American Equity Investment Life Holding Co (AEL) 2008 Q2 法說會逐字稿

Good morning. Welcome to American Equity Investment Life Holding Company's conference call. At this time, for opening remarks and introductions, I would like to turn the call over to Julie LaFollette, Investor Relations.

Good morning, and welcome to American Equity Investment Life Holding Company's conference call to discuss second quarter 2008 earnings. Our earnings release and financial supplement can be found on our website at www.american-equity.com. Presenting on today's call are John Matovina, Vice Chairman; Kevin Wingert, President of the Life Company; and Wendy Carlson, Chief Financial Officer.

Some of the comments made during this call make contain forward-looking statements within the meaning of the Private Securities Litigation Reform Act. There are a number of risks and uncertainties that could cause actual results to differ materially from those expressed or implied. Factors that could cause the actual results to differ materially are discussed in detail in our most recent filings with the SEC. An audio replay will be available on our website shortly after today's call.

It is now my pleasure to introduce John Matovina.

Thank you, Julie. Good morning, everyone, and welcome to the call.

As we reported yesterday afternoon, operating income for the second quarter was $18.7 million. That's a 14% increase over the prior year second quarter of $16.3 million, and on a diluted share basis we were at $0.33 a share, compared to $0.28 a share.

Before I turn the call over to my colleagues to give you the typical details that we go through, I'd kind of like to remind you of the big picture relative to American Equity, some themes we emphasized in the first quarter call and our investor day about two months ago, and that is we really operate a fairly simple business.

Our main goals are to grow our assets under management, which we've been doing quite well with improved sales, as Kevin will talk about. Our outflows are remaining reasonably low, and we've had account value growth now of 3.5% in the second quarter. That brings us to 6% year to date and 13.5% on the trailing 12 months, so we're certainly very successful in growing the asset base upon which we earn our spread, which is the other big element of our profitability spread. And of course, we're all aware that 2007 was a year that spreads were declining, and as we had commented as we went through the year, we felt like we would be able to reverse that course, and that is indeed what's happened over the first half of 2008.

Spreads had come back to fairly close to some of the very high levels we had in earlier years, and it's our expectation that spreads will continue to move out. Our cost of money on re-pricing of business remains favorable to us. And so as lower costs work their way through the amortization, we should see a continuing lower cost of money.

And of course the third prong of our philosophy is to maintain a high quality asset portfolio, and even though we've had a few of impairments on this quarter, we haven't had any permanent defaults in our -- permanent losses in our investments, excuse me. And we continue to maintain a very high quality portfolio with 99% of the securities rated investment grade and then an allocation of the commercial real estate mortgage loans that has had an excellent history. We've never had any defaults, delinquencies, or restructurings in that portfolio. And as we've said repeatedly over the past number of months, we have no exposure to subprime mortgages and are not experiencing issues in mortgage-backed securities that other insurance companies and other investor types have had.

So with those opening remarks, I'll turn the call over to Kevin to give you more of a flavor of how sales went and what we expect them to be going forward.

Thanks, John. Good morning, everyone. Great to be with you. I appreciate your time this morning to talk about American Equity. I'm very excited about how things are going on the production side for the first six months of the year.

The second quarter of 2008 sales were $648 million, up 4% from second quarter '07 at $622 million and up 26% from first quarter of '08 at just under $515 million. That's the best production quarter we've had since 2005, and July has been a solid production month. Through yesterday we were at $208 million, which would make July our fifth $200 million month in a row. So, I feel pretty good that we've made solid progress on production. We're continuing to make good inroads there.

Pending cases at this point are around 24 -- just over 2,400 cases. With the Fourth of July at the beginning of the month, we saw a slight dip in pending, which I think we had been up around 2,500. I'm hopeful that as we go through the next month or so we'll recover that July 4th slight slippage. I don't think it's anything significant other than the agents took some holiday time there.

So, I feel very good about where production is. I just came off the road last night. I saw six or seven NMOs and a number of different agents, and everybody is very optimistic. They feel the market's in a good spot for them at this point. High volatility makes a safe money story even better, and the producers, I believe, are excited about where we're going to finish off this year.

I think one of the big developments in the market that we're in currently is the lifetime income benefit rider. We've talked about that for the last year on our calls. Today the fee-based rider, which is the rider with the 8% growth on the income account, is 50% of the sales for American Equity approximately, so it is being received very, very well out in the marketplace. With the Baby Boomers coming on, I think income is going to continue to be a growing and recurring theme out in the marketplace.

So, I feel real good about where we're positioned there, and obviously with the equity market struggling. Indexed interests, at least interest rates indexed to the equity side, have been low or zero, so we're seeing a fair amount of the money, up over a third of the money going into fixed interest rates. And I think the income rider gets folks focused back on what an annuity is there for, to provide them income options that they can't outlive in the future. So I feel pretty good about our positioning there. I think the portfolio is performing quite well.

On a competition standpoint, Aviva continues to be aggressive on a pricing basis. I think over the long run we're well positioned to compete against those folks, as you will and as the field and the consumers will see stronger, more competitive renewal rates on our products because of our pricing structure and our approach to product design. So, I think we'll compete very well there, and our service continues to be the best in the market.

The other primary competitor, Allianz, they're aggressive in the market, but I think they've had enough issues outside of their general business that have kind of distracted them that has allowed us to compete very well against those folks. And we've seen some good producers coming to us from the Allianz side of the business.

I know 151A has caused a lot of distractions in the market. I think the good news is I don't think it's caused a huge amount of distractions from the producers, from the agents, and in even the NMOs. They're weighing their options, but from a practical standpoint, nothing's going to change on the products, in the sales of the products, until at least the late 2009 because of the way the SEC has outlined this with the 12-month grandfathering after they come out with a final regulation, if they come out with a final regulation.

So, I think that most of the folks realize that now is a great opportunity to get the products as they are out to the consumers. They may not get the opportunity in the future for the exact same type of product, and this is a real selling opportunity. So I think a lot of the agents are focused on that, and until there is a final rule, if there is a final rule, there isn't much that the agents themselves can do about the whole situation, other than lobby the congress people and the SEC to tell them that these products are valuable products, that they're good products for the consumers, and they are guaranteed insurance products.

A number of the NMOs already have broker-dealers, so the broker-dealers are out there, and they can accommodate registered products, if there is a need for registered products on a going forward basis. And from a strategic standpoint, I think where we're looking is really two roads. One is immediately as we move through the rest of this year and into next year is putting a little more focus on traditional fixed annuities. There's still a ton of traditional fixed annuities being sold in the market.

A lot of the agents we have out there will sell fixed products. Over a third of the business we've got today is going into a fixed interest rate, so I think there is a market for traditional fixed products. We're going to be introducing some new products as we go through the next number of months, and I think it really may be an opportunity to pick up some distribution that we don't have today, as well as accommodate those in the distribution that don't want to become registered reps and want to sell fixed, safe money annuities. So, I think there's going to be some great opportunities out there.

And from a product standpoint, I think it's important to remember that a traditional fixed annuity, we managed -- we do the spread management and the asset management on those products the same way we do index annuities, the exception being that we don't need to buy a hedge on the cash flow for the linkage of the interest rate to an index. It's just strait spread management. To some extent it's a little bit simpler process for us and probably a little less volatile in terms of spread management and earnings management, because we don't have volatility knocking option prices up for us.

So, I think there's some real great opportunities for us on the fixed side and maybe expand our production opportunities there. And then as the process comes down with the SEC, we obviously will be looking at what opportunities are available for a registered-type product, index product, how that model and distribution will come forward. But again, I think it may open up some distribution sources that we don't access today, so I think there may be some sales opportunities even if we need to register an index product out in the future that aren't out there. So, I think this is probably a real opportunity for us to expand some of our distribution options, maybe expand, diversify some of our products lines a little bit, and continue to grow American Equity.

So, I'm excited about the market. I think there's plenty of opportunities there. It looks to me like there's a good chance taxes are going up, and tax deferral will become a more important benefit for the consumer. So, we need to continue to push forward.

So, that's kind of the state of the market. I appreciate your time today. I'll turn the call over to Wendy and answer any of your questions later.

Thank you, Kevin, and good morning to everyone on the call.

I'd like to begin this morning speaking to the issue of spreads, which John commented on. We began to see improvements in our spreads in the first quarter, and that has continued steadily on into the second quarter of '08. Spreads have now reached 268 basis points for the first six months. On a standalone basis the quarter was at 276 basis points for the aggregate annuity business, so as John commented, returning to some of the very high levels of spreads that we saw in 2006.

That is largely driven by the reduction in the cost of money on our index business. '07, as you'll recall, was a year of very high volatility and increasing volatility throughout the year, which caused our option costs to increase despite rate cuts that we implemented several times during the year. In November and December of '07, we implemented our last rate cut which effectively got the products priced correctly for the level of volatility, and as a result of that, we began to see our cost of money reduce in the first quarter. And that trend continued on into the second quarter.

So, we reached an all-time high, I believe, of our index option costs and our cost of money on that business in the fourth quarter of 3.74%. It came down to 3.58% in the first quarter, and now in the second quarter it's at 3.45%, so a steady decrease. And we've been purchasing new option during the second quarter of '08 at approximately 3.2%, which should mean that as we continue through '08 the decreases that we've seen ought to continue to flow through and help us with improving spreads.

The spread on our index business broken out was 266 basis points for the six months, 275 basis points for the three months. We are seeing more and more policyholders put new premium and transfer existing premium into the fixed rate buckets within the products. As you'll recall, all the products we sell are multi-strategy products that give the policyholders an opportunity to allocate their premium among different interest crediting strategies, including index-linked strategies. But there is always a traditional fixed-rate strategy within the product, and that attracted approximately 37% of new premium in the first six months of this year, compared to 27% last year, which reflects the fact that with the great volatility in the market, the policyholders which are conservative savers looking for the protection of the guarantees and predictability have, in many cases, reallocated to the fixed strategies.

On our standalone annually adjustable fixed business, our spread on that for the six months was very strong at 291 basis points. That's consistent with where it was a year ago at 294 basis points. Kevin commented a little bit ago that as the world changes potentially with this SEC pronouncement one of the actions that we will take will be to refocus some of our time and energy on the traditional fixed-rate market, which we believe will remain in the unregistered and insurance product side of the line no matter what happens.

We feel very that index products are insurance products, but there is a long, long history of declared rate products being treated as insurance products, and there's no reason to think that would change. With spreads at 291 basis points, that's clearly an attractive sector of the market, and it wouldn't be the worst thing in the world from a profitability standpoint if a greater percentage of our overall business was in a fixed-rate product.

Our spreads were also helped by improvements in the yields on our invested assets. It was at 6.17% for the first six months, 6.20% for the three months, so the second quarter of '08 was a pretty significant improvement, both in terms of cost of money and in terms of overall yield. Our investment income was just over $202 million for the quarter. Invested assets for the six-month period have increased 4% to $13.2 billion at the end of June.

As John commented, the credit quality of our assets remains very high. We report every quarter that over 99% of our fixed-income securities are investment grade and that we have no subprime mortgage exposure. That remains true. As the market has become more turbulent over the last 12 months, the scrutiny on asset valuations has been extremely intense, and in the second quarter of '08 we elected to write down 20 different securities reflecting the fact that those securities had declined in value, their market value, over a period of several months. And the total gross amount of those write-downs was $34.4 million. However, there are offsets for both DAC and tax such that the net amount of those write-downs was $8.9 million.

Now these write-downs reflect valuation adjustments. We've realized no losses on sales or default of securities. We have reason to believe that those securities will recover their value or a significant portion of those values. However, we can't predict with any degree of certainty when that will happen. In using a conservative approach now to the accounting rules surrounding, other than temporary impairment, we made the decision to write these securities down.

We -- in view of a lot of the same issues, we expanded our watch list to include an additional group of securities. Our watch list now has a total value of securities of $157.5 million in amortized cost. The decline in value on that block of securities is $43 million. So, as you look at American Equity and its assets and look at the watch list securities, still a very, very small percentage of the overall. And as I've commented, we've incurred no realized loss on the sale of those securities and have some expectation that they will in fact recover in value.

As you look at our new money investing in the first quarter, we continue to invest at attractive yields. During the second quarter we put to use $1.26 billion of new money on new purchases of assets. That was at a rate of 6.66%. We did have significant calls during the second quarter, slightly over $1 billion of assets were called. Those came off at an average yield of 6.5%, so we're still investing new money at a rate that exceeds the yield on those called securities.

We did make new commercial mortgage loans during the second quarter of a little over $185 million. The yield on the mortgages was at 6.13%, so coming down slightly from where it's been over the last couple of quarters.

Asset durations, as you look to the available for sale securities and our commercial mortgages, which are the pool of securities which represent our liquid assets, was 6.5 years. That compares to a liability duration of 6.6 years. If you look at the entire portfolio, including our held maturity assets, the overall duration was 7.2 years, so still a very acceptable match of asset and liability durations within our assets.

A couple of items of note on our income statement -- you will see an increase in our DAC amortization for the second quarter. The DAC amortization expense was at $35.7 million, compared to $29.6 million in the first quarter of '08. Typically we see our DAC amortization increase each quarter by $1 to $2 million approximately representing the continuing growth and aging in the business. This quarter the amount of that expense was larger, and it's larger due to some adjustments made as part of an ongoing unlocking review of our DAC and deferred sales inducement assets.

Each quarter we look at our DAC model and compare the estimated account values and projected account values in that model to our actual experience. From time to time we take steps to true up those account balances which results in either an increase or decrease in amortization for the quarter. In this particular quarter the true up of account balances as to the DAC model was impacted principally by early issue years and discrepancies between estimated and actual account balances, resulting in an increase of $4.3 million in DAC amortization.

Deferred sales inducements, on the other hand, were positively affected by the unlocking process. That relates primarily to later issue years where the bonus products are more prevalent, and we had a $2.3 million decrease in amortization of our deferred sales inducements. The net impact of those two items on a pre-tax basis was approximately $2 million, $1.3 million after tax.

I'd like to comment as well on our other operating costs and expenses. You'll notice that they were basically level, when you look at the second quarter compared to the first, at $12.3 million. That reflects the fact that we did not have an increase in legal fees related to litigation during the second quarter. In fact, our legal expenses went down slightly during the quarter, and we had no material change in the costs and expenses that we booked for the settlement of our lawsuits earlier this year in Minnesota and Kentucky.

And while, we're speaking to litigation, I'll comment that our two remaining cases in California continue to plug along in the issues over class certification, and we are no closer, as we sit here today, to a resolution of those issues than we have been in prior quarters when we've spoken that point. There are timelines, those issues will continue to percolate along as the year goes along, but there's nothing to report of any substance on that currently.

Looking to benefits, cash benefits paid to policyholders and surrenders, we paid a total of $563 million in cash benefits to policyholders in the first six months of this year. That compared to a very similar amount, $548 million in the same period for '07. The majority of those payments are in penalty-free withdrawals, 10% penalty-free withdrawals paid to policyholders. A smaller amount represents surrenders subject to a surrender charge. During the first six months, $152 million out of the $560 represented surrenders subject to a surrender charge, up slightly compared to the same period last year where it was $144.5 million.

Product charge income for the second quarter was $11.8 million, compared to $11.5 a year ago, and down slightly from the first quarter of this year. The takeaway from all of that is that persistency is very good in the products, and we've seen a lower level of surrenders in '08 compared to prior years. And as you'll recall, our persistency has always been well within and better than our product pricing parameters.

Looking to total capitalization, we're at a total of $1.2 billion. It's been pretty steady there for some time. Book value continues to increase with the earnings in the business. Book value excluding the AOCL is at $12.77. With the AOCL it's at $11.12 so continue to work our book value up in recognition of the growth in the business and the growth in the earnings.

We had adjusted leverage ratio at the end of the quarter of 28.4%, so that continues to come down relative to where it was at the end of the year at 30.2%, and again, that's a reflection of continued earnings. And it's continued to tick down even with some of the draws that we've made on our line of credit to fund our share buyback program that we began last November.

And speaking to the share buyback, as you look to the whole period now that we've been running that program which began in November and has extended into July of this year, we've bought back a total of 3.2 million shares through July 25. The average cost has been $8.65. We have drawn down on our line of credit a total of $25 million at an average interest rate for the six months of 4.5%. That interest rate has been coming down over the course of the six months with new draws at lower rates of interest under our line of credit.

We've had a couple of opportunities to buy back portions of our convertible senior debt, which we've done in some relatively small amounts, but as you look to our total senior debt and our leverage ratios, one of the reasons that that hasn't increased with the draws on the line of credit is that we've also repurchased some of that senior convertible debt.

Our RBC ratio remains fine and good relative to the growth in our business. We're at approximately 380% at the end of this quarter. Of course, that's an estimate, because the calculation is really only a year-end calculation, so interim calculations reflect some annualizing and some estimating on our part. But the RBC ratio continues to be well above the 300% threshold that we look to maintain our A- rating.

Lastly, I'd like to comment on the SEC Proposed Rule 151A and give you an update of events that are occurring and steps that we are taking to address that issue. First of all, American Equity was in Washington last week to speak to a couple different sectors of the SEC. Those were positive meetings. It's a first step in a process. Our goal in during those meetings was to speak to the various areas of the release that we see as factually deficient and factually flawed, not at this point in time to try to make the legal arguments, which are numerous. But really some of the basic underpinnings of the release, we think, lack any support from actual data and perhaps reflect some continuing misperceptions about the products and the purchasers and the overall market.

Insurance Commissioner Voss of the state of Iowa has been a very strong leader in this area. She, too, has visited the SEC and is taking action to make sure that in the rule-making process at the SEC, that they give the appropriate weight to the numerous initiatives that the state insurance department, and particular the Iowa department have taken to ensure sales practices standards in the sales of annuities.

There are a number of different groups interested in this issue that are requesting an extension of the comment period, which is ongoing as we speak. Originally the comment period was to end September 10th. That is the current deadline. That's quite a tight deadline when you consider the fact that the SEC has been considering this issue for 10 years before announcing, really as a surprise to the industry, Proposed Rule 151A. So, we and a number of others are hopeful that the comment period will be extended so that this dramatic change that is potentially coming our way can be fully discussed and fully argued.

There seems to be general industry consensus around the rule that it is extremely broad and would represent a significant departure from existing securities law and its interpretation. There might be less consensus among the industry, including our competitors in the VA market, as to how to fix Rule 151A to make it something that we can all live with. But time will tell where those issues come out.

It is true that the new test in the proposed rule for determining what is a security and what is an insurance product has no precedence in the existing law and does represent a major departure. We continue to feel extremely strongly that the index products are closely aligned with declared rate products from the standpoint of the risk profile and the analysis of whether or not they ought to be legally treated as insurance products or securities products. And it remains our strong opinion that they are insurance products.

And with that, I'll turn it over to the operator for questions.

(OPERATOR INSTRUCTIONS). And your first question comes from the line of Ms. Randy Binner of FBR. Please proceed.

Thank you. Good morning, everyone. Wendy, you were very thorough in your comments, so you answered a lot of my questions already. Just quickly on housekeeping, you said you repurchased some convertible debt. How much of that is remaining?

Well, there is quite a bit remaining.

(multiple speakers) list under 230 million.

Yes, John said 230 million.

230 million out of 260.

Okay. And there's a potential accounting change relative to the convertible, right?

Yes, and that's a change that's been on the horizon for awhile, and it's how you deal with the conversion feature and whether or not you bifurcate that as an embedded derivative and flow the change in value of that embedded derivative through your income statement.

And that's going to be effective Jan. 1, '09. Is that correct?

I believe so.

Okay. Is there going to be comment from you guys on the details or a sensitivity analysis forthcoming or --?

We have started that work, Randy, and have determined that the implementation of that standard is a little more complex than, I guess, what I envisioned when I read it. So my initial thoughts were that perhaps we would have something in the second quarter queue that would be a response to that, but we do not have the conclusion as to what the right value would be at. So there will not be any guidance or indication of the quantification of the effect. There clearly will be, under the SEC requirements, a discussion of the fact that the new rule will go into effect and the terms and that, but we won't be able to provide any quantification at this time.

Okay.

Maybe later.

I would -- I mean, well, obviously we'll be targeting the third quarter. I would think that would be a reasonable period of time to have something done.

What's made it more complicated?

I thought the valuation concepts would be fairly simple, and we went to one of the accounting firms who is now our auditors and talked to them about it. And they came back to us with some considerations that were far more complex than what a simple reading of the rule led me to believe.

But it's still -- it's like a basic present value calculation, right?

There's a -- that's a key element of it, yes.

All right. This is probably better offline. Just one more question, and this may be a little bit broad, but I guess in Kevin and Wendy's comments it seems like there's a little bit more inclination to look at non-registered products. I mean they're performing well. The spreads are good. People are buying them, but I guess I'd like to hear comments, if you could, on what AEL maybe could look like as a non-registered insurer if this SEC change went through. And what I mean is between multiyear guarantees and fixed annuities and other more traditional products. I mean, would that be a potential future of the company that that would be enough product to satisfy what the agents and the end users are looking for in the areas that you focus on?

I'm not sure that there will ever been enough production out there. We always want more. I do think -- this isn't the first time the industry has gone through a change in product or the way products' mixes have been put together. So I do think that you can write a lot of traditional fixed annuity. Probably sitting here today it's hard for me to say, "Can we write $2 or $3 billion a year?" That I don't know, but I think that we can write a significant piece of that business.

And when you look at the conditions that are out there today, you have to look at the idea that taxes are probably going up, so tax deferral has more value. There are some tax law changes that are already passed as they relate to conversion of IRAs to Roth IRAs that may make our products more interesting to a consumer. And we sell to the safe money consumer. There's always going to be safe money consumers out there who don't want to lose money, so I think that there's always going to be a big market. And rather the product is a straight traditional fixed, a MIGA, a single premium life product. I think there's going to be lots of different things. There's a new regulation coming in under the pension protection act that has to do with combination annuity long-term care benefits on how you can use annuities to pay for some of those benefits.

So, there's lots of things out here that create great market opportunity for us at a time when the Baby Boomers are coming online and have to take care of their own pension plans, because they don't have defined benefit plans and are going to be looking for safe money. So I think there's a ton of opportunity out there, and then I think that, to me, those markets are out there and they're known. We just have to get more product out there and start working those markets hard, and I think we can write a ton of business there. And then I think you evaluate the opportunities for a registered product if the index annuity becomes a registered product, because you may able to pick up new forms of distribution. We don't sell through a lot of registered reps today, and we may able to pick up some opportunities there.

So, yeah, do we have work in front of us? Sure, we've got work in front of us, but that -- we always have work in front of us. We had work in front of us in 1996 when we had $34 million in assets and no agents and two products and no ratings. So, do we think that we can make it happen today with $17 billion of assets and $1 billion in capital and a publicly traded company with 50,000 agents, or in that neighborhood, and lots of -- a bigger audience to sell to? Absolutely.

So, I think there's plenty of opportunities out here. We just have to keep working forward. This is not the end of the world. You know, a third of the business today is going into what in fact is a fixed annuity, a traditional fixed annuity with an interest.

Yes.

Yes, but we haven't credited an indexed interest rate for all practical purposes all year, so nobody -- we're not selling a lot of these products today on indexed interest rate returns.

That's interesting. So a couple quick follow ups. What's the rough commission? Is there a different commission that the agent would get versus -- if they could sell the same person a fixed annuity versus an indexed annuity, and I don't --?

No, they're virtually --

-- they're multiyear guaranteed. I mean, is there a big difference in the commission for that?

No. No, the products are going to be, from a compensation standpoint, very similar. I can see products with similar bonuses. The spread management, and we've said this for years, between a fixed product and an index product really is the same process. I would say from the financials people point of view, the fixed products might be a little easier because you don't have the volatility in the option costs like we had to face last year in '07. You can be a little steadier with traditional fixed rates' spreads. So, there really, I don't think, would be a huge difference there.

Now in the MIGA market it would be a little different. You're generally looking at much lower compensation structures, but I don't think that you're going to see major pricing differences on that side.

One last question, you mentioned the long-term care wrap-in, for lack of a better term product. Is that something you all are seriously looking at?

We're just looking at it. I mean, anytime that the word annuity shows up in these laws, I think we have to take a hard look at it. So, we've got to understand the laws and understand what's going on out there, and then we'll make a decision as to whether we think that there's something that needs to be done. I guess the point I was trying to make is there's lots of law changes going into effect out there all the time, and every time something happens, whether it's a regulation change like the SEC or a tax law change, we've got to evaluate the opportunity and try to take advantage of it for American Equity and our shareholders and providing good quality products to our consumers.

So, we're evaluating all the various issues that are out there, but we want to understand those issues. We don't want to assume a bunch of additional risk that we don't understand. So we're going to evaluate it and make decisions, and you guys will know when we make decisions.

Great. Thank you very much.

And your next question comes from the line of Mr. Steven Schwartz of Raymond James.

Hi, everybody. I'll ask a few and then get back in line. Is Bryan there by any chance?

Not in the room, no.

Okay, Wendy or John, do you have, on the alt-A that you all bought, do you have any sense of what's going on with the subordination there? Has it been building? How has that been performing?

I don't have any specifics, no, Steven. I wouldn't anticipate there's been any deviation from the comments that Bryan made on the investor day in New York, though.

Okay, all right. I just wanted to make sure. Wendy, looking at the 151A, the process, assuming that it doesn't get -- the comment period doesn't get extended, is there some -- I don't know what you call it. Is there some rule? The staff has to come back after looking at the comments, right, and I guess propose the rule again, I guess maybe with some changes, maybe without any? After September 10th is there some time period where they must act, the staff as opposed to the board of governors?

No, there's no timeframe that I'm -- no deadline that I'm aware within which they much act. They can take as much or as little time as they want to look at the rule and decide if they're going to make changes to it, withdraw it, or leave it as it is.

Okay, and then just sticking on the 151A issue, you all have a broker-dealer. I know that.

We do.

What have you been, if anything since this raised its ugly head, what have you been doing with the broker-dealer? And it was also mentioned -- I'm going a little bit farther than I wanted to. It was mentioned that some of the broker-dealer -- some of the NMOs themselves own broker dealers. I was wondering if, Kevin, maybe you knew how many did, and does it make sense to maybe acquire some of these NMOs that have broker-dealers?

That's a lot of questions, Steve.

Yeah, I didn't mean to go that far, but they all just followed. Sorry.

Let me start with what we're doing with our own broker-dealer. Even before the proposed rule came out, we had begun taking steps to make our broker-dealer operational and to expand its ability to market a registered product. Even before Rule 151 came out it was our intention to be able to market a registered product to continue to look to diversification of our distribution channels and of our products. And so we've made some significant hiring decisions in our broker-dealer, and so we've got staff there now, very experienced people who are very capable of helping us take the broker dealer to the next level.

In addition to that, we've been reaching out to some outside resources, outside consultants to help us take the steps that we need to take to, A, work with the agents and assist them in getting their securities license, if that's the direction they want to go, and to assist us in getting the infrastructure of our broker-dealer to the point where we could adequately supervise the business coming to our broker-dealer if we had a number of our agents who wanted to become associated as registered reps with our broker-dealer.

In addition to that, part of that project would be reaching out to broker-dealers where the agents may have already become associated as registered reps to enter into selling agreements and to open up that channel. That's a ton of work. It doesn't happen overnight, but all those steps are in motion to be able to sell into the broker-dealer channel. As I said, we want to be able to do that regardless of whether 151A becomes a final rule.

Okay.

Steven, I actually had, this week when I was on the road, the lady we've hired into the broker-dealer, or the most experienced, she went with me this week. We were out talking to NMOs, and a range of NMOS, from those that didn't have a broker-dealer and really had no specific relationship to a couple of them who had broker-dealers and others who were looking at buying broker-dealers. So, we're working to get an understanding of how they view this thing, how they're going to move forward.

I guess one comment I would make is probably it's doubtful that we would purchase a marketing company at this point to -- in order to get their -- a broker-dealer. That's never been our culture to own the marketing companies and be in competition with our other marketing companies. And I've heard some public -- or I've heard some comments. I haven't seen, I guess, maybe in writing, but Allianz owned a bunch of those deals and they weren't quite as excited about it maybe as they used to be.

Okay, all right. I appreciate it. I'll get back in line.

And your next question comes from the line of Miss Beth Malone of KeyBanc.

Thank you. Good morning, and congratulations.

Thanks, Beth.

Thanks.

Just a couple questions. On -- when you talk about the market for equity index annuities, those products are popular because of their bonuses, the commission structure, and the guarantee. And isn't it possible to create an annuity product that doesn't need to be registered that has all those features. And why is it that to date the popularity of EI -- of those equity index products has allowed them to grow at a much faster rate than a fixed annuity product. I mean, you have the option of selling fixed annuities and you choose not to aggressively pursue them as much as you do the equity index. And so could you just explain why there isn't a relatively easy workaround as long as you meet the need of this agency force you have and the customer?

All right, well, let me put a couple things of things in perspective, and then I think maybe Kevin will have some comments here, too. But you know, the indexed annuity market, while it's been the most rapidly growing sector of the market, represents today about 10% of the overall. So it's still true that the traditional fixed-rate is a much larger market than the indexed annuity segment. When you look at our current product, and I can't speak to other companies that are marketing these products, but our products do have a fixed-rate strategy within them. So, there's no need -- there was no need to create a separate standalone product with the bonuses and some of the characteristics that make those products popular, because a person who wanted to put 100% of their premium into a fixed-rate strategy could clearly do that within our index product form, and large numbers of policyholders are doing that as we commented.

So, there just hasn't been the need to do that, and yes, I do think that we can enhance our traditional fixed-rate products in a number of ways that incorporate a lot of the features of our index products without an interest -- an index interest feature that would help us be successful in selling that product into the market.

Yes, Beth, I think you're exactly right. We can develop a traditional fixed product with bonuses. We've had some indication from reinsurers that they're interested and they think that the income -- or, yeah, the income rider is a concept that's doable on a traditional fixed product, because they look at the index products like a traditional fixed product when they're pricing for the benefits of those income riders. Our compensation would be very similar. You know, I think the appeal of the index product would have been when interest rates were low, as the opportunity had a little better interest rate.

But on the other side of it, I think the real issue will be, for a lot of consumers and a lot of agents is they don't want to lose money. I think if -- so I just think that you're exactly right. I think there's a lot of traditional fixed product that will be sold. I think you will see a lot of agents who probably will go back to selling traditional fixed products. If you remember, there was no index market prior to 1995. What they sold was traditional fixed products, and we sold a lot of it back them. Some of the agents will get registered. I would suspect that some of them will get registered and decide at some point they want to go back to selling a traditional fixed product.

So, it's going to be a mix, and I think that this may allow to access some agent who today wouldn't sell an index product, even though it could be used as a traditional fixed product, because they felt it was more complicated than they wanted to deal with. So I think maybe we can expand our field force on the traditional side. And on the index side we may be able to open up some new markets there. So I don't think that -- yeah, do we like this? Absolutely not. Do with think it's wrong? Absolutely. Do we think that's it's going to hinder competition and choices for the consumer? Absolutely.

Regulating away competition isn't right, and I don't think it's fair to the consumer not to have access to these products, because these products bring great value, and they've shown that they bring great value for the last 12, 15 years. But if it happens, there's still going to be plenty of agents and plenty of policyholders that want safety, and we can accommodate that market and then look to accommodate the registered market. I mean, we don't know what those products will look like if they've got to be registered at this point. So, we don't know exactly where that market will be, but we can certainly accommodate it and expand our distribution.

Okay, and then do you anticipate that because of this looming 18 months from now, the products, everybody's going to have to be registered potentially, that there will be a surge of sales as these guys who don't want to get registered try to get as much business in the door as they can, and then as soon as that registered date comes, then that business completely falls off?

Could there be a surge of sales? Sure, there could be a surge of sales. I think that there is value in getting the -- making the purchase today. These are flex premium products. Once you own it, you can add money to it. So potentially there's a surge of sales. In terms of is there a drop off of sales, we're going to do everything we can by developing new traditional products to make sure that that doesn't happen. And I always go back to the fact that even though from time to time circumstances cause short-term blips in product, producers still have got to make a living. They've got to service customers, so for the most part, those things don't last too long, because the guys have got to get back to running their by in some format.

So, I would not anticipate that if the fact that there is a surge that that's going to be the end. And I do think that some of the things that are coming in 2010, the Roth IRA conversion opportunity and some of those things that are out there, if this comes at the end of 2009, there's some things that are going to happen in the tax law changes that are already in place for January 1 of 2010 that probably are going to create some marketing opportunities that may cause a surge in new sales at that point.

Okay. All right, thank you.

And your next question comes from the line of Bill Dezellem of Titan Capital Management.

Just to follow up on the last question before I get to some others. If by chance the rule was to go through as stated, and if in fact you were to not have any broker-dealer options, would it be fair, just in terms of understanding your business model, that the current earnings power or the earnings power a year from now, that that would still be in existence? You would still continue to grow assuming you sold the one-third of the level of production that you currently do, that being those are in the fixed option. And so you would have the same earnings power with the existing assets. It's just that your rate of growth would be slower. Is that a fair way to think about it if nothing else were to change other than this rule going into place?

I do think that that is the most conservative case, that yes, we would continue to grow and be measured by the current rate of assets going into fixed-rate strategies. It might be a slower level of growth. As Kevin points out, there are other opportunities, so it's hard to predict what would happen with the rate of growth. But we would expect in a worst-case scenario that we could continue to grow, even if at a slower rate.

Okay. Thank you for allowing me to think in a vacuum there for a moment. Relative to the SEC's Final Rule, you have referenced a couple times on the call here that if the SEC does make the ruling final or does come out with a final ruling, what is the chance that they will not do that?

Well, it's hard to say, but I mean, just speaking as a lawyer and as an advocate, I mean, we think that the chances are good that the rule will look significantly different than it looks today as originally published. The rule appears to have been put together and announced on a very rapid basis without perhaps complete and thorough analysis of its potential scope and reach. It appears to be broad enough to cover products that I don't believe the SEC intended to cover with it, and that's going to have the whole industry responding negatively to the rule.

So, I believe it's true that there have been hundreds of comments filed on the SEC website already, and we're only partway through the comment period. So there has been a large reaction out there. There are a number of different groups that are lining up to oppose the rule for various reasons, and I, personally, just my opinion, I think it's very unlikely that the final rule, if they adopt a final rule, will look like it looks today.

And are there any consumer advocacy-type groups that are lining up against the rule at this point?

I am not personally aware of any. I haven't gone through the whole list of comments to see everybody who's weighed in, and so I can't answer that.

Well, if the agents are lining up against it, then to some extent that's a consumer, and certainly those folks are voters back in the congressional district, and you're going to have the insurance commissioners hopefully are going to take a strong position. So, there's going to be people not happy. There are people not happy, and it's going to be a significant group.

Thank you, and then switching to an entirely different topic. In the release, I believe that you made reference to the fact that you were making loans at a rate of about 6.13%, and you bought bonds, I believe, in the quarter at about 6.66%. And so would you please help me understand as a layman here why you would make any loans at the 6.1% when you can take the much simpler process of going and buying bonds at roughly 6.7%?

Well, to put this in perspective, the bonds we purchased were $1.2 billion, and the mortgage loans, commercial mortgage loans we made were $185 million, so a much small percentage of new invested assets during the quarter. And I think the short answer to your question is we are committed to diversifying our asset base. The commercial mortgage loans have a very good opportunity to do that in a way that is consistent both with our credit quality standards, as well as in looking at durations and cash flow profiles of the asset.

So if we could -- I think that if we could put all of our assets into U.S. agency bonds and high quality corporate bonds that we would do that. However, there is a strong school of thought out there that diversification is a wise approach. And as our business continues to mature and the liquidity profile of our business continues to change with that maturing, we need to have a diversified asset base.

Okay, is there any indication, just given the yields on the bonds, that you should or could be raising the raising the interest rate on your new commercial loans?

Well, that's kind of driven by competition in the market for the borrowers we're looking to. We have pretty stringent underwriting standards for the commercial mortgage loans, which we've spoken to in the past, so we're not out there seeking to make higher yield loans to borrowers who don't have the kind of credit support and credit history that we look to. So, we'll make loans at the best rates that are available to us, but largely that's driven by competition in the market and the level of interest rates generally in the economy.

Great, thank you, and then finally an entirely different topic, the share repurchase program, what did you repurchase since the June 27th resumption of the repurchase program?

We purchased before the end of June about 240,000 shares, and then during July we had a 12B-1 plan that allowed us to purchase during our blackout period. And we purchased approximately 723,000 shares in the month of July.

Great. Thank you for the time.

Your next question comes from the line of Mr. [Paul Stern] of [FPK].

Just a couple questions on the broker-dealer SEC rule change and then one on pricing. On the broker-dealer I just wanted to ask do you have any concept of on the incremental cost with getting it up and running, staffing, and hiring consultants, etc.?

We're still getting together our budget for that. We've hired two senior people and have a support person who's part of that effort now, so that is the staff of the broker dealer today who are working with the consulting group. And part of what we're working with them on is getting our arms around an appropriate budget and the cost, so we'll have more specific information on that point next quarter. But if I were to try to ballpark it this morning, I don't think I could do it with enough accuracy to give you any meaningful information.

Okay, and then just do you have any ideas about the timeline of getting that up and running, or is that still too soon to call? Kind of if the rule goes into effect at kind of the 18-month mark, would it be up and running by then kind of full steam or still getting geared up?

18 months is an adequate period. We've been listening to others. We've been advised of time periods of as little as four months, which I think is incredibly aggressive. I doubt that we could get it done in four months, but I think in 12 months we can.

Okay, and then one question just on the repricings. What's your outlook going forward? You said kind of fourth quarter '07 you priced to that level of volatility. Now that it's come back in a little bit, have you overshot, or are you remaining cautious on maybe raising rates going forward?

Well, you know, we were having thoughts along those lines in May when the volatility was reaching lower levels and option costs were very, very low. With the last four weeks in increasing volatility and seeing it come back into the low 20s, I think we want to be very cautious before we make the decision to move rates back up again. So, really we're in more of a wait and see mode to see what's going to happen with the market and if volatility is going to continue to move back up.

We did raise two of the new money rates in early June --

It's new money.

New money, right, which is obviously a very small portion or a much smaller portion in the overall book, and those were rather slight or gradual increases. And the option costs on those are not out of line with where we need to be, even at the higher level of volatility that we've had recently.

Yes, those moves were fairly small. I mean, we did it with the idea that if volatility stayed down, we may have anticipated another move but also with the idea that if volatility went up, which it has done, then we wouldn't have to turn right around and lower rates. So we're trying to do it in a cautious way, so I think you guys would agree we're in pretty good shape at this point.

Yes.

Right.

Okay, thanks.

And your final question comes from the line of Mr. [Greg Eisen] of [Case ICM Asset Management].

Is there any reason why you don't put them on your watch list since, if you've written them down once, shouldn't they be at risk? I think this is my way of looking at it.

Well the securities are now on our books at a value that reflects their value in this environment and the declines that have already occurred. The only reason to put them on our watch list is if we anticipated significant additional erosion in value. And having scrutinized each of those 20 securities very carefully, we don't, at this point, think that we will see a continued erosion in their value. If we do, they'll go back on the watch list.

Okay. Regarding what's on the watch list, are you able to tell us what the bond rating is, rating agency rating on the amounts on that watch list? For instance, does that include the entire amount that's at CAA, for example?

Hang on a minute. We're looking.

That question, when you say the entire amount, without spending a little time to see, I couldn't tell you for sure. There is a security in the list that is rated CAA. Whether that's all of our securities with that rating, I don't know.

Okay. I'm just suggesting that maybe for future disclosure, if you show the lumping of the ratings of what's on the watch list, not necessarily by each individual security, but the of the 157, 10% is at this rating, 50% is at that rating, that kind of.

Sure. That's -- we'll take that under advisement. That's a good suggestion.

Okay, that's all I had. Thank you.

There are no further questions. I would now like to turn the call back over to Julie for final remarks.

Thank you for your interest in American Equity and for participating in today's call. Should you have any follow up questions, please feel free to contact us.

Ladies and gentlemen, that concludes the presentation. Thank you for your participation. You may now disconnect. Have a great day.