California Code of Regulations › Title 10 - Investment › Chapter 5 - Insurance Commissioner › Subchapter 3 - Insurers › Article 11.3 - Mutual Fund Investments in Variable Products › Section 2534.44 - Factors Determining the Existence of Hazardous Operations

Current through Register 2024 Notice Reg. No. 28, July 12, 2024
(a) When a variable
				  annuity is utilized for retirement purposes, it shall be deemed that the
				  prospective purchaser or contract holder holds the viewpoints and expectations
				  of a reasonably prudent investor. The reasonably prudent investor generally
				  does not participate in highly speculative investments, but does have
				  expectations of a reasonable rate of return on his or her investment. Over the
				  long term, such an investor expects to see moderate growth in his or her
				  investment, over a time frame consistent with his or her retirement plans and
				  taking into account his or her ability to make appropriate investment strategy
				  changes as conditions and expectations change over time.
(b) However, the types of investments and
				  degrees of investment risks appropriate for a reasonably prudent investor
				  should be determined in light of the specific situation and characteristics of
				  a given individual. Factors to be considered include the individual's age,
				  wealth, other investments, dependents and financial obligations, long term
				  financial prospects, lifestyle preferences, and tolerance of risk.
(c) In addition, brokers and agents selling
				  variable products must comply with suitability standards. Such standards
				  obligate the broker or agent to make certain that there are reasonable grounds
				  for believing that a variable contract recommended to a customer is suitable
				  for that customer. It is expected that due diligence will be given to the
				  consideration of suitability by brokers and agents licensed to sell variable
				  contracts in California.
(d) A
				  variable annuity shall be considered to have hazardous operations when the
				  variable annuity contract, viewed as a whole, and from the viewpoint of a
				  reasonably prudent investor, is so risky an investment that it seriously
				  jeopardizes the retirement expectations of the investor. If the investor's
				  reasonable retirement expectations are in jeopardy of remaining substantially
				  unfulfilled, the presumption could arise that the contact is
				  hazardous.
(e) A variable life
				  insurance contract shall be considered to have hazardous operations when the
				  variable life insurance contract, viewed as a whole, and from the viewpoint of
				  a reasonably prudent investor, contains risky investment options which the
				  Commissioner deems excessive. In addition, such options jeopardize the
				  realization of a fair, investment return, over a long period of time. Where the
				  insurer informs the investor of a significant number of risks and uses an
				  unusually large number of caveats in its explanation of the policy and its
				  investment options, a presumption shall arise that the policy is
				  hazardous.
(f) To the extent that
				  an insurer's financial condition, or methods of operation, places the
				  reasonable prudent investor in jeopardy of having his or her investment
				  expectations substantially unfulfilled, that financial condition or business
				  operation shall be presumed to involve hazardous operations.
(g) The presence of the following factors may
				  raise a presumption that hazardous operations are involved in a variable
				  product, fund or subaccount.
(1) Operations
				  are delegated to a third party that is not a lawfully licensed agent of the
				  company.
(2) The name of the
				  subaccount is deceptive.
(3) The
				  investment restrictions of the subaccount permit it to invest more than 20% of
				  its assets in bonds rated less than investment grade, by a bond-rating agency
				  such as Moody's or Standard and Poors. Such an investment will not be permitted
				  unless the subaccount specifically identifies and discloses the nature of the
				  investment and the attendant risks associated with it.
(4) The investment restrictions of the
				  subaccount permit borrowings to reach a level greater than 33 1/3% of its total
				  assets.
(5) The investment
				  restrictions of the subaccount permit it to hedge by purchasing put and call
				  options, futures contracts, or derivative instruments on securities in an
				  aggregate amount equivalent to more than 10% of its total assets.
(6) The investment adviser or subadviser does
				  not possess sufficient investment experience in order to render reliable
				  investment advice. Advisers must be of good professional character and in good
				  standing with the securities licensing authorities having jurisdiction over
				  them.
(7) The portfolio turnover
				  rate is excessive in relation to the investment goals of the subaccount. A high
				  portfolio turnover rate shall not be considered excessive if it is consistent
				  with the investment objectives of the portfolio or subaccount.
(8) An index subaccount must substantially
				  mirror the stock index upon which it is based.
(9) References to rating services, such as
				  A.M. Best, in advertising must explain the nature and purpose of the rating.
				  The reference must clearly indicate that the rating does not apply to the
				  insurer's Separate Account(s).
(10)
				  Hazardous operations may exist if the entire assets of the Separate Account are
				  composed wholly, or in very large part, of investments in other Separate
				  Accounts, not under the direct control of the insurer. In such situations,
				  hazard will exist if the liquidity of the Separate Account is
				  impaired.
(11) Hazardous operations
				  may exist if investments are made directly in gold and/or silver bullion which,
				  when combined, exceed 10% of the assets of the underlying subaccount.
(12) Hazardous operations may exist in
				  non-income producing real estate. Such investments will be presumed
				  speculative.
Concerning International and Global Portfolios or
					 Subaccounts:
(13) Such
				  subaccounts must be sufficiently diversified. Diversification requires that
				  investments must be made in a minimum of three different countries at all
				  times. The subaccount must not invest more than 50% of its assets in any second
				  tier country or more than 25% of its assets in any third tier country. First
				  tier countries are defined as Germany, the United Kingdom, Japan, the United
				  States, France, Canada, and Australia. Second tier countries are all countries
				  not in the first or third tier. Third tier countries are defined as countries
				  identified as "emerging" or "developing" by the International Bank for
				  Reconstruction and Development (also known as the "World Bank") or the
				  International Finance Corporation.
(14) Regional subaccounts must be invested in
				  a minimum of three countries and the name of the subaccount must accurately
				  describe the subaccount. Similarly, a subaccount that uses the name of a single
				  country to describe it must make substantial investments in that country and
				  the name of the subaccount must accurately describe the nature of the
				  subaccount.