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Great-West Lifeco Inc
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Good afternoon, and welcome to Great-West Lifeco's Fourth Quarter 2018 Results Conference Call. I would now like to turn the call over to Mr. Paul Mahon, President and Chief Executive Officer of Great-West Lifeco. Please go ahead, Mr. Mahon.
Thank you, Michael. Good afternoon, and welcome to Great-West Lifeco's Fourth Quarter 2018 Conference Call. With me on the call today are Garry MacNicholas, Executive Vice President and Chief Financial Officer; Jeff Macoun, President and Chief Operating Officer, Canada; Bob Reynolds, President and Chief Executive Officer of Great-West Lifeco U.S.; and Arshil Jamal, President and Chief Operating Officer, Europe. Before we begin our review of the results, I'd like to take a moment to congratulate Ed Murphy on his appointment to President and Chief Executive Officer of Great-West Life & Annuity. You all know Ed from his role as President of Empower Retirement, a position he has held since 2014. Ed will now assume leadership of all Great-West Life & Annuity, which includes Empower Retirement and Great-West Investments. Concurrent with this announcement, Bob Reynolds will assume the role of Chair of Great-West Lifeco U.S. and maintain his role as President and CEO of Putnam. Before we start, I'll draw your attention to our cautionary notes regarding forward-looking information and non-IFRS financial measures on Slide 2. These cautionary notes will apply to today's discussion as well as to the presentation material. I'm going to provide an overview of Lifeco's fourth quarter and full year 2018 results including highlights from our Canadian, U.S. and European businesses. Garry will then take you through a more detailed financial review. And after our prepared remarks, we'll open the line for questions. So I'll now invite you to turn to Slide 4. The company reported adjusted earnings of $3 billion in 2018, up 14% year-over-year. Excluding hurricane losses in the third quarter last year, adjusted earnings were up 7%. I'm pleased with this earnings performance, which reflects growth in our Canadian, U.S. and European segments. Turning to the fourth quarter. The company reported earnings of $710 million, down 3% year-over-year on an adjusted basis. While our underlying business operations performed well, equity market declines in the final quarter of the year reduced earnings by $72 million after tax. The company entered 2019 with a very strong capital position. Lifeco cash was $1 billion at the end of 2018 and our LICAT ratio, which doesn't include Lifeco cash, was 140%, well above our internal target range of 110% to 120%. You'll note there was a 6-point increase in the LICAT ratio from the prior quarter. Garry will discuss the factors contributing to the increase during his presentation. This strong capital position will be further bolstered by $1.6 billion of deployable proceeds after we close the sale of our U.S. life and annuity business. The decision to sell the business, which contributed approximately 4.5% of Lifeco earnings in 2018, was not undertaken to free up capital to fund another transaction. We already have plenty of capital to act on potential M&A opportunities. Rather, this sale followed the strategic review where we looked at the growth and returns across our global portfolio. This same review led to a similar action last summer when we announced the sale of a heritage block in the U.K. A significant part of the U.S. business we're selling comprised closed blocks, which hampered growth, while the overall returns of the open businesses were below our targets. We concluded that the capital backing these businesses would be better redeployed into strategic growth opportunities or return to shareholders. The sale also allows us to focus on the retirement and asset management markets in the U.S. In view of our strong capital position, we are actively considering M&A opportunities to drive growth and long-term value. I would also reiterate that we're considering other capital management actions to mitigate the earnings impact from the sale of our U.S. business. We're also pleased to announce that our board approved a 6% increase in our common dividend, making this our fifth consecutive year of dividend increases. So turning to Slide 5. As noted, net earnings this quarter were $710 million, down 3% year-over-year on an adjusted basis, and again, that included a $72 million after-tax negative impact of equity market declines. The Canadian segment reported earnings of $310 million, down 13% year-over-year, reflecting higher expenses in addition to the negative market impacts. I will comment further on the factors driving higher expenses later in the presentation. Moving to the U.S. Earnings of $55 million were down 27% year-over-year, and while growth in Empower and lower taxes helped earnings, Putnam was especially impacted by the sharp drop in equity markets in the quarter, which led to lower performance fees and losses on seed capital. While the bounce back in markets bodes well going forward, we're looking to take further cost actions at Putnam. In Europe, earnings increased 13% year-over-year with solid performances across geographies and in reinsurance. Our property-related exposures and provisions in the U.K. were largely unchanged from the prior quarter. We continue to closely monitor the portfolio and are confident of its fundamentals -- that our fundamentals remain strong. Turning to Slide 6. Overall sales for Lifeco increased 37% year-over-year with strong growth in the U.S. and the U.K., partly offsite -- offset by softer results in Canada and Ireland. Canadian sales were down 9% from the prior year, but higher than the prior quarter, with good momentum and individual insurance sales. Lower year-over-year wealth sales were attributable to lower group investment-only and bulk annuity sales, which can both be lumpy, and lower individual segment sales. U.S. sales were up 67%. Empower sales increased 76% due to higher large plan sales while sales at Putnam were up 53%. For the year, Putnam had mutual fund net inflows of $2.4 billion. Turning to Europe. Sales decreased 18%, primarily due to lower sub-advisory fund and bulk annuity sales in Ireland. Equity release mortgages, a product that we acquired with the Retirement Advantage acquisition last January, contributed positively to sales growth in the U.K. And turning to Slide 7. Fee income for Lifeco declined 1% from the prior year and 4% sequentially due to the sharp drop in equity markets during the fourth quarter, which impacted AUM levels in all segments. Canada's fee income was down 2% year-over-year, primarily due to lower average assets. In the U.S., fee income was up 1% year-over-year, but down 4% from the prior quarter, reflecting lower average assets at Putnam. Fees were relatively flat in Empower year-over-year, but down sequentially due to lower average markets, partly offset by growth in participants. And in Europe, fee income declined 5% year-over-year, driven by lower other income at Irish Life Health. Referring to Slide 8. Lifeco adjusted expenses, excluding restructuring charges, increased 7% year-over-year or 5% in constant currency. In Canada, expenses were up 15%. 5% of this growth reflects costs associated with the closure of a historic legal matter and another 3% was attributable to the Guggenheim and EverWest real estate acquisitions in the U.S. Of the remaining 7%, our BAU expenses, including inflation and growth, were down 1% as we closed out the transformation savings program. The balance, an 8% increase, was due to strategic investments that largely began in 2018. Canada's strategic investments include digital labs to deliver innovation, improved service and lower costs. Simple Protect, our new online application for term life, is being used by our Freedom 55 and WISE advisers and will roll out to other adviser channels in the next few months. The average time to complete an application is 20 minutes and about 1/4 of the applications receive instant approval. This innovation and innovative new product lowers costs while improving customer and adviser service. We plan to expand Simple Protect to more products in the future. We've also launched the pilot for our new Group Life and Health e-enrollment, with a national release plan for the first half of 2019. E-enrollment allows plan members to enroll online and, in many cases, activate their benefits on the same day. This new digital process removes an administrative burden from the employers and lowers costs. Other labs are in progress and we'll update you in future quarters. As expenses remain elevated in Canada, we're working hard to moderate the level of growth and are confident the investments we're making will drive higher revenues and efficiencies over the medium term. Moving to the U.S. Adjusted expenses were down 1%, 5% in constant currency, with modestly lower expenses at both Putnam and Empower. In Europe, adjusted expenses increased 9%, mainly due to the acquisition of Retirement Advantage and the Invesco Ireland acquisition last year as well as the strategic -- as well as strategic investments related to our U.K. business transformation. I'm now going to turn the call over to Garry.
Thank you, Paul. Starting with Slide 10. Net earnings in the third quarter were $710 million or $0.72 per share, a decrease of 3% year-over-year on an adjusted basis. The negative impact of lower equity markets, which affected all segments, equated to $0.07 per share. In Canada, earnings were down 13% on an adjusted basis due to higher expenses, which Paul addressed earlier, and the negative impact of equity market declines. In the U.S., earnings were down 27% on an adjusted basis. Putnam's results were impacted by the sharp drop in equity markets in the quarter, which led to lower fees and mark-to-market losses on seed capital. Empower earnings were up 7% year-over-year, with strong growth in participants, now at $8.8 million, partly offset by the negative market impacts. Europe's adjusted earnings were up 13%, driven by business growth across all regions and reinsurance as well as lower taxes. Please turn to Slide 11. This table shows the segment and total Lifeco results from a source of earnings perspective. And as a reminder, the source of earnings categories above the line are shown pretax. Fourth quarter results reflected solid expected profit growth and a contribution from management actions and changes in assumptions, partly offset by losses related to market declines. These losses are spread across several source of earnings categories and I'll call these out as I go. Expected profit increased 6% or $41 million, driven by business growth in all segments, increased margins in Group Life and Health in Canada and positive currency movements. New business strain reflected higher individual term sales in Canada. We've also recognized further gains on the U.K. bulk annuity sales that closed in Q3, following good progress on the purchase of permanent assets to back these liabilities. Experience losses were $19 million in the quarter. On this line, losses related to equity market declines contributed $68 million, and remember that's pretax. This, plus expense variances and policyholder behavior, were largely offset by trading gains and favorable morbidity and mortality experience. Management actions and changes in assumptions contributed $105 million this quarter, primarily due to the updated economic assumptions and Paul told, and behavior assumptions in individual insurance in Canada. These positive impacts were dampened by a strengthening of actuarial reserves as a result of equity market declines. Earnings on surplus of negative $3 million reflect -- primarily reflect losses on the seed capital of Putnam, which were $19 million negative. In total, adjusted earnings before tax of $817 million were down 11% year-over-year. The effective tax rate on shareholder earnings of 9% compares to 16% in the fourth quarter last year. This quarter benefited from approximately $30 million of U.K. tax recoveries following the market declines. And it's important to note the $72 million of after-tax negative impact for markets quoted earlier includes the benefit of this tax item. Turning to Slide 12. This table shows the segment and total Lifeco results from a source of earnings perspective for the full year 2018. Lifeco's expected profit of $2.9 billion in 2018 was up 9% year-over-year. The drivers were consistent with those in the fourth quarter: strong and profitable business growth in all segments, increased margins in Group Life and Health in Canada and positive currency movements. Strain of $195 million in 2018 compares to an unusually low level strain last year when there was high positive contribution for large longevity swaps and annuity sales in the Europe and reinsurance segment. Experience gains of $103 million in 2018 were lower than 2017. Trading gains and investment experience were positive contributors, though lower than in 2017. Higher expenses, the negative impact of lower markets on fees and negative policyholder behavior experience is partly offset by favorable morbidity and mortality experience. Management actions and changes in assumptions were $717 million compared to $359 million last year. The biggest contributors were updates to U.K. annuity and longevity assumptions, which we have commented on throughout the year, as well as economic assumptions noted earlier. Earnings on surplus is $90 million this year or $94 million higher than 2017, primarily due to the positive impact of a U.S. debt refinancing in the second quarter this year. In total, adjusted earnings before tax of $3.6 billion for 2018 were up 11% from the prior year. The effective tax rate on shareholder earnings of 13% compares to 15% last year. Total adjusted net earnings were $3 billion, up 14% year-over-year or 7% if we exclude from 2017 last year's hurricane losses. Turning to Slide 13. Lifeco's uncommitted cash position was strong at $1 billion. This is not included in the Great-West Life LICAT ratio, but would be equivalent to about 5% on the ratio. Our book value per share was $22.08, up 10% year-over-year, driven primarily by retained earnings growth and favorable currency translation. As Paul noted, our LICAT ratio was 140%, a 6-point increase over last quarter. There were several positive factors, including growth in retained earnings, currency benefits and a reduction in Empower requirements. As a reminder, the return on equity calculation is based on rolling 4 quarters. Adjusted return on equity is 14.3% in the quarter, and we continue to target a longer-term ROE of at least 15%. Reported ROE of 14% reflects the U.K. restructuring charges taken in the third quarter. Turning to Slide 14. Assets under administration were $1.4 trillion, up $49 billion or 4% year-over-year, driven by market performance and overall business growth. That concludes my formal remarks, Paul.
Thanks, Garry. And I think we'll give your voice a slight break and I'll add a little color for a moment. Because I'm sure there will be some questions, we'll come back to you. So I'll ask listeners to turn to Slide 15. Before we open the line for questions, I'd like to share my outlook on the year ahead. As we discussed when we entered 2019, we entered 2019 with significant capital resources. And in view of this strong position, we're actively considering M&A opportunities and, obviously, other capital management actions. We will be thoughtful in our approach and guided by discipline to ensure that our capital is being deployed in areas that can drive sustainable growth and value for shareholders. In Canada, we will focus on growing and maintaining strong market share positions and harvesting the benefits of our strategic investments, in particular, in technology and digital. This will include extending our reach for our new customers digitally, lowering costs through automation. In the U.S., we will focus on pursuing organic and inorganic growth opportunities in the retirement and asset management markets. And in Europe, we're advancing our U.K. business transformation, completing the Retirement Advantage integration and expanding in the U.K. Retirement Services market. So with that, Michael, I will now open the line for analyst questions.
[Operator Instructions] And the first question is from Sumit Malhotra at Scotia Capital.
Start with you, Paul. I mean, you mentioned right off the top that besides M&A, which you've given us some detail on in the past, other capital management actions are under consideration. I can list a few here that would be on my mind, but I would be just interested to hear it straight from you. What exactly is on that list when you think about some of these nonacquisitive actions you could take?
There's a wide range of capital management actions we can take, and we're actually actively considering all of them. What we really want to do is figure out the most efficient way to get at this. And as I stated before, we can get up the earnings dilution associated with the disposition of the U.S. business. We can get it through M&A or we can get it through other capital management actions. I'm not going to go into a list at this stage and I'm not going to try and handicap which ones really -- we're actively looking out and analyzing these things right now.
All right. So then I'll try one of them. I mean, the most obvious one and one many of your peers have done recently is through the share repurchase program. You did -- post the divestiture, you did refile for your normal course issuer bid. Simply put, Great-West hasn't historically released in a number of years. You haven't been a company that has repurchased a large amount of your own stock. Obviously, you have one very large shareholder. So my direct question to you would be, is there something about the sizable ownership that you're -- that Empower financial has that prevents Great-West from buying back a lot of stock? Or is that not a governing factor?
I would say that we're always thinking about what's the best use of capital. I mean, if you think about where we're at right now, we're -- we've got this strong capital position because we went through a portfolio review. And the reality is, we're going to do what we think is the best way to create long-term value. And we'll consider any and all options, though I wouldn't say there's any particular constraint. We tend -- happen to be in a position of, I'd say, 2 things right now: strong capital; and then the second one is, we do have potential earnings dilution if we don't figure out ways to get that -- put that capital to work. So we're actively looking at those things. But there is a range of options. But I'd say, there's no constraint. We just want to do it in the most efficient and effective way.
Okay. Last one and then I'll requeue. Just wanted to make sure I'm thinking about your -- the benefit to your balance sheet from the divestiture a couple of weeks ago correctly. So you mentioned the $1.6 billion as the transaction value, but it was specifically listed in that release that you had a roughly $500 million of capital release. So when we think about -- then maybe this is more for Garry. When we think about the pro forma balance sheet of Great-West, where do we see this benefit? Is there a $500 million release from capital required that benefits LICAT? Will your holdco cash increase as a result of the sale? What are some of the moving parts here that this transaction brings?
Starting point. I think it was a $400 million -- closer to $400 million capital release. But I'll let Garry speak to this.
I was going to going...
We're doing with U.S. and Canadian currency. So anyways, Garry?
Sure. We've noted today -- we've just clarified it's $1.6 billion of deployable proceeds we've put out. Majority -- this is really freeing up capital that's tied up in our U.S. entities through the statutory reporting. So it's less -- and this is -- recall that while there is some branch business and closed books, it will have a knock-on impact to LICAT. A lot of the impact is outside of LICAT. It's our U.S. entity, so they're governed by risk-based capital rules, the U.S. sale, and U.S. statutory reporting. So that -- how we think of the proceeds is the money that we can use either within our U.S. operations or could we moved back up to the top of the house over time. So it's deployable proceeds rather than having an impact on our LICAT, per se. And I think we also quoted the IFRS potential. I think it's a modest loss on the actual transaction. And that's because -- again, the difference between the U.S. statutory reporting, which these deployable proceeds come from, and then the IFRS loss.
So I'll stop here, Garry. If I heard you right, the bulk of the $1.6 billion will boost your holding company cash, which you quoted to us today at $1 billion.
Yes.
Right. I will -- Yes, go ahead, Paul.
No. I was saying that's correct.
The next question is from Steve Theriault at Eight Capital.
A couple of things from me, but maybe just to start on the clarification side. So you highlighted $72 million of equity market impact this quarter. Garry, I think you said that, that includes the $30 million U.K. tax item. So should we think of that as a $102 million ex that. And then, if you can take a bit of -- I just want to make sure I understand this. Can you take a crack at some of that as seed capital noise, I think, in Putnam. Some of it is lower AUM. Could you hazard a mix of what is sort of onetime from lower equity markets? And what is -- assuming equity, we've had a good rally here in January. But assuming December equity levels, how much of that was more just sort of ongoing and regular?
Yes. So Steve, U.K. -- it's Paul here. You're capturing one of the nuances here because some of this is directly just the income because of lower equity market levels. Some of it is seen in seed capital evaluation and that's going to -- think about that as mark-to-market. As markets come back, we'll have opportunities there. And some of it was also some performance fees. But Garry can give you a bit of a perspective on that.
Yes, sure. So turning to your first question. It is correct to think of it as $102 million. You're doing the math correctly. It's a post-tax number. In terms of the makeup of those items. So as Paul mentioned, some of them -- there's obviously the tax item. That was a onetime recovery. There was a basis change he referenced earlier there. That was a onetime negative. And so you have those two, and they were actually reasonably similar in size. In terms of the seed capital, that's, I think, in total, it was close to that $20 million range. Most of that was in Putnam. There were some pluses or minuses elsewhere. And then we have the experience gain and loss, which I called out, which was a combination of fee income, but also just a decline in some actuarial liabilities we have. Just -- further, one of the basis change. But just the liability to increase on some of our products -- the reinvestment products we have, like guarantees. And so that, of course, as markets improve, we would hope to see that unwind. But obviously, that's -- same with the mark-to-market, you'd hope to see that unwind. So I think the fee income, which is mainly the -- of that overall total, I think the pretax fee income was just under $30 million. So it wasn't a large portion of the overall -- are pretax. A lot of the others were just related to the actual close period market levels. Does that help?
Yes, I think so. I may come back. I'll go through some of those numbers. But moving along. Thanks Gary. A bit unusual -- so looking at your bond portfolios, and particularly what caught my eye is the Canadian bond portfolio. I was noticing that over the last couple of years, for example, the AAA bucket is down about 20%; the BBB bucket is up around 50% and, as a result, it looks like the -- like the BBBs are -- have risen from 15% to 20% of the overall bond portfolio. I'd be interested to hear a little bit about -- like is this yield enhancement at work? Is this a bit higher risk appetite? Is this -- there have been bigger new issuances or you've been participating more in the BBB range. I'd love to just get a little color around what's moving the needle there.
Yes. I'm going to turn that one to Raman Srivastava, our Chief Investment Officer, who can give us some perspective on that.
Sure. So I think to answer your question, you're right. There has been a shift down from AAA to BBB. I think you should think of this in the context of the entire investment portfolio. So if you think of where the opportunities have been in the credit markets, there's been tremendous amount of opportunities in the corporate credit markets following, obviously, the great financial crisis, but obviously other points as well. And what we've tried to do in this shift is capture those opportunities. But do keep in mind, in the context of a balance sheet of investments, which is fairly conservative. So when you think about our real estate investments, our equity investments, this doesn't represent a material shift in risk profile. It's really an opportunity to try and gain incremental income from those opportunities that came through the credit markets.
And it looks like a lot of it is coming through Canada. And I think of the yield enhancement program is off -- is also being pretty impactful in the U.K. division. I guess it's just -- it's been more of a bigger swath of opportunities in Canada.
I mean, each market is different. If you think about the U.K. market, there's been opportunities in local authority transactions where you may not have as many in Canada. The U.S. market is obviously much broader. So in Canada, the greatest opportunity -- one of the bigger opportunities come through the corporate credit markets. But you're right, in every jurisdiction, you'll have varying opportunities that we can access.
Last thing for me is just -- while I'm remembering to go back on the seed capital piece. So for Putnam, it doesn't seem -- it seems to be a little choppier than just equity markets going up and down sometimes. So like if the quarter ended today and we had this nice rally, would you expect a significant portion of that that hit the seed capital from Putnam to reverse in Q1? Or is it not that simple?
Garry?
Sure. I'd certainly expect a good portion of it, maybe it's about half of it, something like that. I mean, the markets have come back approximately halfway, and I actually think if I look at -- I looked at earlier at some of our largest contributing funds. I'm not sort of using a 50% rule of thumb, it was not a law. But I just also -- I mean, these funds aren't just straight into equity markets. I mean, they have different mandates and are designed to perform across a variety of market forces. It just happened that relative to gains we had in 2017, both in the quarter and for the full year, we had quite strong gains in seed capital. In 2018, particularly in the fourth quarter, we had a sharp decline with the market moves. And a lot of the funds moved in unison in the fourth quarter. So certainly, we're seeing some of that come back. I can't expect it on the full amount at this point. And again, it will be mark-to-market again in the first quarter. So we'll see that.
The next question is from Gabriel Dechaine at National Bank.
Just wanted to talk a bit about the inorganic opportunities you're flagging for the U.S. business. So yes, asset management, something involving Putnam, presumably, and we've been talking about that for a number of years. And then the other would be the bulk of your retirement business. In terms of the size of the transactions that we've seen on the retirement business have been on the small side, I believe well under $1 billion each time. Any reason to believe that we could see something bigger on that side of the acquisition front? Or is it really the Putnam that's going to be driving more of a scale acquisition?
Yes. It's Paul. And we're interested in both those markets. Those are both markets where we see the benefits of scale. Obviously, with Putnam, scale can really unlock some strong profitability. So that -- and I've mentioned there before, we're not looking for mega deals there. We would be looking to scale up with something of a like or smaller size. And we think we can unlock a lot of value with that, and so therefore, active. And I know we've been talking about it for a long time and we've actually been active for a long time. And we will continue to be because we see strong potential value there. On the client contribution retirement market, the reality is, we're -- we look at every opportunity that comes along, whether it's large or small. And if you consider -- when we did the J.P. Morgan transaction, that was actually a large transaction in scale relative to the number of participants. And it actually -- it's the good work that Bob Reynolds and Ed Murphy did. That actually was the creation of Empower, which, to us, is a real growth -- potential growth engine. So now, we're in the market. And if it's a small or large, we will look at it. But we'll look at it with discipline. We'll look at it with discipline because, ultimately, we're at a stage now where we're -- you could argue we're at scale. But it is a market that's going to consolidate and we want to be, if not the top player, we want to be a top player in that market. So we think very seriously any M&A opportunity that comes along and we will obviously get close to it and make a decision as to whether we think deploying capital in that is going to create value. So it's -- there's no limit on thinking about large or small, it's whether it can create value.
Okay, then the other capital deployment options. And you alluded to the time we've been spending talking about the Putnam acquisition. Well, here, you got a situation where you're, I suppose, interested in replacing that earnings erosion from the sale of the U.S. business. Is there greater visibility there on the timing, especially when you can offset that let up?
The reality is, we are considering a range of options across M&A and other capital management actions. Obviously, our intention is to take action that's going to help to mitigate the impact of any earnings dilution. And opportunities come when they come, when you actually can consummate a deal and you can move forward on it. So if that happens in the time frame, that's one opportunity. But the reality is, we'll just remain active, looking at all options. Garry?
Yes. I know this is like -- that transaction hasn't actually closed yet. And I think we'd be looking at something -- well, it's in the first half. It'd be close to the middle of the year before that transaction closes. So we are -- we will obviously see the stop period of earnings up till then. And I'll think it through that...
But suffice it to say, we'll take actions when the opportunities arise. It's not -- we're not setting any timetable. We're going to take actions when they arise, but our goal is to try and to mitigate the earnings throughout.
But there's no specific near-term lever you can pull with ease, it's just more opportunity-driven.
You know what, we will -- the reality is, when we conclude on best way forward, most efficient way forward, we'll communicate. That's not where we're at right now.
Okay, and my last one. Just the stupid question here. But on the LICAT ratio. And Garry, you did talk about some of the pieces that drove up the LICAT ratio. Can you go over those again? And then, was any of that temporary, that we could see that normalize or reverse next quarter because it is a big jump?
Yes. So I mentioned in the notes, it was a combination of a couple of these -- one is retained earnings. So hopefully those will reverse out. But currency was a benefit that can move around a bit. But that was not a large impact, but it's a factor. Interestingly enough, equity markets were actually a slight positive there because it's a factor applied to market value. So in that one, I'm hoping that reverses. We'll see that. And then in regards to Empower requirement, that's a -- it's a number of things that have driven that. Partly it's interest rate movements through 2018 relative to some investments and reinsurance actions we took to try and improve our balancing on the LICAT scenario. So that -- again, I don't see that. I mean, we've taken those steps. I don't see that reversing. So that was a good part of the increase. So I know there's some things that are market base-enabled. They will come and go, and then the others are more sticky.
The next question is from Paul Holden at CIBC.
You haven't -- you don't have any questions on U.K. property yet. So why don't I go ahead and ask one on that -- probably one of your favorite topics. And this time I'm not going to ask you about -- I mean, conversations in the past have been focused, I think, on London City center and office property exposure there. But we're hearing a lot of headlines and seeing a lot of stories about manufacturers thinking about closing plants or at least temporarily closing plants and potential layoffs there. So maybe you can talk a little bit more about your exposure to manufacturing outside of London City center and how you think about that risk.
I think we'll start that one with Raman.
Sure. So I think maybe just -- I'll take a step back because again, I'll think of this in the context of our general approach to investing in the U.K. Property echoes the same way we had invested, and that's described earlier, whether it's bonds or mortgages or properties. We take a very diversified and conservative approach. Now that's not to say that we won't have issues. So this will be a challenge for us, like the entire market, going forward. What we've tried to do with respect to property in the U.K. or other places is where we see potential issues. We're active in trying to mitigate those. So that could be via dispositions. It could be via convergence of space into other uses. It could be -- in the mortgage space, obviously it's the strict underwriting and low LTVs. So we have -- we believe the exposure that we have there in the property side is well diversified and we're actively engaged in the -- in managing that. It was -- as Paul mentioned in his notes early on, it was -- it wasn't an impact over Q4. And we expect it'll be a nonsystematic issue going forward.
Arshil, is there anything you'd add to that?
Yes. I think I would point you to Page 25 in the analyst slides where we've sort of set out the mortgage portfolio. The industrial there, other United Kingdom, outside Central London, of $858 million, that's really dominated by distribution centers for grocery retailers and other internet-enabled retailers. So if you're thinking of sort of a secular decline in manufacturing where they're exporting into Europe, that wouldn't be a big feature of our portfolio in the U.K. It is more domestically focused, particularly around the grocery sector. So again, I think we're reasonably confident. Obviously, there is a real downturn. We will see something in that portfolio, but given where we are in the cycle, we are sort of comfortable with how the portfolio is positioned.
And as Arshil pointed out, we've been actively, over time, shifting from the actual retail client-facing outlet to distribution warehouses, because when you think about the shift in retail and the impact of Internet and buy from home, those things are going -- not only are those sustainable, those are growing opportunities.
That's helpful color. I appreciate that. Next question is regarding Empower. So Paul, you've highlighted in the past that we should be following cost per participant and good progress this quarter with it down 6% year-over-year. So wanted a big picture of how you plan to leverage -- I don't know if you want to call it a collective advantage this point, but certainly the progress you've made on cost per participant.
I'll start off for a minute, but then I am going to turn it over to Bob, who can provide a bit more color. The cost per participant is one thing and then, obviously, you've got your revenue per participant. So those -- the difference between those 2 revenues is obviously driven by your fee income and your AUM capture and, ultimately, if you can really turn the business into something that's longer and more sustainable for your IRA rollover capture. So there's a whole bunch of different levers in terms of driving growth and profitability in that business. For me, the cost per participant to a larger extent is the transformative work we've been doing in Empower, which is automating. The reality is, the more you can automate, the more you drive down cost. But you actually drive up service, like the actual service outcomes that result for the participant improve dramatically when they can do everything online. And that's frankly the direction we're going. That actually I think has as much a benefit of a higher margin as it does a higher win rate, because the smaller players who are not automated can't stand -- they can't deliver the same service outcomes. And I'll let Bob Reynolds speak to that though, because I think he's got great insights based on his history of leading that business. Bob?
Yes, Paul. I think automation is a key there, but it's also -- scale helps you here with a fixed cost divided across more participants. And what this does, it allows the business much more flexibility and pricing and competitive pricing. So it is a true advantage in growing the business and providing a better service to people who'll stay -- or with us today.
Perfect. That's exactly what I was looking for. And then final question. From what I've been reading, it sounds like retro session rates are up significantly with Jan '19 renewals. Wondering if you can confirm that and what are the implications for your reinsurance business in 2019, if that's the case?
I think I might turn that one to Arshil Jamal. Arshil?
Thank you, Paul. I think I'd reiterate I think the same thing that we said about a year ago. So we are seeing some movement in the markets on rates and on term. I would like it to be more. So it's still not quite enough to be sustainable over the cycle. There are still some alternate capital providers. But I think the terms that are available in the market now are sort of minimally acceptable from a financial return and risk perspective. So it's a market that we've been in for a long time. And just like last year, this year, in the renewals, we focus much more on risk reduction, as opposed to trying to capture all of the revenue. So we're taking off the opportunity in the marketplace, as those developments are happening, to try to move a little bit further away from the action. 2018 saw again a very elevated level of catastrophe claims across the general insurance industry, both in the United States and in a number of other jurisdictions. So we're comfortable being in that, with the capped program and with exposures that we review with the board every year. But in terms of go-forward expectations, we focus on risk reduction, as opposed to fight and maximize the revenue that we get from that portfolio.
The next question is from Doug Young at Desjardins Capital.
Just wanted to maybe clarify something, Garry. Just the $102 million equity market impact, can you -- and it's probably in the numbers here, but can you just tell how much of that related to the actuarial adjustments?
Garry, this one is for you.
Sure, yes. There were 2 spots where that came in, and these were in the source of earnings. So I'll actually give the pretax numbers, if that's okay.
Sure, yes.
And one would have been -- and as I mentioned earlier, there were actuarial -- just -- the reserve increases on investment had guarantees. Also, there were some -- and we term it actuarial adjustment. It's just reversing previous acquisition expenses that we had deferred. It's just -- when we catch it for recoverability at the new level markets, we have a reversal of some of that recoverability for acquisition expenses. So those were $30 million. And then you had about $45 million from a change to our long-term assumption, which is a small change to our long-term view of the market growth rates. So the 2 actuarial items together were probably just on $75 million, round numbers. Pre-tax.
Okay. And then the seed capital was $20 million I think you mentioned, and then everything else was just the fee income as assets go down and up, which occurs. Is that the correct way to think?
Yes. And there's a number of small little ones. But that's -- basically, you hit on the head in that fee income gains we spoke earlier.
And the tax rate I'd apply to that is the 75?
The tax rates -- the $45 million base that we mentioned was in Canada. So that would be -- that type of -- that would be $33 million actually. And then the other ones were European, which should be a little lower tax rate, probably more between -- close to, I'd say, probably in the 10 to 15 range.
Okay. Fair enough. Okay. And then just going back to the Canadian expenses, Paul. I guess it was a little more elevated than I expected. And you've broke it out that some was related to acquisitions and whatnot and some was on the strategic side. And I guess that you need to make the investments. And those cost saves, that can come down. And client experience, that can benefit. How do we think about where expense -- because you've also put in a cost reduction program. I mean, where should we be thinking of this over the next 1 year to 2 years in terms of growth in expenses. Should that gravitate back down to 5%? I'm just trying to get a sense because it seems to be a little more elevated than I would have anticipated.
Yes, definitely -- now, in particular, this -- you would have seen our expenses are actually fairly flat throughout 2018 and then there's an elevation near the end of the year. And that was some incremental actions. So you obviously had the acquisitions that were in that quarter, not the prior year. So you got 3% there. You had a -- we had a legal matter that was resolved. So that was 5% of it in the quarter. So as we sort of target back, you get to sort of a net of 7% or 8%. And that 7% or 8% really reflected elevated IT investments at the -- in this particular period that were not there a year ago. And I would see us -- I think we're kind of hitting a bit of a higher watermark as it were related to our IT investment. We definitely -- obviously, we're -- we don't see those other one-timers repeating. So if you sort of started off with a 7% or 8% growth, we would see that begin to moderate a bit as we get into 2019. But I think it's important to remember that if the goal is to ultimately win in the market where you're driving down costs and you're differentiating, you've got to make sure that you are doing the things you need to do to win share, to win clients, to digitize and the like. So the idea is our return to 1% or 2% I think would be unwise. I think we've got to make sure that we're finding that right balance. I think that 5%, maybe it's a 6%, in that range, would be an area where we'd likely see ourselves getting to the near term. But ultimately, when we talk about the medium to long-term, we're really looking to have automation and productivity drive out improvements. Jeff, anything you'd add to that?
Thank you, Paul. I'll just add to that. We're looking to move everything we can, and as quickly as we can, to digital. And Paul referenced some of those examples. Our work on Life and Health enrollment, which we've lost -- or will launch, I should say, in the late fall and will move into '19. Our GRS business, we are looking to move much of that to digital. We've talked a fair bit about our Simple Protect and as well as working on adviser workstations. So we're looking at all areas of opportunity to move to digital in '19.
And if I can -- yes, perfect. And if I can sneak one more in. Just on the investments and the credit side. The provisions for credit losses increased -- I think it was $15 million. And about $12 million of that came in Europe. Just -- can you maybe just break down what's that related to? And what are you seeing? Because the credit has been, for the longest time, a nice tailwind. And we're starting to see it a bit of a headwind. Just wanted to get a sense of what you're seeing out there.
I'm going to turn that one to Garry. Garry, do you want to take that?
Sure. Yes, like I said, I'd start just by reiterating this was not related to the U.K. property exposures that we've talked about in Q3. The -- of the impact, a lot of the impact -- of the $70 million overall, $15 million of it was related to the actuarial provisions. So it's -- just to step back. As the bond get downgraded, the default practice that we use in our actuarial reserves increases. And will obviously likewise, if we get upgraded, the factor comes down. There were a number of downgrades. They were mostly in Europe this quarter. But there were really -- there's nothing systemic there. Just across different industries, whether telecom, energy, just -- there's a small number in Canada and the U.S. So there's nothing really -- we just -- we didn't have as many upgrades this quarter, which, in prior results, I mean, we always have some movement in the portfolio. There's always upgrades and downgrades. We just seem to have a larger set of one-off downgrades, just some larger long-term bonds. And of course, these are present-value factors. So if obviously a longer-term holding, they can have a bigger impact. So there's nothing particularly systemic in it. And it was a positive last year. So obviously, there's swing this year. But nothing really more to it than just a few bonds.
Anything you'd add to that, Raman?
Just on the second part of your question there with respect to the cycle in the credit markets. I mean, definitely, we had some volatility, which echo the volatility in the equity markets. The one thing I would point out, though, if you look at what happens, especially in December but as the quarter in general, the biggest amount of volatility in the credit markets occurred in the high-yield space and in the emerging market space. We have very limited exposure to each of those areas. And we do see -- obviously credit conditions have -- and financial conditions have tightened, there is more risk to a credit cycle turn. But I would just echo the comments from before where, as we've come through prior cycles and prior credit crises barely unscathed, we're confident that we've structured the investments here to withstand some of the volatility, especially in those higher [ beta ] parts to the market.
And these are publicly-traded bonds. These aren't the private. These aren't the private?
Yes, that's correct.
[Operator Instructions] And the next question is from Tom MacKinnon at BMO Capital Markets.
Just a couple of questions. Starting with Europe. Expected profits just about the highest we've seen this year. Maybe you can tell us what's happening there and whether the level that you had in the fourth quarter is sustainable going forward. And I got a couple of follow-ups.
Okay. I'll turn that one to Garry. Garry?
Sure. There was some benefit from currency movement. I don't have an exact amount for that. But a lot of this -- in Europe, what you're seeing is we're seeing business growth in -- yes, the currency was actually quite small, $6 million that did up north of there. So what we're seeing there is, each of the areas -- and now just looking across U.K., Ireland, Germany, reinsurance, all saw some year-over-year growth in their businesses. And so this is just -- we've been writing the business in each of those. Germany has been on a good growth trajectory. Ireland continues to do well, reinsurance as well. And the U.K. is, we picked up Retirement Advantage. So that helped step up the expected profit from the Retirement Advantage operations. In addition to that, we are now factoring into our expected profit a higher contribution from some of the longevity experience we've been seeing. So we've increased our expectations there for the time being. So it's just really across the board and reflects the business there.
I mean, you've always been adjusting the reserves and fronting profit for the longevity. How does that work its way back into the expected profit?
We -- at the same time, we -- you are correct that we have actually had some reserve releases over that time. But we've also taken off duty to where we're uncertain of the trend, even though it's looking favorable, but a bit more uncertain. We set up a higher provision within our reserves. So even though we've seen those releases, we have done some of that provisioning as well. We start to expect the profit.
Okay. Just on -- if we can look at the source of earnings and the experience loss of '19 in the quarter, excluding Putnam, that loss is $10 million. So what was driving that loss in this quarter? Maybe you've answered that before, but -- where would the fees be?
Sure. I'll just...
That, you can carry on, Garry. Sorry, go on with your last question.
Yes. I'm just trying to -- was the impact of fees lower, but these are fees excluding Putnam. I think you had mentioned expense is higher. I'm just trying to get the breakdown of those numbers.
So I'll -- sure. We did have the overall equity market declines and the experience losses were $68 million. I think I've noted that on there, of which Putnam would be $10 million of that, as you pointed out. So that's $58 million for all the rest. In terms of Canada, Europe, U.S., the expense and sort of other miscellaneous sort of expense-fee-related matters were almost $40 million. Then we had -- we did our trading gains, both Canada and Europe. Europe we didn't have as many trading gains because we were focused on those permanent assets for the new business, those Q3 bulk annuities. But we still have trading gains at both those jurisdictions and had some smaller positives from the large annuity mortality in that. There was a negative policyholder behavior. Was negative across all 3 regions and totals about $25 million. So that's a number of negatives. And sometimes it bounces around, sometimes it's a lot of positives. This was a bit of a mix, but the equity market was a big factor.
And the expense one of minus $40 million, can you elaborate on that? Are those the additional expense spends?
Yes, these would have been -- a lot of this was some of our U.K. corporate projects related to divesting that block of business that wouldn't be in our regular expected profit. Some of the set-up -- of setting up some of the transformation costs. Again, wouldn't have been in the normal run rate, but we've reaccelerated that work in the fourth quarter. And then there is -- there were some expense shortfalls at Retirement Advantage. So before we're able to integrate. So it's not up to its expected level yet.
Okay. And this $530 million capital release that was mentioned when you sold the -- you talked about selling the U.S. business. Do we think of that as the NAIC RBC capital? So we should be thinking really about -- you have at your disposal $1.6 billion in terms of deployable capital? Was that right?
Yes. You have that exactly right. It's inside the $1.6 billion. It's part of that $1.6 billion is deployable. Exactly.
So all the $1.6 billion is deployable and you just put the $530 million because that was the NAIC RBC capital that you held for.
That was the contribution for that, yes.
Okay. And then finally, what should we be thinking about the tax rate going forward for you guys? I mean, we thought it was supposed to be $15 million. It was a lot lower in this quarter, even would be lower even if we added back the $30 million that you had in the $15 million. So...
Yes. The only thing I'd note on the tax rate -- I mean, we've got the -- you're right. You really have to look at the mix of where we're earning the money. So I mean, we do have different tax rates. The U.K. tax rates have been coming down. And so that -- and we do earn a fair bit in our reinsurance operations. And that's in Barbados, which is lower tax jurisdiction. Ireland, again, lower tax. And we are seeing the benefit now. I think we discussed this in our Q3 call that the German and Irish authorities had resolved their transfer pricing between the 2 countries so that we're now -- most of our German businesses, a lot of it now taxed at the Irish rates. So that's coming through. And then you've got the U.S. rate, has dropped from 35 down to 21. So you are seeing a downward trend. I don't have the exact number because it really does depend where the earnings emerge in a given quarter. But it is trending lower.
The next question is from Darko Mihelic at RBC Capital.
Just a couple of questions with respect to your equity sensitivity. It seems as though it has tripled from last year. And I imagine that -- obviously, the markets were down, but tripling seems a bit high. And I'm just curious, with the sale of the U.S. businesses, does that have any impact there on your equity sensitivity?
Garry can take that -- I'll have Garry provide a little insight into that.
Sure. Part of the sensitivity is the fact that the markets are down. And these things don't move in a straight line. There are some of our products where they go for a long time where they're not -- you don't really have any sensitivity because it's through the range and then you don't get negative credit. When you got lots of cushion, you don't get a negative capital or a negative room. But when you cross over, then you start recording that sensitivity. So some of it is certainly due to that. The sale of the U.S. business won't have a big impact on that in terms of -- and that wouldn't be in the year-end disclosure in any event because that will come when we actually close out the transaction. But that shouldn't have a big impact.
Yes, I think the point I would make, Darko, was that the fee income is a little bit more linear. But when we're talking about whether it was the impact on the reserves-backing investment guarantees or the long-term growth rate assumptions, you -- it's not linear. There may be trigger points where you see that and we just happened to be impacted by those trigger points. And again, as markets come back, there will be potentially a triggering mechanism where that will come back. But right now, this is the impact this quarter.
Yes. The calculation is a bit cyclical because you -- wherever you've got a point in time, you take -- you have the worst of a whole range of scenarios. When you get into a downturn, you then reach that and take the worst of those new scenarios. So it does tend to be -- it does tend to move around quite a bit with the market. It's not linear.
And I guess presumably your appetite for equity risk is relatively high because you're still intending to add to Putnam and effectively try and grow it inorganically. So even this level isn't something that -- I mean, at what stage -- I'm a reverse engineer, I guess. I mean, if you were to make an inorganic acquisition, and given the fact that the sale of the U.S. business does not really have a material impact, at what point do you get uncomfortable with your equity market sensitivity?
Yes, as the starting point, I would say that the -- there's multiple points to a Putnam acquisition. If we were to do a Putnam acquisition, we could unlock a lot of earnings potential. So I would probably trade a little bit more exposure to volatility if we could get the strong earnings potential. And so that's the first step. It's unlock earnings potential, except the fact that there's some -- there is the potential for that volatility. But the other thing I'd note is that the relatively light capital business. So being able to grow a capital-light business that has some essential volatility is something that we would be quite open to. And the other reality is we're constantly thinking about the overall portfolio and having a good balance of capital-light and more capital-heavy businesses. Garry, anything you'd add?
Yes. I point out that the -- certainly, the Putnam type is, I'd say, a mutual fund business or institutional. It's sort of -- you pay as you go. You don't have the actuarial reserve impacts. You don't typically have large deferred acquisition cost balances you have in some of the insurance contracts. So that's why you're getting a lot of the sensitivities in those actuarial aspects. There is a fee income shortened period that's -- it has its ups and downs. But it's not what drives the bulk of the sensitivity. That's more of the actuarial reserve side and the acquisition cost recoverability. There was some of this business in the block where we were divesting, just to be clear, but it was mostly the small block variable annuities that was largely hedged. And so I think there'll be some recoverability and we saw that in the result -- some of acquisition cost, but not large numbers that would have drove the increase.
Okay. That's helpful. And just one last question on Europe for me. I think you mentioned that in Ireland, the bulk annuity sales were off, but this -- it's just an off quarter, right? I mean, from everything that I have been able to tell, it looks like bulk annuities had a really good year in the U.K. And just the softness in Ireland, if that's just a one-off quarter or is there something actually structural happening there?
I'll let Arshil speak to that one.
Yes. So it is largely one-off, but it's not in the current period. I think we called out in 2017 that we had a particularly large single sale in Ireland on the bulk side. So with that -- it contributed favorably in 2017 and that just didn't repeat in 2018.
There are no further questions. This is the end of the question-and-answer session. I would now like to turn the meeting over to Mr. Paul Mahon.
Thank you very much, Michael. With that, I'd like to thank you all for joining us on the call today. Please contact our Investor Relations group if you have any follow-up questions, and we look forward to speaking with you at the end of next -- the first quarter call. Have a great day. Take care.
Thank you. Ladies and gentlemen, your conference has now ended. All callers are asked to hang up their lines at this time, and thank you for joining today's call.