question, you see it here in dollars, bringing that turnover rate down. Actually, on a run rate basis, the turnover rate is fully a third of what it was a couple of years ago. What that does is buy us time. It doesn't solve the problem completely, but it buys time. It slows the bleed of portfolio yields and allows you to take the following actions. One, adjust the pricing on your new business, go at crediting rates more actively, and engage in corporate investment strategies that drive net investment income outside of the spread business. What's our outlook? Our outlook is that we would expect portfolio yields to decline around seven-10 basis points based on the portfolio.
However, with the retention and growth in assets under management, we're anticipating a neutral net investment income output for 2013. Spreads down, assets up, net investment income, neutral. A common question we get on the road is, look, first, I find it very hard in your industry to really understand the true risk of low interest rates. It's hard. It's hard to model that. It's a bit opaque is the word we hear, and we get that. It is a quite complicated exercise. The other question we'll get is, how bad can bad get spread, when we think about low interest rates? What we chose to do here today is isolate a couple key pressure points when it comes to low for long interest rates. We have isolated interest-sensitive life reserves in our runoff block and Bankers Long-Term Care.
Interest-sensitive life reserves is about $2.3 billion in reserves, and you just got done seeing what the Bankers Long-Term Care reserves are. If you carve out all the slices, about $3.7 billion or so, $3.8 billion of reserves. The new money rate expectation over the long run is critical to establishing the reserves for these business. It's not surprisingly precisely where you've seen sensitivity or earnings issues for the company when adjusting our interest rates. What this chart attempts to do is if you focus in on the bottom left-hand side, let me step you through it. That blue line was the old new money rate assumption we had embedded in the reserve calculation for interest-sensitive life and Bankers Long-Term Care.
This was prior to the third quarter, and it had roughly a nearly 5% new money rate traveling on up to just north of 7% and then staying steady there out. In the third quarter, if you remember, we reduced that to bring the new money rate down to 4.75% and shifted the entire curve by 50 basis points, the result of which was about a $28 million after-tax earnings charge. We went further and said, let us give you a stress test. Let's hold new money rates flat for five years, have them then recover back up to that long-term new money rate assumption, and what does that result in? That resulted in about a $20 million-$50 million after-tax GAAP hit and statutory asset adequacy reserves of $20 million-$50 million. By the way, why the range?
The range is because as you get lower for longer, you now bring not only interest-sensitive life into the equation, but you start to gradually bring the long-term care at Bankers into the equation. That's why the range. Bankers Long-Term Care has much more resiliency because it's not in runoff. It's freshening its block of business with new business, and the rate actions since 2006, while not addressing interest rates, have gone a long way to help support margins in the business. How bad can things get? Let's go further. Let's drop the new money rate by 50 basis points to 4.25%. Let's hold that flat indefinitely. What's the charge? On a GAAP basis, after tax, $100 million-$125 million. Statutory asset adequacy reserves estimated at $75 million-$100 million. Let's put this in perspective. That GAAP charge is about 50 basis points of leverage.
I'm reducing my leverage by over 100 basis points a year through natural amortization of my debt. That asset adequacy reserve measure is about 15-20 points of RBC. All right. This morning, I guided on statutory dividend capacity to the holding company. Think of that as our free cash flow of $250 million-$300 million. Let's take the low end of that, $250 million. Okay? I have free cash flow equivalent to 50 points of RBC each year. This is a headwind. This is in fact eating into available capital and free cash flow. This is a manageable dynamic for us to work our way through, particularly given the diversity in our business mix. Not good for the business, not helpful, but something we can manage our way through if necessary. Let's change gears a bit, talk about three topics.
Three topics that are really some of the parts type topics. One is Colonial Penn. First of all, understand Colonial Penn is very, very uniquely economic for us to be investing in. Why is that? One, it's a unique franchise that's aligned with our middle market, and you just learned about that with Gerardo this morning. It's also predictable mortality-based low beta cash flows. Our industry needs more of that, right? That's what we like. That's a nice type of business to put on your books. It's a nice balance of risk to have on your books. It's also fairly low execution risk to invest in it. Once you have the formula, once you have the franchise and the engine that Gerardo talked to you about, feeding it is relatively low execution risk growth. Okay?
Many products in our industry, if it grows like a weed, it may be a weed, right? This is not that type of business. It's really hard to screw up low face amount mortality-based life insurance. How do we think about the economic value of it? Well, we did a calculation. You know we use value of new business, which is an embedded value calculation when we put new business on. We did something very straightforward, and that is we appraised effectively the in-force dynamics of the business. If you take a present value of distributed earnings, plus the VNB or economic value added over a five-year period from the product you expect to put on, plus a little bit of value for franchise. I emphasize that's a variable that's difficult to estimate the value of, but clearly there's a franchise value there.
We would estimate that calculation results in roughly a five to six times in force EBIT valuation. Interestingly, if you go back to pre-DAC calculations and look at what the allocated capital to this business is, okay, it falls in right around $230 million. Interestingly, think of it as one times book. A sort of a smell test, if you will, to this notion of appraising the cash flows. That was done at a 10% or 12% discount rate. A way for you to think about the value that we're building in that business and plopping that over our shares outstanding. OCB. One of the things that attracted me to CNO was OCB and shining a light on your challenges. Now I've had people say, "Well, Fred, that makes you a population of one as to what attracted you to the company." I really mean it.
That is one of the things I was very impressed with is back a number of years ago, this segment was formed, and it collected all the challenging blocks of business in the company to put a concerted effort around managing it. The goal is very simple. Let's stabilize the cash flows and grow them where possible, minimize volatility and surprises, and in doing so, open up options to maximize these cash flows, either by hanging on to them and redeploying or exercising reinsurance transactions. What we're doing on this slide is shining a harder light on it. Let's bring a little more transparency into it because we find there's confusion at times as to what is actually in this OCB of yours.
In fact, we've run into a number of people who believe it's a big long-term care block, which is obviously not the case. Here is the pie chart breakdown and the runoff of reserves in OCB. If you look on the left-hand side, we give you some characteristics of the earnings and cash flows. Interestingly, if you were to sum it up in a punchline, effectively traditional life annuities and even long-term care in a modest loss position represent relatively stable net profitable businesses. Really the volatility and where the game is being played, so to speak, in terms of management attention and dynamics is on interest sensitive life.
Of course, interest sensitive life is sensitive to changes in interest rates, as you've seen and we talked about, but it's also sensitive to where we have been addressing non-guaranteed elements in a prudent way and where we have gone down the road to take action and settling litigation such that there's more clarity around the go-forward plan. The strategy here, again, maximize cash flows, minimize volatility, and we will in fact explore reinsurance where it makes sense economically for the company. It doesn't make sense in doing that if you still have the volatility or if you believe there's more work that can be done on the in-force blocks before one would entertain reinsurance. Our tax assets is another important component of the story.
Very simply, maximizing life insurance income and non-life income is the way to generate as much value out of these tax assets as we can. Note that we also are engaged in other types of activities. For example, we're working with the IRS on disputed items. This would be the categorization of past losses or gains, which have implications for our assets. We also are exploring strategies to better utilize capital loss carryforwards before they expire. Importantly, we have valuation allowance up for the downside of these decisions. In other words, there's not a negative surprise embedded in our balance sheet, only upside if we were to resolve these things. Economically, we value these assets at between $560 million and $600 million, depending on the discount rate you want to use. I'd argue these are not particularly risky cash flows to create, thus the lower discount rate.
If we were to get a favorable outcome with some of these items in working with the service, it could mean as much as $170 million of additional present value to the company. Be careful. I have valuation allowances up because it is indeed a challenge to work through these disputed items before you go running off and plopping them into our valuation. Know that we're working actively on it, and we have, of course, disclosed actually quite a bit of detail on these items in our 10-Q. Capital. As you know, we exercised a recapitalization here in the third quarter. It was quite compelling.
It says a lot about the financial health of the company to reduce your cost of debt by over 200 basis points retiring 17%, together with our repurchase guidance this year, 17% of your diluted shares outstanding, and through your capital policies and greater financial flexibility, driving upgrades and positive outlook from the rating agencies. Once again, deferred question. Question was, what do you think about me making it to investment grade? I think was the question from the audience. Let me give you my point of view on that. First, we're dialing in financial ratios that we believe to be investment grade in nature. That's not just simply because we're trying to drive investment-grade ratings, but it's actually the right way to be running the company.
When we talk about leverage of 20%, free cash flow coverage of better than five times, which I would argue is as strong as you will see in the industry, RBC of 350, recognizing the short and long-tail mix in our business. We believe these are ratios that are consistent with the lower end of investment grade when looking at senior debt ratings. What's the challenge? The challenge is we have a higher bar to jump over in terms of stability. Proving out the stability of the model, the resiliency of the model. To be quite honest with you, the word long-term care doesn't do too much for your ratings or your stock price.
As you know, today, we spent quite a bit of time talking about it, and we're talking about it because it is an absolute challenging business to run profitably consistently over a long period of time. We get that. But as we've talked about today, we're very different in our makeup, but we've got to prove that out to all of you here. That's management's challenge, and that includes rating agencies as well. There is a growing recognition of do we or don't we have the market presence to push this business model forward, and that's something we're also working on with the rating agencies. It's a good question, and it's one that hopefully you have more of a feel of today from listening to Scott and the panel and others. Very good capital plan, and note the free deployable capital.
Cash flow is one of the critical investment parameters of the company. We've reached a milestone RBC-wise, we're no longer retaining capital in the insurance companies to build RBC, nor are we needing to voluntarily reduce debt because it's being reduced normally. Leverage is in good shape. We are not looking to build additional liquidity at the holding company. We've got over $300 million at the holding company, and we would argue $150 million of that readily deployable. Okay. Question, deferred question, what about building an investment portfolio at the holding company? Let me just tell you what our plan is. Our plan is no. Okay. Our plan is we've got about a $50 million investment portfolio at the holding company, and that's where we expect it to remain.
We've got $100 million of additional fixed income and liquidity that is there for risk management purposes, ready liquidity. We have over $300 million of the holding company solve for that, $150 million of deployable capital. What's interesting is we may be one of the few companies in the industry that actually guides on free cash flow. How should you think about it? Well, effectively, our statutory dividend guidance to the holding company is more or less free cash flow guidance. Why do I say that? Because we're sending $140 million a year up to the holding company in the form of contract payments to 40|86 and other service non-life entities, as well as surplus note income. That $140 million covers my corporate expenses and then some, covers my interest expense on holding company debt, and covers my scheduled debt service.
That leaves me with the dividend capacity up to the holding company. The issue becomes, what are you doing with it? The pie chart on the right is a snapshot of historically how we've balanced the use of that free cash flow. I would expect that pie chart to be substantially similar as we go forward with a couple outlook comments. You saw our press release this morning. It stands to reason that the portion called stock buyback is likely to be a larger portion of the pie. We'd expect the dividend to gradually be a larger portion. We won't be going through additional financing costs this year, and we don't have voluntary debt payments that we're going to execute on. It's more the scheduled amortization and sweeps. You should continue to see that balance.
Once again, we've got creditors in the room, we've got rating agencies in the room, we've got equity investors in the room. This pie chart is balanced for a reason. We want to get to investment grade. We want to drive the cost of capital down and the share price up. We're going to take a balanced approach to it. Finally, in closing, ROE and shareholder building. This is not aspirational. This is our financial plan. We just got done working with our board and working internally to create a complex and calculated financial plan. This 9% ROE that's being built off of a normalized 2012 is coming off of our financial plan. We have rounded for ease of execution, but by and large, we find it somewhat equal weighted between business growth and capital deployment held back, not surprisingly, by a low interest rate environment.
What it doesn't include is non-organic stairsteps. In other words, this is an organic ROE build. What else can management be attacking over time? Well, one is the run on, run off of business, as Ed mentioned earlier. Certainly, solutions around OCB and where that heads is a principal point of that. Don't lose sight of the non-organic ability to run on business as well. Recapitalization, the sequel. This 9% ROE in 2015 is on a leverage of between 16% and 17%. If I have improved my ratings and I'm de-levered down to 16% and the markets are cooperating, there's going to be a sequel to the movie we showed last quarter. Operating effectiveness. Look, we have a lot of the key building blocks in place. We have an underserved middle market. We have a product set that is simple and meets those needs.
We have a very unique delivery mechanism. There's no question, if you were listening at all today, you will walk away saying, look, their combined delivery mechanism of Bankers, Washington National, Colonial Penn is unique and uniquely aligned with the middle market. However, if you caught onto it, yes, indeed, middle and back office needs to be efficient, effective, and we're naturally complicated or complex because we once upon a time were built up through acquisition. Not surprisingly, a fair amount of that complexity is actually zeroed in around OCB. There's levers to be pulled there, but they need to be done in the right way and don't lose sight of the fact that we are in fact pulling some of those levers as we speak. We've been actively engaged at looking to simplify the platform where we can. Some of that spend coming through our numbers today.
With that, what I want to do is conclude there and bring Ed back up and Scott back up and Eric, and we'll open it up to questions really anywhere across the company. Obviously, I'll take any financial questions you've got as well.
Mike McLenney. Fred, a couple of questions on your presentation. On your GAAP and statutory stress test numbers, were there price increases factored into that?
No.
Is that steady state.
Yeah
You don't adjust your book of business at all?
Yeah. It's really a static test. A couple things to know about that page is I zeroed in on what I would call the pressure point and really more acute capital reserve impact items. It is specifically those two categories of reserve, interest sensitive life and long-term care, that are more acutely exposed to changing your new money rate. We did not play around with but here's the drop down box of four or five "management actions" that will somehow mitigate. It was just a flat out calculation. You drop that new money rate in, you run your models, what is it telling you? Remember, asset adequacy reserve or cash flow testing, that is a slightly more judgmental approach, right?
That is your appointed actuary on a legal entity by legal entity basis, assessing the margins and realize you can carry some margins over to other within the confines of life or health business to make the judgment call as to what will I need to do to shift money from capital to reserves to support my opinion at the end of the year. Don't lose sight of the fact that in an already low environment coming off of 2011, we passed all of the so-called New York 7 cash flow testing tests across all legal entities. We enter 2012 now cash flow testing and soon 2013 in another year in a reasonably good position.
The reason we have assets coming in or the statutory impact is because, look, judgmentally, what my appointed actuary is saying is coming in and saying, I suspect we'll need to do some bolstering of reserves on these two product categories if you hand me this stress test.
Thank you. On your last chart, you gave us 2012 and 2015, but there are a couple of years in between.
Yeah
that some of us may not make it through to get to 2015.
Yeah.
Help us a little bit on how we should think about the slope of the.
Yeah
improvement whether it's.
Yeah
going to be sort of incremental
Yeah
each year, or
I mean, I'll help
Or is there some headwinds that
Yeah
get you behind the lift?
Yeah. Let me give you a little bit of color, let me just say at the onset that we have enough math majors in this room that if I give you the explicit path, I think you can back your way into a nice, neat earnings guidance suggested story, right? Look, first know that what I said is serious. This is in fact the financial plan. Look, we may have one assumption cooperate with us and one assumption not. What this is not is an aspirational bar chart. This is what the plan is. We may succeed, we may fail, but it is in fact the plan, and it's organic. The path of it is, not surprisingly, Ed was up here talking about $80 million of investment over the time period going forward over the next few years.
You would expect that there's a level of investment followed by return. Okay? There is a bit of sloping going on. Yes. Is it a linear path? The answer is no, we wouldn't intend it to be linear. Should you see natural year-over-year progression? Yes, you should.
Will you-
It's not a hockey stick.
If you're ahead or behind the curve a year from now, would you likely tell us that or?
I don't think I'll need to tell you. I think it'll be right there in the numbers. Look, if we're doing our job disclosure-wise, your models ought to be reasonably accurate. We will be giving you the building blocks as best we can, but we're reluctant to go down the earnings guidance route.
Thank you, Fred.
Chris Giovanni, Goldman Sachs. The ROE walk that you provided, so I guess the stair steps that I think you categorized on the right-hand side of the chart, none of those are factored into the 9%?
That's right.
ROE. Okay. Then when we think about the stair step that we just saw from the recap, that added 40 basis points or so to the ROE.
Right.
Is that the magnitude of stair steps we should expect from these three drivers that you talk about on the right-hand side, or is that stair step too big of a step?
Honestly, as we sit here today, my ability to put range-bound ideas around what the order of magnitude around that could be would be difficult to do. I wouldn't want to pin myself to that. From a recapitalization standpoint, that type of dynamic should not be viewed as unusual in terms of pure ROE benefit from a recapitalization. I suspect that sort of range bound in and around the territory. The operational effectiveness issue is really going to depend on a number of things. Quite honestly, it's a bit early for us to be putting any sort of estimates around that. That's why we have not put it in any sort of organic plan. Until it's baked, it ain't in the plan.
That is going to be under development, but we know enough about our platform, and of course, we've brought on a new executive who came out of an industry where the fundamental value proposition of the business he was CEO of was efficient operating administrative platforms. That was the calling card of the business. We've got some leadership around it. We're building expertise around it. We know there's opportunity, but we're not in a position to size it. The run on and runoff, the only thing I would say is about this, when thinking about OCB, for example, just understand that there are some natural rhythms of engagement. This is not a CNO thing. This is actually what you should tend to see when you see reinsurance-driven transactions that seek to accelerate the runoff into current period.
You typically find that there is a GAAP charge of some kind, okay, relatively neutral to positive on a pure capital or, say, statutory basis. It's really all about how did this change the trajectory or the thought process on the go-forward numbers? Did it reduce volatility in exchange for reduced growth rates? Were you able to redeploy that capital in a way that's particularly attractive? From day one, you tend to have a boost in ROE, but a drop in book value, the issue becomes, have you done something to improve the quality of your ROE as you go forward, therefore, driving a better book value multiple on it, right? That will generically be the equation that gets set up in looking at a reinsurance deal.
The $3 billion annuity deal we did in 2007 and the $3 billion long-term care deal that was done in 2008 had those types of precise dynamics around it.
Could you just comment a little bit about how you're thinking about the possibilities for the OCB block? You broke down some of these are very earnings generative today. How are you thinking about the possibilities once we get through some type of resolution? What could it be?
I think there's sort of this built-up anticipation that these steps need to take place, and then one will do X. We are in constant communication with the reinsurance markets, looking for where there may or may not be a shareholder advantage or a financial risk advantage that is attractive for both parties to execute on, both within and outside of OCB. Realize that the communication lines with that marketplace on various blocks of business has always been in place. What we're not in a position to do is talk about how something might get packaged, both how it will get packaged or when it will get packaged. The reason is because that has a lot to do with not only progress we're making, but also the appetite on the other side among reinsurers.
You'll typically find reinsurers have a very specific desire to go after a specific type of risk because they have a lever they're pulling on their balance sheet. Sometimes it's an administrative platform motivation. Sometimes they're long mortality and want to get longer assets. Sometimes they're long assets, want to get longer mortality. There's other dynamics that come into play. Right now, we're not in a position to give a precise roadmap other than to know by reducing volatility and maximizing cash flows, we open up more options. We create more interested parties, and we create greater dynamics for what we may be able to execute on if it's in our best economic interest.
Let me add a little bit to that. It is why the earlier question I got about the different opportunities, how would we rank them and weight them, very difficult, but there again, it's more, let's talk about our approach. To be opportunistic, to maximize shareholder value in that process. I realize I'm answering in some ways in a rhetorical way, but go back to the breakdown of OCB, the different slices of that pie. There's a fairly good-sized slice of that that's traditional life and annuity, making money on a consistent basis. Now, it'll be a declining stream of income, of course, since it's a runoff block. There generally are a lot of interested buyers, reinsurers for that business. The question is, pursuing something on that now, is that optimizing the value of OCB and CNO?
Tough to answer, but that's the question we're trying to answer to say
We get an economic value of X for that. Does that enhance or diminish the economic value of the remaining parts of OCB? It may or may not, and that is the decision framework that we're trying to go through as we consider different alternatives with OCB to accelerate the runoff.
Brian Kruger with Sallie. I had a follow-up on OCB while we're on the topic. How do you think about the interplay between a potential transaction and the potential additional recap opportunity in 2015? The reason I ask is because, Fred, you mentioned that, and I agree that an OCB transaction would probably reduce GAAP equity, which would also increase your leverage. How do you think about that?
Yeah. The way we think about it is, one, when you go into a fresh debt capital structure, create a level of capacity, cushion, and flexibility to execute on transactions that may be GAAP negative, but capital risk management go forward valuation positive. I like the fact that we are naturally de-levering over time because you're naturally introducing a level of greater flexibility and greater capacity to make those kinds of moves if necessary. The other reason you want that room is because we're living in an environment right now where you have more acutely dangerous GAAP charges than you do statutory for the simple reason that GAAP reserves and intangibles are oftentimes predicated on best estimates as opposed to a severe stress test or cushion or pads. You want to have that room and flexibility.
Understand that when we put in place the recapitalization, we structured covenants, we created a good amount of financial flexibility, not just because that's, of course, what every company wants, but we want to have the flexibility to execute on smart economic decisions that may or may not be near-period GAAP friendly. That's how we think about it.
If OCB were separated, do you think you could run the company at a higher leverage ratio?
Well, think about it. If one views OCB, the businesses in there as having more capital volatility, it being the higher beta area of the company, then what you may give up in the way of a kick-up in leverage, frankly, a modest kick-up in leverage from a reinsurance deal, you may gain, in fact, in an ability to have more consistency in your cash flows and earnings, allowing you to have that additional leverage. It very well could end up being in a corporate finance trade-off.
Okay, on the low rate scenario on the severe stress test, the amounts listed, is that a 10-year timeframe? Because it said indefinitely, but I assume it's not forever.
Yeah. It's basically plugging the new money rate into the long duration model of the products, long-term care, and interest-sensitive life. It actually strings out for several years, better than 20, going on 30 years of assumption.
All right. Just one last quick one. It says share repurchases of $250-$300. Does that include the $93 million of remaining converts?
Yeah. The way we think about it is, in part because the converts are so far into the money, that we really have what we would call common stock equity and equity-like equivalents, of which the convertible would include in that. We are really indifferent. We're agnostic as to where we deploy the excess capital. It's a matter of being smart, opportunistic, and assessing the relative economic trade-offs of going for one or the other. It's about driving diluted share count down, doing it within the band of we've got a quest to have a good, solid capital structure and drive our cost of capital down and drive our ratings up.
Thanks. Randy Binner again from FBR. A couple more kind of clarification questions on the low for long stress scenario. I guess one, I'm still not clear. I think it'd be good for everyone to be clear on the timing of when that GAAP and statutory reserve impact comes on.
Yeah. Well, it's sort of unclear for a reason, but let me give you some color on it, okay? GAAP, right? What is the trigger for doing something related to either the moderate or severe stress test in GAAP? The trigger is when it becomes, in fact, your best estimate. For example, this year, when we brought the curve down, it was predicated on a couple of very straightforward things. It was the Fed who said we're bound and determined to keep rates lower for longer. It was an investment strategy specifically put into play that said we are not going to do better than this new money rate. Okay? Those two things tipped the scale towards, hey, we're going to adopt this new curve. All right?
What we're going to do, and in fact, it's not even a management judgment issue, it's what's prescribed under GAAP accounting, is each quarter we make that same assessment. Now, from a practical perspective, it tends to be annual in the industry. The reason for that is because one quarter does not make a best estimate. Each year, we take a very deep dive into, "Eric, what are you doing with the assets? And oh, by the way, having 4086 is like having an economic department as well. What are you seeing in the estimates that are going on in the market?" Fed action like yesterday and discussion on what that may mean for long-term rates. That plays into our annual review. The day you change that best estimate is the day you take that charge.
Asset adequacy reserves and the statutory side of it, I would argue, is a more gradual dynamic. In fact, interestingly, we actually added, we didn't talk about it because it's a rounding error at best, but we actually added $4 million of asset adequacy reserves to a particular part of the business in the third quarter. Of course, means nothing to our financial ratios. What it tells you is that the appointed actuary is putting forth his or her opinion. They take that very seriously. They triangulate into the right amount of reserves by a series of studies, including the so-called New York Seven, and then they make that adequacy judgment call.
That's why it's not uncommon for those actuaries to come into my office and say, "We would be more comfortable if we could add some asset support to these areas and these areas in support of my opinion." It will tend to be more gradual. It's not something typically where In fact, I would be disappointed if in came a bunch of our actuarial staff in my office in any given year and said, "We've run the numbers and we need $100 million." That's not really the way it's going to play out, right? As each year goes by in a low interest rate environment, you're wanting to add or bolster to some of that.
Okay. Whether or not it's rapid under GAAP or gradual under stat, those would be the cumulative loss estimates out to 2022. That's an intentional kind of 10-year look, right?
Yeah. That graph was really just meant to say I didn't want to drive you nuts by stringing out.
Okay
a 30-year graph. That was PowerPoint mechanics.
Okay. It's a cumulative number across the period. It's not every year.
Oh, right. Yes.
Yeah. Okay. Then net investment income was not covered here, I don't think.
Right.
In the moderate stress test, which is pretty in line with reality.
Yeah
You lose $15 million, $30 million, and then $60 million in each successive year. It's kind of linear. Are there similar numbers you can share?
Yeah
for the more severe one, or should we just kind of make them incrementally bigger?
One, you have portfolio yields, you have turnover rates, you have an ability to model that. Where I tried to cover it was really on the slide prior, right? Really to say, don't lose sight of the fact that $10 billion of my reserves are spread-based, where I am taking action on crediting rates in the face of a bleeding portfolio yield. Don't lose sight of the fact that I am, in fact, still intending on growing some assets under management. In particular to CNO, it's been indexed annuity growth rates, which not only build assets, but build assets with greater flexibility on the crediting rate side. Don't lose sight that I am building out investment strategies, things like FHLB spread business, CLO business that drives both asset management fees as well as spread income.
Alternative investment portfolio, which granted, we don't have a very big one, but we are building one, and it's at the holding company level, and it's expected to perform. Those types of dynamics go a ways to offsetting what otherwise would be a pure static modeling of your portfolio yields doing this, multiplied by a static asset. Here's your new earnings rate. What we did in the third quarter is we said, look, let's go a few years out with this notion of a moderate stress test to show you how that bleed would work if I froze assets at the 2012 level. I didn't go there with this test because I just wanted to more acutely say, look, here's the two blocks of business. Here's what happens if I plug it in the model.
This is sort of your balance sheet dynamics, which is, I think, in part the concern in the marketplace.
We have time for one more question.
Sean Dargan from Macquarie again. It sounds like you want to cap the size of the holding portfolio, and I know Ed is not interested in running hotdog stands. Is there anything you would consider buying against which you could the non-life NOL?
Yes. To my earlier comments about M&A, got to fit our strategy. You think of, not to say this is going to be or not be what we would acquire, but we have done that in the past. PMA, wholly owned distributor, exclusive to us. That is a non-life company distribution reaching the market that we serve. I would venture to guess there are other PMA type organizations out there. There are non-life types of entities that do fit with our strategy and also are in that sizing where we can self-finance it that way. Those are the screens. Fit to the strategy, be able to pay for it out of available funds and cash flows. In that, though, we are not saying it must or must not be a life or a non-life entity.
It's going to be one or the other, but it's not that one has a preference. It's what, again, opportunistically and strategically would make any sense.
What amount of tax benefit we could drive, right? To give you an idea, every one percentage, if you take a growth rate of our earnings, the GAAP requirement is 5% growth rate for 5 years, then flat in establishing your valuation allowance. If you take a growth rate and just assume into perpetuity a growth rate of 5%, every one percentage point move in that growth rate equates to about an additional $50 million of net NOL value created. And maybe on a present value basis, something in the $15 million range. Think about that for a second. Would it ever make sense for us to do a risky, less than strategic acquisition to create that kind of value? Look, it factors into our thinking. It's an absolute piece of the puzzle that we bring to the table, that is our tax position.
It's never going to argue over and above, does this thing actually make sense to drive the earnings and value?
Sorry, we have to cut it off, as you probably know and expect, several of us will be still around here, and we have hopefully demonstrated in the past and expect to continue it going forward, to be available to you, to meet with you in a proactive way too, to answer your questions. Hopefully we did deliver on our objectives and you understand more now about our value proposition, and why you should be owning CNO. Something we didn't talk about, but I think is also very important is we're not a SIFI, we don't have variable business, and we don't have business that gets impacted by AG 38. Other factors that differentiate us, we believe in a very positive way from a shareholder standpoint. We do believe that we are uniquely positioned.
We do have that sustainable competitive advantage that does have barriers to entry, as we've talked about. We are focused on and committed to serving that fast-growing, underserved middle-income market. Hopefully, you got a better idea of how we do reach and serve that market and add value to the enterprise. With that unique market focus, we really do believe does drive value. It also, coupled with our growth investments, positions us, as we talked about, to increase our sales growth rate from that 6%-8% annually, to 8%-10%, and then to 10%-12% annual growth, while not slowing down our deployment of capital and returning it to shareholders while we're also de-levering at the same time.
We do intend on continuing our track record of execution. It's great to see so many of you that have been following, investing in, lending to the company for several years that hopefully we've built up credibility by earning it through that execution, and we're committed to keep doing that and achieving these strategic milestones. I believe we really have turned another chapter, and hopefully, you agree too, that we are no longer CNO, the project. We do believe we are CNO, a compelling value proposition. To the question earlier about at six or seven, we were screaming by, "Don't put this in an acronym," but we're a shout-out buy. For that shout-out, thank you for your interest and your support of CNO.