We're delighted to have Dennis Glass from Lincoln National with us today. Lincoln's in the business of annuities, life insurance, group protection, and retirement in the U.S. Dennis has been the CEO since 2007. In terms of format, we're going to do a fireside chat. I'd first like to say thanks for being here. Welcome.
Alex, thanks for having us here. Great conference every year, we're delighted to be a part of it.
I wanted to first start with sort of a higher level question around the business mix and where you see growth opportunities. Is the source of earnings mix, where you'd like it to be following the Liberty Mutual deal? Any comments where you see the best growth opportunities.
Yeah. Alex, the franchise is in as good of a position as it has been for years. Let me talk to source of earnings. For quite some time, we were talking about getting a balance between spreads, fees on assets under management, and traditional mortality and morbidity. We've accomplished our objectives with the Liberty acquisition. Over time, it'll be about a third, a third, a third. That's a very good source of earnings. Equity markets are strong. You get the kick from assets under management. Now what's happening is interest rates rising, spread compression is going away, the mortality and morbidity earnings are strong and more under management control than capital markets are. We feel very good about it. Somebody hasten to say that interest rates have come down in the last couple of days.
That's true, but spreads have widened at the same time. My chief investment officer told me that for every basis point decline in the yield curve, we've had a basis point expansion in credit spreads. Our guidance about spread compression, which has been as much as a 2%-5% growth headwind over the last 3 or 4 years, is going to be gone by 2020, even with interest rates at the levels that curb at the level it is today. That's very positive. Let me just hasten to add, volatility is not particularly helpful for any business. The interest rate environment is fine because of spreads widening. The hedge program that we have hasn't had any blowups ever. It has operated very well in these last 30-60 days where there's been a lot of volatility. That's strong.
Capital markets, again, volatility is not good. There's nothing that we haven't experienced before, and everything about the balance sheet remains strong. That's good. In terms of growth prospects, we're in the life insurance industry, and we're in it in a material way in the businesses that we choose to be in. As I look for growth opportunities, I would have to say that protected lifetime income in our variable annuity business has become an increasingly popular product, particularly after you see the volatility in the stock market. For some portion of a customer's investment portfolio, they're just going to want to have guaranteed lifetime income. We see that in the numbers. Our guaranteed lifetime income products continue to grow in sales amounts. The other thing that, if I could just stick with annuities and then expand that to all of our businesses.
You have two things operating for a company like Lincoln. One is what's the fundamental growth rate in the business? What segments of the business do you participate in? Can you expand the segments that you participate in taking advantage of sort of the overall growth, but in the case of an individual company, participate in more parts of the business or more parts of the broader market. In annuities, what we did about two years ago is moved ourselves from thinking about ourself as just a protected lifetime income company to participating more broadly in the markets that were available to participate in. For example, Index Variable Annuities. That was a $10 billion marketplace, and we had no market share in it.
We introduced a product, it has become the best product launch, hundreds of millions of dollars in sales in the first couple of months. On top of just the general growth, the expansion of the segments that we participate in is good. We've been talking about the fourth quarter, if I stick with the annuity business, as a positive net flow story in the first two months. Give us a lot of comfort. We've been sort of meaningfully in positive net flow position in the first two months. We expect that we'll have positive net flows quarter and not just a couple of dollars. Good positive net flows in 2019. That's a concern that investors have that we've been able to, again, through the growth in the marketplace as well as expanding our presence in different segments to grow that business well.
That's the annuity business, the life business. Let me go back to the group business. Same story. We've been participating in the segment of the market of employee sizes of 1,000 and under. When we did the Liberty deal, we expanded that to all size employers. So now once again, rather than just focusing on one segment of the market, we're in the entire market. I think we're number one in Long-Term Disability in the U.S. We have iconic customers like Walmart, and I think that's true. So once again, it's not just the overall growth of the industry, but it's participating in different segments of the industry. Going into life insurance marketplace, same story. There's an underlying growth trend in the market.
We're going to outpace that underlying growth trend because we're going to participate in product lines that we haven't participated in or focused on in the past. Specifically, in the life business, it's Indexed Universal Life, where I think there's 16 participants, and we're 16th just because we haven't been focusing on it. So there's a significant opportunity to improve our position. I might just make a sort of technical comment on that. A lot of companies price their products on what's called the portfolio basis. Some of our competitors, and particularly in Indexed Universal Life, have been pricing new business off of their portfolio rate, which includes investments that were made back in 2007. We price on the basis of new money, and so we had a very big disadvantage against companies that were using a portfolio rate.
With the change in interest rates over the last 24 months, the difference between what you can credit from a portfolio rate and what you can credit from a new money rate is not as meaningful. So we have a better opportunity to participate with a good return on capital than we've had in the past. So again, expanding our market presence into different segments in the life insurance business, the annuity business, and the group business is how we're getting incremental growth on top of the trend lines in those markets. In the retirement business, we continue to outpace the industry. That's more a situation of focusing on the high growth segments. So we're in the education, government, and healthcare markets where we have a significant presence. We've had quite a bit of technology additions in that marketplace, which is the differentiator for the marketplace.
Companies want to understand how well their employees are doing with respect to retirement savings. It's a very important issue for them. Secondly, you have the participants themselves wanting technology to see how well they're saving for retirement. We like to talk about Click to Contribute, where you can look at your 401 balance on your iPhone or your iWatch or handheld in general. You can press a button that says, "If I add 1% to my contributions to my 401 plan, how much more will I have when I retire?" Since we introduced that feature alone has added, I think, $300 million or $400 million of additional deposits, which makes me feel good from a business perspective. It makes me feel better from the standpoint of helping Americans better protect themselves for their retirement.
Overall, the products that we're selling have good basic trend lines, and we're expanding the segments that we're participating in so we can get growth on top of the industry growth expectations. Distribution, we're really doing a great job. I think we've always been recognized as having the most powerful distribution in the insurance business, or segments of the insurance business. We've added some very big customers, shelf space. Recently in the P&C marketplace, we've added Allstate, and that in and of itself could increase our annuity sales by 5%. It's that big of an impact. Strength of the franchise, segments of the market that we're participating in with new products, the breadth and strength of our distribution that's expanding is, again, as good as it's been at Lincoln for years and years. I'm very excited about it.
You touched on sort of the margin in new business on the life insurance side. Maybe you could spend a minute on the annuities new business and what kind of margins you're able to target there, and maybe any color on the competitive environment. I know there's been new entrants and new annuities. I think it's been a little more geared towards Fixed and maybe Fixed Index Annuities, but would be interested to hear any commentary on competition.
Just broadly speaking, across all of our product lines, I think we've got very rational competition in the marketplace. There's some times that people will try to get an improved market position and knowingly underprice for a couple of quarters. I don't see any of that going on right now. Across the business lines, I would say it's rational. In terms of margins, we talk more in terms of ROAs on the annuity business and return on capital. In the annuity business, the one thing that lower 10-, 30-year spreads increases the cost of our hedging a little bit. Maybe instead of middle high teens, we're sort of middle teens on our returns on VA today. That's good. The overall ROA is still in the 78 to 82 basis point range. A very strong ROA on a deposit-like business.
The life insurance, when interest rates were lower, we repriced our entire portfolio, it takes a longer time to put new repriced product into the marketplace in the life insurance business. What we found ourselves is in returns higher than what our expectations were on new business. We're going to bring those back in line because, in any market in the insurance business, you can't have excess returns and expect to sell the volumes that you want to drive growth. We'll stay within our pricing expectations, but we'll lower the return on capital to be inside of our expectations. I think you might be referring to some of the new models where a little more excess credit risk is taken by some of the entrants. I understand that model. We are partnering specifically with Athene on what we call a flow deal.
We sort of get the advantage of their model along with our model. There's other opportunities to do that. Even if we don't have a partner that has a different investment philosophy than we do, we can participate in the channels where those products are sold. It's predominantly the Fixed Annuity market. A lot of it's driven by the banks. We've added big banks with big distribution capacity in the last year or so. We'll be able to participate and compete in that marketplace. Once again, I think all the competition across all of our business lines is rational right now. We've got good management teams running the businesses with a clear focus on return on invested capital. We're fighting it out based on service and the more traditional competitive, not price, but service, product design, things like that.
Got it. I guess there's also been a lot of focus on something you mentioned on the 3Q earnings call, which is that you were exploring the potential for sale of an annuity block. We've seen some of these transactions occur from a defensive standpoint. It seems like maybe this is a little more of an offensive move. I'd be interested to hear more about it. What you see in terms of the opportunity, the timeframe that you might engage in something like this, and just if the volatility and interest rate environment that's kind of crept up on us after the quarter, if that changes anything.
It's hard to say if that particular development is going to change anything. Again, I think we're focused on if we can do anything in the marketplace, we think Fixed Annuities would be the easiest sale because it has the fewest moving parts. Probably because spreads are widening. Again, change in the yield curve doesn't affect that opportunity too much. I get a question or two as to why I even mentioned this. Let me be clear about that. With our investors, I don't like to surprise people with a strategy that we hadn't talked about before. One of my motivations when I talked about it on the third quarter call was say that this was another opportunity that we might be able to execute on, but I'm not putting any timeframe on it.
The other reason for mentioning it is that if you get into negotiations in any type of significant disposition or acquisition, you have to close the window on share buybacks. By saying that we might do something like this, we could leave the window open. It'd sort of been self-destructive to be in a discussion with somebody, have to close the window, not be able to buy shares and then the deal not happen. Instead of trying to increase your share buybacks, you ended up reducing your share buyback. Just want to be clear about what strategies we might employ. We want the company able to be in the market executing on its traditional buyback program. It's a possibility, Alex, like any M&A activity, we don't comment on it in any greater detail.
I would say that, as you've mentioned, there's been a couple of transactions that have occurred. They have been a little bit more defensive. This is clearly an offensive strategy. Let me hasten to say, let's just pick a number. If we did $5 billion worth of Fixed Annuity sales, we would replace that entire amount through new sales in a couple of years. From the perspective of changing significantly the mix of business that we do, over a few years, we're back to where we started. Remains a possibility. 99% of our attention is focused on organic growth. I think we're doing a great job.
Maybe we'll switch gears for a second to the group benefits business or the group protection business.
Yep.
You guys have begun integrating this new piece of your business in Liberty Mutual.
Could you give us an update on sort of where the integration stands? You're already achieving margins that I think are within where you hope to be over a couple of years timeframe. Any update on how you'd expect that to trend from here, and if you think there's sort of maybe upside to what you originally gave us?
Overall, the integration's going well. If you go back to our original comments, I think we were talking about integration savings of $100 million developing over the first three years or so, or over the next three years. A third of that was the elimination of overhead that was being charged, that line of business by their older parent, and we've not had to increase our sort of centralized corporate activities to that same amount. That was pretty easy to do. Right now, we're in the mode of the technology consolidations, and that's just a lot of hard work, heavy lifting. That'll take a couple of years to see. In terms of the margins, yes, margins have been better. I think margins, particularly on Long-Term Disability and Short-Term Disability, have been very strong across the industry, probably related to the very low unemployment rate.
As long as that continues, we'll see good margins. Our margin expectation of 5% to 7% over the long term is pretty much where we expect that business to level out at. Once again, there are market constraints as to return on capital that is permitted, if you will, in the marketplace. Our 5% to 7% gets us into, again, low double digit, 12% to 13% return on capital, and that's where I expect that business to settle out. It's great, as I mentioned earlier, from source of earnings, from the strategic architecture, if you will, of the company and the franchise, and the context specifically of the group business being as large and as powerful as it is now. Extra capability that came along with the Liberty Mutual acquisition.
They had a very strong absence management capability that we could push down into markets that Lincoln had been in previously. It's a good acquisition. We ended up getting a good return on invested capital on that projected return on that, so we didn't have to lower our returns to accomplish the strategic goal. We got pretty much what we expect in the terms of return on capital that you're putting out for a long time.
Maybe on the life insurance business. We've seen some of your peers sort of discontinue sales of certain guaranteed products. We've seen some exits from the retail life insurance business. I think there's some recaptures that have kind of gone on in the industry where reinsurers are repricing things here and there.
Can you discuss why is this occurring? Is there anything different about the Lincoln story where this impacts you differently, and why have you sort of chosen a different path from some of these companies that have chosen to walk away from it?
It's very hard to try to figure out why somebody exits something. My experience watching Lincoln and other companies over the last 40 years, is that people make decisions as to where they place their capital, that usually is based on where they think they have the best opportunities given the skill sets of the company. You'll oftentimes see people selling off one business and reinvesting in another business. Again, it's based on what they believe is the best opportunity for them and the capabilities that they have to get a good return on capital invested. Each company makes a decision about where they can participate with the best outcomes based on their skill sets. We're the what? The third largest life insurance company in the United States. We have therefore scale from an economic standpoint.
We can put product out at the lowest cost because of that scale. Because we have that scale, we can attract a lot of distribution. Because of that scale, people like to be associated with bigger companies in the career that they're trying to pursue. When you're number three in the country in a product line, you can attract better talent. The combination of being able to attract good talent, having the lowest cost development of the product in the industry because of scale, and we're just good at it. Candidly, we're a very difficult company to compete against. I can see us and the other powerful life insurance companies that have the kind of strengths that we have driving some of the people out who can only participate at the margin.
The other thing I wanted to ask you about is we've got new accounting changes coming for the life insurance industry. Seems like pretty transformative type changes for the way that we're going to be looking at your results. I'd be interested in any comments you'd have around how we can think about things like book value impact, earnings impact, or the way it would change your cash flow, if at all.
I've been saying, Alex, that this is not an economic outcome for the industry. It's a non-economic change in accounting practices. We think, and most of our investors think, that it's a bad decision to move to this type of accounting. Again, not because it has any serious economic consequences, or at least not to Lincoln, I don't know about other companies. It might create some noise that otherwise wouldn't exist. Having said that, it is what it is. It's not economic for us. Some of the things that the industry and Lincoln has faced in the last five to seven years, changing reserves on Guaranteed Universal Life, captives and how they're used or not used, those were real economic potential challenges. That's all behind us.
Those were things that you could have been concerned about from the perspective of just the strength of your capital base. This is just purely GAAP accounting. We're not aware of any significant economic consequences to this. If it affected book value, maybe your debt-to-equity ratio might be modestly changed. Even there, the rating agencies calculate the amount of capital and the debt that you do, not on the basis so much of GAAP accounting, but on their stress testing. To summarize, the environment's going to be what it's going to be. It's predominantly non-economic or if economic at all. We'll be working over the next 12 months to help our investors understand what the non-economic outcome of the accounting change is. Not concerned about it.
Got it. The other thing that's getting finalized, I guess, is just some of the changes that the NAIC is making to the variable annuity capital framework. One of the questions I've gotten related to Lincoln more recently is just around, I think one of your peers who is similar to you, managing the annuity hedge program in a sort of separately wanted, I think they had a captive, but I know yours isn't technically a captive. They actually have kind of come out and said they have a positive capital benefit from recapturing the structure that they had in place. I'd just be interested in hearing from you, do you have any plans to change that structure that you have? Could it actually be a capital positive?
First, let me say that the NAIC is making very positive changes with the regulations that are coming out around VA captives. The industry and Lincoln is going to benefit from that. It's a positive direction. The old policies where you had to choose between one or two bad outcomes was silly. Now you don't have to make those choices. It's an improvement for the industry. I don't know how it's going to affect every company. To your point, we do not use a captive. We have an insurance company, an offshore insurance company, that we help manage volatility of our VA product. We can sell product out of that insurance subsidiary. A typical captive is just a relationship between the parent and the captive. It doesn't have any capability to do third-party business. Ours is very different.
At this red hot moment, given where the markets are, if we were to recap, it's not even recapture, but if we were to merge those two entities, we'd have a neutral to somewhat couple basis points positive on RBC today, I think. I think we've been saying plus or minus 10 basis points. We have no intention to change the nature of that subsidiary because it gives us optionality. It does, even though today we could recapture and sort of be neutral, it does give us less volatility in wild swings in the capital markets, and we think it's positive for Lincoln and for our shareholders to avoid just that kind of outcome. It's a strong, well-capitalized subsidiary. It can do third-party business. We can do third-party business through it. We haven't. Maybe we've done a little bit.
If we recapture it today, it's sort of neutral to somewhat positive, but it avoids volatility in the future, so we have no reason to change it. We think it's a great idea. Have felt that way since we put it together.
Okay. Maybe just a higher level question on the volatility, the pullback in equity mortgage that we've seen. How should we think about that impacting your model, whether it's your capital base or even just earnings as we head into 2019?
The 10K discloses the amount of earnings change per 1% decline in the S&P 500 or excuse me, equity markets in general. If I recall correctly, every 1% drop in equity markets results in a $10 million reduction in earnings. You can do the math based on where it was 90 days ago or at the beginning of the year. I want to come back to this business mix to the extent Let me just give you the statistics. It's a little bit hard to follow, but in the five years ending at 12/31/2017, we had compounded our earnings per share by 12% for that five-year period. I think that's the best operating earnings per share compound growth in the industry. In that period, as I've mentioned, we had 3%-5% headwinds.
In other words, earnings growth was reduced by 3% to 5% in a couple of years because of spread compression. Because of the strong equity markets, the net contribution to that 12% from rising equity markets and declining interest rates was 1%. Not a huge deal. The mix of our earnings went from a higher percentage today coming from equity markets and a lower percentage coming from spreads. Over the next 3 years, to get that same 1% benefit from capital markets, the equity markets only have to grow at 3% because interest rates and reinvestment is high enough to eliminate the earnings headwind at 2% to 5% from lower interest rates. Now, if the equity markets go straight down, just like any company who depends on fees and assets under management, that's not helpful.
Again, the 1% and $10 million can help you put a box around what that means.
I think we have time for maybe one question from the audience. If there's one that others are interested.
You didn't talk about MoneyGuard. Can you just talk about MoneyGuard and how you think it affects Lincoln relative to the LTC care issues out there?
Yes. MoneyGuard was priced and developed after the experience that the more traditional long-term care manufacturers had their challenges. Just real quickly, we've stress tested that for all the principal changes, and we're over-reserved, and our reserves are fine. There's not going to be any adjustment to our reserves on that product in the foreseeable future. The reserve's just fine and stronger than it needs to be at this moment in time based on our actual experience. It's a great product. We sell a lot of it. New entrants are coming into the marketplace, and so it's getting a little more difficult from a competitive standpoint. We get a good return on capital. It's got a good risk profile. We get good distribution. We think it's a very good consumer value, and it's a very well-priced and safe product from the perspective of the balance sheet.
All right. Well, we will leave it there. Thank you for joining us.
Thank you very much, Alex.